News Column

UNDER ARMOUR, INC. - 10-K - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

February 21, 2014

The information contained in this section should be read in conjunction with our Consolidated Financial Statements and related notes and the information contained elsewhere in this Form 10-K under the captions "Risk Factors," "Selected Financial Data," and "Business." Overview We are a leading developer, marketer and distributor of branded performance apparel, footwear and accessories. The brand's moisture-wicking fabrications are engineered in many different designs and styles for wear in nearly every climate to provide a performance alternative to traditional products. Our products are sold worldwide and worn by athletes at all levels, from youth to professional, on playing fields around the globe, as well as by consumers with active lifestyles. Our net revenues grew to $2,332.1 million in 2013 from $856.4 million in 2009. We believe that our growth in net revenues has been driven by a growing interest in performance products and the strength of the Under Armour brand in the marketplace. We plan to continue to increase our net revenues over the long term by increased sales of our apparel, footwear and accessories, expansion of our wholesale distribution sales channel, growth in our direct to consumer sales channel and expansion in international markets. Our direct to consumer sales channel includes our brand and factory house stores and websites. New offerings for 2013 include UA COLDGEAR® Infrared and UA HEATGEAR® Sonic apparel, UA SpeedFormTM and UA SpineTM Venom running footwear, and the ARMOUR39TM performance monitoring and tracking system. A large majority of our products are sold in North America; however, we believe our products appeal to athletes and consumers with active lifestyles around the globe. Internationally, our net revenues are generated from a mix of wholesale sales to retailers, sales to distributors and sales through our direct to consumer sales channels in over fifteen countries in Europe, Latin America, and Asia. In addition, a third party licensee sells our products in Japan and Korea. We hold a minority investment in our licensee in Japan. Our operating segments include North America; Latin America; Europe, the Middle East and Africa ("EMEA"); Asia; and MapMyFitness. Due to the insignificance of the EMEA, Latin America, Asia and MapMyFitness operating segments, they have been combined into other foreign countries and businesses for disclosure purposes. We believe there is an increasing recognition of the health benefits of an active lifestyle. We believe this trend provides us with an expanding consumer base for our products. We also believe there is a continuing shift in consumer demand from traditional non-performance products to performance products, which are intended to provide better performance by wicking perspiration away from the skin, helping to regulate body temperature and enhancing comfort. We believe that these shifts in consumer preferences and lifestyles are not unique to the United States, but are occurring in a number of markets globally, thereby increasing our opportunities to introduce our performance products to new consumers. We plan to continue to grow our business over the long term through increased sales of our apparel, footwear and accessories, expansion of our wholesale distribution, growth in our direct to consumer sales channel and expansion in international markets. Although we believe these trends will facilitate our growth, we also face potential challenges that could limit our ability to take advantage of these opportunities, including, among others, the risk of general economic or market conditions that could affect consumer spending and the financial health of our retail customers. In addition, we may not be able to effectively manage our growth and a more complex global business. We may not consistently be able to anticipate consumer preferences and develop new and innovative products that meet changing preferences in a timely manner. Furthermore, our industry is very competitive, and competition pressures could cause us to reduce the prices of our products or otherwise affect our profitability. We also rely on third-party suppliers and manufacturers outside the U.S. to provide fabrics and to produce our products, and disruptions to our supply chain could harm our business. For a more complete discussion of the risks facing our business, refer to the "Risk Factors" section included in Item 1A. General Net revenues comprise both net sales and license and other revenues. Net sales comprise sales from our primary product categories, which are apparel, footwear and accessories. Our license and other revenues primarily consist of fees paid to us by our licensees in exchange for the use of our trademarks on core products of socks, team uniforms, baby and kids' apparel, eyewear, inflatable footballs and basketballs, as well as the distribution of our products in Japan. Cost of goods sold consists primarily of product costs, inbound freight and duty costs, outbound freight costs, handling costs to make products floor-ready to customer specifications, royalty payments to endorsers based on a predetermined 24



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percentage of sales of selected products and write downs for inventory obsolescence. The fabrics in many of our products are made primarily of petroleum-based synthetic materials. Therefore our product costs, as well as our inbound and outbound freight costs, could be affected by long term pricing trends of oil. In general, as a percentage of net revenues, we expect cost of goods sold associated with our apparel and accessories to be lower than that of our footwear. No cost of goods sold is associated with license revenues. We include outbound freight costs associated with shipping goods to customers as cost of goods sold; however, we include the majority of outbound handling costs as a component of selling, general and administrative expenses. As a result, our gross profit may not be comparable to that of other companies that include outbound handling costs in their cost of goods sold. Outbound handling costs include costs associated with preparing goods to ship to customers and certain costs to operate our distribution facilities. These costs were $46.1 million, $34.8 million and $26.1 million for the years ended December 31, 2013, 2012 and 2011, respectively. Our selling, general and administrative expenses consist of costs related to marketing, selling, product innovation and supply chain and corporate services. Personnel costs are included in these categories based on the employees' function. Personnel costs include salaries, benefits, incentives and stock-based compensation related to our employees. Our marketing costs are an important driver of our growth. Marketing costs consist primarily of commercials, print ads, league, team, player and event sponsorships and depreciation expense specific to our in-store fixture program for our concept shops. Selling costs consist primarily of costs relating to sales through our wholesale channel, commissions paid to third parties and the majority of our direct to consumer sales channel costs, including the cost of brand and factory house store leases. Product innovation and supply chain costs include our apparel, footwear and accessories product innovation, sourcing and development costs, distribution facility operating costs, and costs relating to our Hong Kong and Guangzhou, China offices which help support product development, manufacturing, quality assurance and sourcing efforts. Corporate services primarily consist of corporate facility operating costs and company-wide administrative expenses. Other expense, net consists of unrealized and realized gains and losses on our foreign currency derivative financial instruments and unrealized and realized gains and losses on adjustments that arise from fluctuations in foreign currency exchange rates relating to transactions generated by our international subsidiaries. Results of Operations The following table sets forth key components of our results of operations for the periods indicated, both in dollars and as a percentage of net revenues: Year Ended December 31, (In thousands) 2013 2012 2011 Net revenues $ 2,332,051$ 1,834,921$ 1,472,684 Cost of goods sold 1,195,381 955,624 759,848 Gross profit 1,136,670 879,297 712,836 Selling, general and administrative expenses 871,572 670,602 550,069 Income from operations 265,098 208,695 162,767 Interest expense, net (2,933 ) (5,183 ) (3,841 ) Other expense, net (1,172 ) (73 ) (2,064 ) Income before income taxes 260,993 203,439 156,862 Provision for income taxes 98,663 74,661 59,943 Net income $ 162,330$ 128,778$ 96,919 25



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Year Ended December 31, (As a percentage of net revenues) 2013 2012 2011 Net revenues 100.0 % 100.0 % 100.0 % Cost of goods sold 51.3 52.1 51.6 Gross profit 48.7 47.9 48.4 Selling, general and administrative expenses 37.3 36.5 37.3 Income from operations 11.4 11.4 11.1 Interest expense, net (0.1 ) (0.3 ) (0.3 ) Other expense, net (0.1 ) - (0.1 ) Income before income taxes 11.2 11.1 10.7 Provision for income taxes 4.2 4.1 4.1 Net income 7.0 % 7.0 % 6.6 % Consolidated Results of Operations Year Ended December 31, 2013 Compared to Year Ended December 31, 2012 Net revenues increased $497.2 million, or 27.1%, to $2,332.1 million in 2013 from $1,834.9 million in 2012. Net revenues by product category are summarized below: Year Ended December 31, (In thousands) 2013 2012 $ Change % Change Apparel $ 1,762,150$ 1,385,350$ 376,800 27.2 % Footwear 298,825 238,955 59,870 25.1 Accessories 216,098 165,835 50,263 30.3 Total net sales 2,277,073 1,790,140 486,933 27.2 License and other revenues 54,978 44,781 10,197 22.8 Total net revenues $ 2,332,051$ 1,834,921$ 497,130 27.1 % Net sales increased $487.0 million, or 27.2%, to $2,277.1 million in 2013 from $1,790.1 million in 2012 as noted in the table above. The increase in net sales primarily reflects: • $176.8 million, or 33.2%, increase in direct to consumer sales, which includes 18 additional retail stores, or a 16.5% growth, since December 31, 2012, and continued growth in our ecommerce business; • unit growth driven by increased distribution and new



offerings in

multiple product categories, most significantly in our



training and

hunting apparel product categories, including our new UA



HEATGEAR®

Sonic and UA COLDGEAR® Infrared product lines along with



continued

growth in our UA Storm and Charged Cotton® platforms, and



running

apparel and footwear, including UA Spine; and • increased average selling prices driven primarily from our



higher

priced apparel products, including our mountain category and



women's

UA Studio line. License and other revenues increased $10.2 million, or 22.8%, to $55.0 million in 2013 from $44.8 million in 2012. This increase in license and other revenues was primarily a result of increased distribution and continued unit volume growth by our licensees. Gross profit increased $257.4 million to $1,136.7 million in 2013 from $879.3 million in 2012. Gross profit as a percentage of net revenues, or gross margin, increased 80 basis points to 48.7% in 2013 compared to 47.9% in 2012. The increase in gross margin percentage was primarily driven by the following: • approximate 60 basis point increase driven by sales mix. The



sales

mix impact was primarily driven by decreased sales mix of



excess

inventory through our factory house outlet stores at lower



prices,

along with a lower proportion of North American wholesale



footwear

sales. We expect the North American wholesale footwear



proportion of

sales will increase during the first half of 2014 driving a negative sales mix impact; and • approximate 50 basis point increase driven by lower North American apparel and accessories product input costs. We expect North American wholesale product input costs will continue to positively impact year over year margins during the first half of 2014, but on a more limited basis. 26



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The above increases were partially offset by the below decrease: • approximate 20 basis point decrease as a result of higher duty costs on certain products previously imported, which were identified and reserved for during the third quarter of 2013. We do not expect this negative impact will continue in 2014. Selling, general and administrative expenses increased $201.0 million to $871.6 million in 2013 from $670.6 million in 2012. As a percentage of net revenues, selling, general and administrative expenses increased to 37.3% in 2013 from 36.5% in 2012. These changes were primarily attributable to the following: • Marketing costs increased $41.1 million to $246.5 million in



2013

from $205.4 million in 2012 primarily due to increased



sponsorship

of collegiate and professional teams and athletes and



marketing to

support our international expansion. As a percentage of net revenues, marketing costs decreased to 10.5% in 2013 from



11.2% in

2012. • Selling costs increased $63.9 million to $239.9 million in



2013 from

$176.0 million in 2012. This increase was primarily due to



higher

personnel and other costs incurred primarily for the continued expansion of our direct to consumer distribution channel. As a percentage of net revenues, selling costs increased to 10.3%



in 2013

from 9.6% in 2012. • Product innovation and supply chain costs increased $50.7



million to

$209.2 million in 2013 from $158.5 million in 2012 primarily



due to

higher incentive compensation as well as higher personnel



costs to

support our growth in net revenues. As a percentage of net



revenues,

product innovation and supply chain costs increased to 9.0% in 2013 from 8.6% in 2012. • Corporate services costs increased $45.3 million to $176.0 million in 2013 from $130.7 million in 2012. This increase was



primarily

attributable to higher incentive compensation as well as higher corporate personnel costs necessary to support our growth. As a percentage of net revenues, corporate services costs increased to 7.5% in 2013 from 7.1% in 2012. Income from operations increased $56.4 million, or 27.0%, to $265.1 million in 2013 from $208.7 million in 2012. Income from operations as a percentage of net revenues remained unchanged at 11.4% in 2013 and 2012. Interest expense, net decreased $2.3 million to $2.9 million in 2013 from $5.2 million in 2012. This decrease was primarily due to the refinancing in December 2012 of the debt assumed in connection with the acquisition of our corporate headquarters. Other expense, net increased $1.1 million to $1.2 million in 2013 from $0.1 million in 2012. This increase was due to higher net losses in 2013 on the combined foreign currency exchange rate changes on transactions denominated in foreign currencies and our foreign currency derivative financial instruments as compared to 2012. Provision for income taxes increased $24.0 million to $98.7 million in 2013 from $74.7 million in 2012. Our effective tax rate was 37.8% in 2013 compared to 36.7% in 2012. Our effective tax rate for 2013 was higher than the effective tax rate for 2012 primarily due to increased foreign investments driving a lower proportion of foreign taxable income, along with increased non-deductible expenses, including acquisition related expenses, in the current year. Year Ended December 31, 2012 Compared to Year Ended December 31, 2011 Net revenues increased $362.2 million, or 24.6%, to $1,834.9 million in 2012 from $1,472.7 million in 2011. Net revenues by product category are summarized below: Year Ended December 31, (In thousands) 2012 2011 $ Change % Change Apparel $ 1,385,350$ 1,122,031$ 263,319 23.5 % Footwear 238,955 181,684 57,271 31.5 Accessories 165,835 132,400 33,435 25.3



Total net sales 1,790,140 1,436,115 354,025 24.7 License revenues 44,781 36,569 8,212 22.5 Total net revenues $ 1,834,921$ 1,472,684$ 362,237 24.6 %

Net sales increased $354.0 million, or 24.7%, to $1,790.1 million in 2012 from $1,436.1 million in 2011 as noted in the table above. The increase in net sales primarily reflects: 27



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$134.7 million, or 33.8%, increase in direct to consumer



sales,

which includes 22 additional factory house stores, or a 27.5% increase, since December 31, 2011; and • unit growth driven by increased distribution and new



offerings in

multiple product categories, most significantly in our training, hunting, running, baselayer and studio apparel product categories and running footwear category, including the launch of coldblack apparel, Armour Bra and Under Armour scent control products and our UA Spine footwear; and • increased average selling prices due to a higher mix in the current year period of direct to consumer sales, along with increasing sales of our higher priced products such as Fleece, our women's UA Studio line and UA Spine footwear. License revenues increased $8.2 million, or 22.5%, to $44.8 million in 2012 from $36.6 million in 2011. This increase in license revenues was a result of increased distribution and continued unit volume growth by our licensees. Gross profit increased $166.5 million to $879.3 million in 2012 from $712.8 million in 2011. Gross profit as a percentage of net revenues, or gross margin, decreased 50 basis points to 47.9% in 2012 compared to 48.4% in 2011. The decrease in gross margin percentage was primarily driven by the following: • approximate 35 basis point decrease driven by sales mix. The sales mix impact was partially driven by increased sales of excess inventory through our factory house stores at lower prices, along with a larger proportion of footwear sales, primarily due to new 2012 running styles and growth within our cleated shoe sales; and • approximate 25 basis point decrease driven by higher inbound freight, partially due to supply chain challenges, required to meet customer demand. The above decreases were partially offset by the below increase: • approximate 20 basis point increase driven primarily by lower North American apparel product input costs, partially offset by higher North American accessories and footwear input costs. Selling, general and administrative expenses increased $120.5 million to $670.6 million in 2012 from $550.1 million in 2011. As a percentage of net revenues, selling, general and administrative expenses decreased to 36.5% in 2012 from 37.3% in 2011. These changes were primarily attributable to the following: • Marketing costs increased $37.5 million to $205.4 million in 2012 from $167.9 million in 2011 primarily due to increased marketing campaigns for key apparel and footwear launches in 2012 and sponsorship of collegiate and professional teams and



athletes,

including Tottenham Hotspur Football Club. As a percentage of net revenues, marketing costs decreased slightly to 11.2% in 2012 from 11.4% in 2011. • Selling costs increased $37.2 million to $176.0 million in



2012 from

$138.8 million in 2011. This increase was primarily due to



higher

personnel and other costs incurred primarily for the continued expansion of our direct to consumer distribution channel. As a percentage of net revenues, selling costs increased slightly



to 9.6%

in 2012 from 9.4% in 2011. • Product innovation and supply chain costs increased $29.4



million to

$158.5 million in 2012 from $129.1 million in 2011 primarily due to higher distribution facilities operating and personnel costs to support our growth in net revenues and higher personnel costs for the design and sourcing of our expanding apparel, footwear and accessory lines. As a percentage of net revenues, product



innovation

and supply chain costs decreased slightly to 8.6% in 2012 from 8.8% in 2011. • Corporate services costs increased $16.4 million to $130.7 million in 2012 from $114.3 million in 2011. This increase was



primarily

attributable to higher corporate personnel cost and



information

technology initiatives necessary to support our growth. As a percentage of net revenues, corporate services costs decreased to 7.1% in 2012 from 7.7% in 2011 primarily due to decreased corporate personnel costs as a percentage of net revenues in 2012. Income from operations increased $45.9 million, or 28.2%, to $208.7 million in 2012 from $162.8 million in 2011. Income from operations as a percentage of net revenues increased to 11.4% in 2012 from 11.1% in 2011. This increase was a result of the items discussed above. Interest expense, net increased $1.4 million to $5.2 million in 2012 from $3.8 million in 2011. This increase was primarily due to a full year of interest on the debt related to the acquisition of our corporate headquarters in 2012 as compared to 2011. 28



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Other expense, net decreased $2.0 million to $0.1 million in 2012 from $2.1 million in 2011. This decrease was due to lower net losses in 2012 on the combined foreign currency exchange rate changes on transactions denominated in foreign currencies and our foreign currency derivative financial instruments as compared to 2011. Provision for income taxes increased $14.8 million to $74.7 million in 2012 from $59.9 million in 2011. Our effective tax rate was 36.7% in 2012 compared to 38.2% in 2011, primarily due to state tax credits received in 2012. Segment Results of Operations The net revenues and operating income (loss) associated with our segments are summarized in the following tables. The majority of corporate expenses within North America have not been allocated to other foreign countries and businesses. Certain corporate services costs, previously included within North America, have been allocated to other foreign countries and businesses. Prior period segment data has been recast within the tables to conform to current year presentation. Year Ended December 31, 2013 Compared to Year Ended December 31, 2012 Net revenues by segment are summarized below: Year Ended December 31, (In thousands) 2013 2012 $ Change % Change North America $ 2,193,739$ 1,726,733$ 467,006 27.0 % Other foreign countries and businesses 138,312 108,188 30,124 27.8 Total net revenues $ 2,332,051$ 1,834,921$ 497,130 27.1 % Net revenues in our North American operating segment increased $467.0 million to $2,193.7 million in 2013 from $1,726.7 million in 2012 primarily due to the items discussed above in the Consolidated Results of Operations. Net revenues in other foreign countries and businesses increased by $30.1 million to $138.3 million in 2013 from $108.2 million in 2012 primarily due to unit sales growth in our EMEA and Asia operating segments and to distributors in our Latin American operating segment. Operating income (loss) by segment is summarized below: Year Ended December 31, (In thousands) 2013 2012 $ Change % Change North America $ 271,338$ 200,084$ 71,254 35.6 % Other foreign countries and businesses (6,240 ) 8,611 (14,851 ) (172.5 ) Total operating income $ 265,098$ 208,695$ 56,403 27.0 % Operating income in our North American operating segment increased $71.2 million to $271.3 million in 2013 from $200.1 million in 2012 primarily due to the items discussed above in the Consolidated Results of Operations. Operating income (loss) in other foreign countries and businesses decreased by $14.8 million to $(6.2) million in 2013 from $8.6 million in 2012 primarily due to our continued investment to support our international expansion in our EMEA, Asia and Latin American operating segments. Investments in 2013 primarily include the opening of brand and factory house stores in China and offices and distribution facilities in Brazil and Chile, along with higher personnel costs and incentive compensation. Year Ended December 31, 2012 Compared to Year Ended December 31, 2011 Net revenues by segment are summarized below: Year Ended December 31, (In thousands) 2012 2011 $ Change % Change North America $ 1,726,733$ 1,383,346$ 343,387 24.8 % Other foreign countries 108,188 89,338 18,850 21.1 Total net revenues $ 1,834,921$ 1,472,684$ 362,237 24.6 % Net revenues in our North American operating segment increased $343.4 million to $1,726.7 million in 2012 from $1,383.3 million in 2011 primarily due to the items discussed above in the Consolidated Results of Operations. Net revenues in other foreign countries increased by $18.9 million to $108.2 million in 2012 from $89.3 million in 2011 primarily due to unit 29



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sales growth to distributors in our Latin American operating segment and in our EMEA operating segment, as well as increased license revenues from our Japanese licensee.



Operating income by segment is summarized below:

Year Ended December 31, (In thousands) 2012 2011 $ Change % Change North America $ 200,084$ 150,559$ 49,525 32.9 % Other foreign countries 8,611 12,208 (3,597 ) (29.5 ) Total operating income $ 208,695$ 162,767$ 45,928 28.2 % Operating income in our North American operating segment increased $49.5 million to $200.1 million in 2012 from $150.6 million in 2011 primarily due to the items discussed above in the Consolidated Results of Operations. Operating income in other foreign countries decreased by $3.6 million to $8.6 million in 2012 from $12.2 million in 2011 primarily due to higher costs associated with our continued investment to support our international expansion in our EMEA and Latin American operating segment, partially offset by unit sales growth and increased license revenues from our Japanese licensee as discussed above. Seasonality Historically, we have recognized a majority of our net revenues and a significant portion of our income from operations in the last two quarters of the year, driven primarily by increased sales volume of our products during the fall selling season, including our higher priced cold weather products, along with a larger proportion of higher margin direct to consumer sales. The level of our working capital generally reflects the seasonality and growth in our business. We generally expect inventory, accounts payable and certain accrued expenses to be higher in the second and third quarters in preparation for the fall selling season. The following table sets forth certain financial information for the periods indicated. The data is prepared on the same basis as the audited consolidated financial statements included elsewhere in this Form 10-K. All recurring, necessary adjustments are reflected in the data below.



Quarter Ended (In thousands) Mar 31, 2013Jun 30, 2013Sep 30, 2013Dec 31, 2013Mar 31, 2012Jun 30, 2012Sep 30, 2012Dec 31, 2012 Net revenues

$471,608$454,541$723,146



$682,756$384,389$369,473$575,196$505,863 Gross profit

216,551 219,631 350,135 350,353 175,204 169,467 280,391 254,235 Marketing SG&A expenses 62,841 48,952 74,175 60,521 44,167 46,651 65,629 48,929 Other SG&A expenses 140,218 138,369 155,131 191,365 106,634 111,096 123,782 123,714 Income from operations 13,492 32,310 120,829 98,467 24,403 11,720 90,980 81,592 (As a percentage of annual totals) Net revenues 20.2 % 19.5 % 31.0 % 29.3 % 20.9 % 20.1 % 31.4 % 27.6 % Gross profit 19.1 % 19.3 % 30.8 % 30.8 % 19.9 % 19.3 % 31.9 % 28.9 % Marketing SG&A expenses 25.4 % 19.9 % 30.1 % 24.6 % 21.5 % 22.7 % 32.0 % 23.8 % Other SG&A expenses 22.4 % 22.2 % 24.8 % 30.6 % 22.9 % 23.9 % 26.6 % 26.6 % Income from operations 5.1 % 12.2 % 45.6 % 37.1 % 11.7 % 5.6 % 43.6 % 39.1 % Financial Position, Capital Resources and Liquidity Our cash requirements have principally been for working capital and capital expenditures. We fund our working capital, primarily inventory, and capital investments from cash flows from operating activities, cash and cash equivalents on hand and borrowings available under our credit and long term debt facilities. Our working capital requirements generally reflect the seasonality and growth in our business as we recognize the majority of our net revenues in the back half of the year. Our capital investments have included expanding our in-store fixture and branded concept shop program, improvements and expansion of our distribution and corporate facilities to support our growth, leasehold improvements to our new brand and factory house stores, and investment and improvements in information technology systems. Our inventory strategy is focused on continuing to meet consumer demand while improving our inventory efficiency over the long term by putting systems and processes in place to improve our inventory management. These systems and processes 30



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are designed to improve our forecasting and supply planning capabilities. In addition to systems and processes, key areas of focus that we believe will enhance inventory performance are added discipline around the purchasing of product, production lead time reduction, and better planning and execution in selling of excess inventory through our factory house stores and other liquidation channels. In December 2013, we completed the acquisition of MapMyFitness. The purchase price was initially funded through $50.0 million cash on hand and $100.0 million borrowings available under our existing credit facility. We believe our cash and cash equivalents on hand, cash from operations and borrowings available to us under our credit and long term debt facilities are adequate to meet our liquidity needs and capital expenditure requirements for at least the next twelve months. We continue to evaluate longer term funding options for our acquisition of MapMyFitness, as well as potential sources of liquidity to support future growth needs. Although we believe we have adequate sources of liquidity over the long term, an economic recession or a slow recovery could adversely affect our business and liquidity (refer to the "Risk Factors" section included in Item 1A). In addition, instability in or tightening of the capital markets could adversely affect our ability to obtain additional capital to grow our business and will affect the cost and terms of such capital. Cash Flows The following table presents the major components of net cash flows used in and provided by operating, investing and financing activities for the periods presented: Year Ended December 31, (In thousands) 2013 2012 2011 Net cash provided by (used in): Operating activities $ 120,070$ 199,761$ 15,218 Investing activities (238,102 ) (46,931 ) (89,436 ) Financing activities 126,795 12,297 45,807 Effect of exchange rate changes on cash and cash equivalents (3,115 ) 1,330 (75 ) Net increase (decrease) in cash and cash equivalents $ 5,648$ 166,457$ (28,486 ) Operating Activities Operating activities consist primarily of net income adjusted for certain non-cash items. Adjustments to net income for non-cash items include depreciation and amortization, unrealized foreign currency exchange rate gains and losses, losses on disposals of property and equipment, stock-based compensation, deferred income taxes and changes in reserves and allowances. In addition, operating cash flows include the effect of changes in operating assets and liabilities, principally inventories, accounts receivable, income taxes payable and receivable, prepaid expenses and other assets, accounts payable and accrued expenses. Cash provided by operating activities decreased $79.7 million to $120.1 million in 2013 from $199.8 million in 2012. The decrease in cash provided by operating activities was due to decreased net cash flows from operating assets and liabilities of $142.4 million, partially offset by an increase in net income of $33.6 million and adjustments to net income for non-cash items, which increased $29.1 million year over year. The increase in net cash flows related to changes in operating assets and liabilities period over period was primarily driven by the following: • an increase in inventory investments of $161.6 million. Inventory grew in 2013 at a rate higher than revenue growth primarily due to supplier delivery challenges experienced in the prior year period, early deliveries of product in the current period to manage supplier capacity and improve fill rates, along with incremental inventory investments to support our growing international and direct to consumer businesses. This increase was also partially offset by: • a larger increase in accrued expenses and other liabilities of $34.5 million in 2013 as compared to 2012, primarily due to higher accruals for our performance incentive plan as compared to the prior period. Adjustments to net income for non-cash items increased in 2013 as compared to 2012 primarily due to an increase in stock-based compensation and higher depreciation and amortization in 2013 as compared to 2012. Cash provided by operating activities increased $184.6 million to $199.8 million in 2012 from $15.2 million in 2011. The increase in cash provided by operating activities was due to increased net cash flows from operating assets and liabilities of $155.0 million and an increase in net income of $32.0 million, partially offset by adjustments to net income for non-cash items 31



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which decreased $2.4 million year over year. The increase in net cash flows related to changes in operating assets and liabilities period over period was primarily driven by the following: • a decrease in inventory investments of $119.3 million



primarily

driven by success around our inventory management initiatives,



along

with delays in product receipts due to certain supplier



challenges;

and • a larger decrease in prepaid expenses and other assets of $38.6 million in 2012 as compared to 2011, primarily due to income taxes paid during 2011 related to our tax planning strategies currently being recognized in income tax expense and timing of payments for our marketing investments. Adjustments to net income for non-cash items decreased in 2012 as compared to 2011 primarily due to an increase in deferred taxes in 2012 as compared to a decrease in deferred taxes in 2011. Investing Activities Cash used in investing activities increased $191.2 million to $238.1 million in 2013 from $46.9 million in 2012. This increase in cash used in investing activities was primarily related to the purchase of MapMyFitness in December 2013 and increased capital expenditures to improve and expand our offices and distribution facilities, along with brand and factory house openings and expansions in 2013, as compared to 2012. Cash used in investing activities decreased $42.5 million to $46.9 million in 2012 from $89.4 million in 2011. This decrease in cash used in investing activities was primarily due to the acquisition of our corporate headquarters in 2011. In addition, in connection with the assumed loan for the acquisition of our corporate headquarters, we were required to set aside $5.0 million in restricted cash. This cash became unrestricted upon repayment of the assumed loan in December 2012. Total capital expenditures were $91.6 million, $62.8 million and $115.4 million in 2013, 2012 and 2011, respectively, which includes the acquisition of our corporate headquarters and other related expenditures in 2011. Capital expenditures for 2014 are expected to be in the range of $140 million to $150 million, primarily driven by incremental investments to support our direct to consumer and international businesses and further develop and expand our global office footprint. Financing Activities Cash provided by financing activities increased $114.5 million to $126.8 million in 2013 from $12.3 million in 2012. This increase was primarily due to $100.0 million borrowed under our revolving credit facility to partially fund the acquisition of MapMyFitness. Cash provided by financing activities decreased $33.5 million to $12.3 million in 2012 from $45.8 million in 2011. This decrease was primarily due to the repayment of the loan assumed in connection with the acquisition of our corporate headquarters in 2011 and the repayment of the term loan under the credit facility, partially offset by the $50.0 million loan borrowed in December 2012. Credit Facility The Company has a credit facility with certain lending institutions. The credit facility has a term of four years through March 2015 and provides for a committed revolving credit line of up to $300.0 million. The commitment amount under the revolving credit facility may be increased by an additional $50.0 million, subject to certain conditions and approvals as set forth in the credit agreement. The credit facility may be used for working capital and general corporate purposes and is secured by a first priority lien on substantially all of our assets and the assets of certain of our domestic subsidiaries (other than trademarks and the land and buildings comprising our corporate headquarters) and by a pledge of the equity interests of certain of our domestic subsidiaries and 65% of the equity interests of certain of our foreign subsidiaries. Up to $5.0 million of the facility may be used to support letters of credit, of which none were outstanding as of December 31, 2013. We are required to maintain a certain leverage ratio and interest coverage ratio as set forth in the credit agreement. As of December 31, 2013, we were in compliance with these ratios. The credit agreement also provides the lenders with the ability to reduce the borrowing base, even if we are in compliance with all conditions of the credit agreement, upon a material adverse change to the business, properties, assets, financial condition or results of operations. The credit agreement contains a number of restrictions that limit our ability, among other things, and subject to certain limited exceptions, to incur additional indebtedness, pledge our assets as security, guaranty obligations of third parties, make investments, undergo a merger or consolidation, dispose of assets, or materially change our line of business. In addition, the credit agreement includes a cross default provision whereby an event of default under other debt obligations, as defined in the credit agreement, will be considered an event of default under the credit agreement. 32



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Borrowings under the credit facility bear interest based on the daily balance outstanding at LIBOR (with no rate floor) plus an applicable margin (varying from 1.25% to 1.75%) or, in certain cases a base rate (based on a certain lending institution's Prime Rate or as otherwise specified in the credit agreement, with no rate floor) plus an applicable margin (varying from 0.25% to 0.75%). The credit facility also carries a commitment fee equal to the unused borrowings multiplied by an applicable margin (varying from 0.25% to 0.35%). The applicable margins are calculated quarterly and vary based on our leverage ratio as set forth in the credit agreement. During the three months ended December 31, 2013, we borrowed $100.0 million under the revolving credit facility to partially fund the acquisition of MapMyFitness. The interest rate under the revolving credit facility was 1.5% during the three months ended December 31, 2013. No balance was outstanding under the revolving credit facility as of December 31, 2012. Long Term Debt We have long term debt agreements with various lenders to finance the acquisition or lease of qualifying capital investments. Loans under these agreements are collateralized by a first lien on the related assets acquired. As these agreements are not committed facilities, each advance is subject to approval by the lenders. Additionally, these agreements include a cross default provision whereby an event of default under other debt obligations, including our credit facility, will be considered an event of default under these agreements. These agreements require a prepayment fee if we pay outstanding amounts ahead of the scheduled terms. The terms of the credit facility limit the total amount of additional financing under these agreements to $40.0 million, of which $18.0 million was available for additional financing as of December 31, 2013. At December 31, 2013 and 2012, the outstanding principal balance under these agreements was $4.9 million and $11.9 million, respectively. Currently, advances under these agreements bear interest rates which are fixed at the time of each advance. The weighted average interest rates on outstanding borrowings were 3.3%, 3.7% and 3.5% for the years ended December 31, 2013, 2012 and 2011, respectively. In July 2011, in connection with the acquisition of our corporate headquarters, we assumed a $38.6 million nonrecourse loan secured by a mortgage on the acquired property. The assumed loan had an original term of approximately 10 years with a scheduled maturity date of March 2013. The loan included a balloon payment of $37.3 million due at maturity. The assumed loan was nonrecourse with the lender's remedies for non-performance limited to action against the acquired property and certain required reserves and a cash collateral account, except for nonrecourse carve outs related to fraud, breaches of certain representations, warranties or covenants, including those related to environmental matters, and other standard carve outs for a loan of this type. The loan required certain minimum cash flows and financial results from the property, and if those requirements were not met, additional reserves may have been required. The assumed loan required prior approval of the lender for certain matters related to the property, including material leases, changes to property management, transfers of any part of the property and material alterations to the property. The loan had an interest rate of 6.73%. In December 2012, we repaid the remaining balance of the assumed nonrecourse loan of $37.7 million and entered into a $50.0 million recourse loan collateralized by the land, buildings and tenant improvements comprising our corporate headquarters. The loan has a seven year term and maturity date of December 2019. The loan bears interest at one month LIBOR plus a margin of 1.50%, and allows for prepayment without penalty. We are required to maintain the same leverage ratio and interest coverage ratio as set forth in our credit facility. As of December 31, 2013, we were in compliance with these ratios. The loan contains a number of restrictions that limit our ability, among other things, and subject to certain limited exceptions, to incur additional indebtedness, pledge our assets as a security, guaranty obligations of third parties, make investments, undergo a merger or consolidation, dispose of assets, or materially change our line of business. The loan requires prior approval of the lender for certain matters related to the property, including transfers of any interest in the property. In addition, the loan includes a cross default provision similar to the cross default provision in the credit facility discussed above. As of December 31, 2013 and 2012, the outstanding balance on the loan was $48.0 million and $50.0 million, respectively. The weighted average interest rate on the loan was 1.7% for the years ended December 31, 2013 and 2012. We monitor the financial health and stability of the lenders under the revolving credit and long term debt facilities, however during any period of significant instability in the credit markets lenders could be negatively impacted in their ability to perform under these facilities. Acquisitions MapMyFitness On December 6, 2013, we acquired 100% of the outstanding equity of MapMyFitness, Inc., a digital connected fitness platform, for $150.0 million in cash, subject to adjustment for final working capital. The purchase price was financed through $100.0 million in debt under our existing revolving credit facility and cash on hand. Through this acquisition, we expect to 33



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engage and grow the acquired connected fitness community, while also increasing awareness and sales of our existing product offerings through our North American wholesale and direct to consumer channels. Corporate Headquarters In July 2011, we acquired approximately 400 thousand square feet of office space comprising our corporate headquarters for $60.5 million. The acquisition included land, buildings, tenant improvements and third party lease-related intangible assets. As of December 31, 2013, 116 thousand square feet of the 400 thousand square feet acquired was leased to third party tenants with remaining lease terms ranging from 1 month to 12.5 years. We intend to occupy additional space as it becomes available. Contractual Commitments and Contingencies We lease warehouse space, office facilities, space for our brand and factory house stores and certain equipment under non-cancelable operating and capital leases. The leases expire at various dates through 2028, excluding extensions at our option, and contain various provisions for rental adjustments. In addition, this table includes executed lease agreements for brand and factory house stores that we did not yet occupy as of December 31, 2013. The operating leases generally contain renewal provisions for varying periods of time. Our significant contractual obligations and commitments as of December 31, 2013 as well as significant agreements entered into during the period after December 31, 2013 through the date of this report are summarized in the following table: Payments Due by Period Less Than More Than (in thousands) Total 1 Year 1 to 3 Years 3 to 5 Years 5 Years Contractual obligations Long term debt obligations (1) $ 52,923$ 4,972$ 5,951$ 4,000$ 38,000 Operating lease obligations (2) 323,924 44,292 81,424 61,879 136,329 Product purchase obligations (3) 703,447 703,447 - - - Sponsorships and other (4) 272,689 80,875 94,572 46,546 50,696 Total $ 1,352,983$ 833,586$ 181,947$ 112,425$ 225,025 (1) Excludes $100.0 borrowings under the revolving credit facility, expected to be repaid in less than a year and a total of $0.1 million of fixed interest payments on long term debt obligations. (2) Includes the minimum payments for operating lease obligations. The operating lease obligations do not include any contingent rent expense we may incur at our brand and factory house stores based on future sales above a specified minimum or payments made for maintenance, insurance and real estate taxes. Contingent rent expense was $7.8 million for the year ended December 31, 2013. (3) We generally place orders with our manufacturers at least three to four months in advance of expected future sales. The amounts listed for



product purchase obligations primarily represent our open production

purchase orders with our manufacturers for our apparel, footwear and

accessories, including expected inbound freight, duties and other

costs. These open purchase orders specify fixed or minimum quantities

of products at determinable prices. The product purchase obligations

also includes fabric commitments with our suppliers, which secure a portion of our material needs for future seasons. The reported amounts exclude product purchase liabilities included in accounts payable as of December 31, 2013. (4) Includes sponsorships with professional teams, professional leagues, colleges and universities, individual athletes, athletic events and other marketing commitments in order to promote our brand. Some of these sponsorship agreements provide for additional performance incentives and product supply obligations. It is not possible to determine how much we will spend on product supply obligations on an annual basis as contracts generally do not stipulate specific cash amounts to be spent on products. The amount of product provided to these sponsorships depends on many factors including general playing



conditions, the number of sporting events in which they participate and

our decisions regarding product and marketing initiatives. In addition,

it is not possible to determine the performance incentive amounts we

may be required to pay under these agreements as they are primarily

subject to certain performance based and other variables. The amounts listed above are the fixed minimum amounts required to be paid under these agreements. The table above excludes a liability of $24.1 million for uncertain tax positions, including the related interest and penalties, recorded in accordance with applicable accounting guidance, as we are unable to reasonably estimate the timing of settlement. Refer to Note 10 to the Consolidated Financial Statements for a further discussion of our uncertain tax positions. 34



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Off-Balance Sheet Arrangements In connection with various contracts and agreements, we have agreed to indemnify counterparties against certain third party claims relating to the infringement of intellectual property rights and other items. Generally, such indemnification obligations do not apply in situations in which our counterparties are grossly negligent, engage in willful misconduct, or act in bad faith. Based on our historical experience and the estimated probability of future loss, we have determined the fair value of such indemnifications is not material to our financial position or results of operations. Critical Accounting Policies and Estimates Our consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States of America. To prepare these financial statements, we must make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, as well as the disclosures of contingent assets and liabilities. Actual results could be significantly different from these estimates. We believe the following discussion addresses the critical accounting policies that are necessary to understand and evaluate our reported financial results. Revenue Recognition Net revenues consist of both net sales and license and other revenues. Net sales are recognized upon transfer of ownership, including passage of title to the customer and transfer of risk of loss related to those goods. Transfer of title and risk of loss are based upon shipment under free on board shipping point for most goods or upon receipt by the customer depending on the country of the sale and the agreement with the customer. In some instances, transfer of title and risk of loss take place at the point of sale, for example at our brand and factory house stores. We may also ship product directly from our supplier to the customer and recognize revenue when the product is delivered to and accepted by the customer. License and other revenues are primarily recognized based upon shipment of licensed products sold by our licensees. Sales taxes imposed on our revenues from product sales are presented on a net basis on the consolidated statements of income and therefore do not impact net revenues or costs of goods sold. We record reductions to revenue for estimated customer returns, allowances, markdowns and discounts. We base our estimates on historical rates of customer returns and allowances as well as the specific identification of outstanding returns, markdowns and allowances that have not yet been received by us. The actual amount of customer returns and allowances, which is inherently uncertain, may differ from our estimates. If we determine that actual or expected returns or allowances are significantly higher or lower than the reserves we established, we would record a reduction or increase, as appropriate, to net sales in the period in which we make such a determination. Provisions for customer specific discounts are based on contractual obligations with certain major customers. Reserves for returns, allowances, markdowns and discounts are recorded as an offset to accounts receivable as settlements are made through offsets to outstanding customer invoices. As of December 31, 2013 and 2012, there were $43.8 million and $40.7 million, respectively, in reserves for customer returns, allowances, markdowns and discounts. Allowance for Doubtful Accounts We make ongoing estimates relating to the collectability of accounts receivable and maintain an allowance for estimated losses resulting from the inability of our customers to make required payments. In determining the amount of the reserve, we consider historical levels of credit losses and significant economic developments within the retail environment that could impact the ability of our customers to pay outstanding balances and make judgments about the creditworthiness of significant customers based on ongoing credit evaluations. Because we cannot predict future changes in the financial stability of our customers, actual future losses from uncollectible accounts may differ from estimates. If the financial condition of customers were to deteriorate, resulting in their inability to make payments, a larger reserve might be required. In the event we determine a smaller or larger reserve is appropriate, we would record a benefit or charge to selling, general and administrative expense in the period in which such a determination was made. As of December 31, 2013 and 2012, the allowance for doubtful accounts was $2.9 million and $3.3 million, respectively. Inventory Valuation and Reserves We value our inventory at standard cost which approximates landed cost, using the first-in, first-out method of cost determination. Market value is estimated based upon assumptions made about future demand and retail market conditions. If we determine that the estimated market value of our inventory is less than the carrying value of such inventory, we record a charge to cost of goods sold to reflect the lower of cost or market. If actual market conditions are less favorable than those we projected, further adjustments may be required that would increase the cost of goods sold in the period in which such a determination was made. 35



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Goodwill, Intangible Assets and Long-Lived Assets Goodwill and intangible assets are recorded at their estimated fair values at the date of acquisition and are allocated to the reporting units that are expected to receive the related benefits. Goodwill and indefinite lived intangible assets are not amortized and are required to be tested for impairment at least annually or sooner whenever events or changes in circumstances indicate that the assets may be impaired. In conducting an annual impairment test, we first review qualitative factors to determine whether it is more likely than not that the fair value of the reporting unit is less than its carrying amount. If factors indicate that is the case, we perform a quantitative assessment over relevant reporting units, analyzing the expected present value of future cash flows and quantifies the amount of impairment, if any. We perform our annual impairment tests in the fourth quarter of each fiscal year. We continually evaluate whether events and circumstances have occurred that indicate the remaining estimated useful life of long-lived assets may warrant revision or that the remaining balance may not be recoverable. These factors may include a significant deterioration of operating results, changes in business plans, or changes in anticipated cash flows. When factors indicate that an asset should be evaluated for possible impairment, we review long-lived assets to assess recoverability from future operations using undiscounted cash flows. If future undiscounted cash flows are less than the carrying value, an impairment is recognized in earnings to the extent that the carrying value exceeds fair value. No material impairments were recorded related to goodwill, intangible assets or long-lived assets during the years ended December 31, 2013, 2012 and 2011. Income Taxes Income taxes are accounted for under the asset and liability method. Deferred income tax assets and liabilities are established for temporary differences between the financial reporting basis and the tax basis of our assets and liabilities at tax rates expected to be in effect when such assets or liabilities are realized or settled. Deferred income tax assets are reduced by valuation allowances when necessary. Assessing whether deferred tax assets are realizable requires significant judgment. We consider all available positive and negative evidence, including historical operating performance and expectations of future operating performance. The ultimate realization of deferred tax assets is often dependent upon future taxable income and therefore can be uncertain. To the extent we believe it is more likely than not that all or some portion of the asset will not be realized, valuation allowances are established against our deferred tax assets, which increase income tax expense in the period when such a determination is made. Income taxes include the largest amount of tax benefit for an uncertain tax position that is more likely than not to be sustained upon audit based on the technical merits of the tax position. Settlements with tax authorities, the expiration of statutes of limitations for particular tax positions, or obtaining new information on particular tax positions may cause a change to the effective tax rate. We recognize accrued interest and penalties related to unrecognized tax benefits in the provision for income taxes on the consolidated statements of income. Stock-Based Compensation We account for stock-based compensation in accordance with accounting guidance that requires all stock-based compensation awards granted to employees and directors to be measured at fair value and recognized as an expense in the financial statements. As of December 31, 2013, we had $20.0 million of unrecognized compensation expense expected to be recognized over a weighted average period of 1.2 years. This unrecognized compensation expense does not include any expense related to performance-based restricted stock units for which the performance targets have not been achieved as of December 31, 2013. Determining the appropriate fair value model and calculating the fair value of stock-based compensation awards require the input of highly subjective assumptions, including the expected life of the stock-based compensation awards, stock price volatility and estimated forfeiture rates. We use the Black-Scholes option-pricing model to determine the fair value of stock option awards. The assumptions used in calculating the fair value of stock-based compensation awards represent management's best estimates, but the estimates involve inherent uncertainties and the application of management judgment. In addition, compensation expense for performance-based awards is recorded over the related service period when achievement of the performance targets are deemed probable, which requires management judgment. For example, the achievement of certain operating income targets related to the performance-based restricted stock units granted in 2012 and 2013 were not deemed probable as of December 31, 2013. Additional stock-based compensation of up to $5.6 million would have been recorded in 2013 for these performance-based restricted stock units had the full achievement of all operating targets been deemed probable. As a result, if factors change and we use different assumptions, our stock-based compensation expense could be materially different in the future. Refer to Note 2 and Note 12 to the Consolidated Financial Statements for a further discussion on stock-based compensation. 36



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Recently Issued Accounting Standards In July 2013, the Financial Accounting Standards Board ("FASB") issued an Accounting Standards Update which requires that an unrecognized tax benefit, or a portion of an unrecognized tax benefit, should be presented in the financial statements as a reduction to a deferred tax asset for a net operating loss carryforward, a similar tax loss, or a tax credit carryforward, with certain exceptions. This guidance is effective for annual and interim reporting periods beginning after December 15, 2013, with early adoption permitted. We believe the adoption of this pronouncement will not have a material impact on our consolidated financial statements. Recently Adopted Accounting Standards In February 2013, the FASB issued an Accounting Standards Update which requires companies to present either in a single note or parenthetically on the face of the financial statements, the effect of significant amounts reclassified from each component of accumulated other comprehensive income based on its source and the income statement line items affected by the reclassification. This guidance is effective for annual and interim reporting periods beginning after December 15, 2012. The adoption of this pronouncement did not have a material impact on our consolidated financial statements. In July 2012, the FASB issued an Accounting Standards Update which allows companies to assess qualitative factors to determine the likelihood of indefinite-lived intangible asset impairment and whether it is necessary to perform the quantitative impairment test currently required. This guidance is effective for annual and interim impairment tests performed for fiscal years beginning after September 15, 2012, with early adoption permitted. The adoption of this pronouncement did not have an impact on our consolidated financial statements.


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