FINANCIAL REVIEW

BASIS OF PREPARATION OF FINANCIAL REVIEW

The Board of Director’s Financial Review refers to the group of companies controlled by PRADA spa (the “Company”), parent company of the PRADA Group (the “Group”). This Financial Review should be read in conjunction with the Consolidated Financial Statements and the related Notes, which are an integral part thereof.
As a result of the change in the end of the annual reporting period from January 31 to December 31, approved at the General Meeting on May 31, 2017, the Prada Group’s 2018 Statement of Profit or Loss prepared in accordance with IFRS (“2018 IFRS Statement of Profit or Loss”) refers to the twelve-month reporting period ended December 31, 2018, whereas the corresponding 2017 statement referred to an eleven-month period (“2017 IFRS Statement of Profit or Loss”, from February 1, 2017 to December 31, 2017).
To enable comparison of the Group’s business and financial performance, the Directors have prepared the “2017 Pro-Forma Statement of Profit or Loss” based on the twelve months ended December 31, 2017.
The comments reported herein regarding revenues and operating results are based on a comparison with the “2017 Pro-Forma Statement of Profit or Loss”, whereas those regarding assets, liabilities and equity refer to the IFRS-based Consolidated Financial Statements as at December 31, 2018 and December 31, 2017. 

CONSOLIDATED STATEMENT OF PROFIT OR LOSS

IFRS

pro-forma

(amounts in thousands of Euro)

twelve months period ended December 31, 2018

%

twelve months period ended December 31, 2017

%

Net Sales

3,098,068

98.6%

3,008,280

98.4%

Royalties

44,080

1.4%

48,195

1.6%

Net revenues

3,142,148

100%

3,056,475

100%

Cost of goods sold

(879,554)

-28.0%

(810,885)

-26.5%

Gross margin

2,262,594

72.0%

2,245,590

73.5%

Operating expenses

(1,938,748)

-61.7%

(1,885,570)

-61.7%

EBIT

323,846

10.3%

360,020

11.8%

Interest and other financial expenses, net

(21,940)

-0.7%

(6,168)

-0.2%

Dividends from investments

632

0.0%

670

0.0%

Income before taxation

302,538

9.6%

354,522

11.6%

Taxation

(94,356)

-3.0%

(105,284)

-3.4%

Net income for the period

208,182

6.6%

249,238

8.2%

Net income - Non-controlling interests

2,739

0.1%

313

0.0%

Net income - Group

205,443

6.5%

248,925

8.1%

Basic and diluted earnings per share (in Euro per share)

0.080

0.097

Depreciation, amortization and impairment

227,357

7.2%

227,960

7.5%

EBITDA

551,203

17.5%

587,980

19.2%

KEY FINANCIAL INFORMATION

IFRS

IFRS

IFRS

Change

(amounts in thousands of Euro)

December 31 2018

December 31 2017

January 31 2017

Dec. 2018 vs. Dec. 2017

Net operating working capital

638,493

546,205

556,351

92,288

Net invested capital

3,210,574

2,969,909

3,086,089

240,665

Net financial position surplus/(deficit)

(313,505)

(103,738)

18,441

(209,767)

Group shareholders’ equity

2,877,986

2,844,652

3,080,502

33,334

Average number of employees

13,197

12,400

12,326

797

Net operating cash flows (*)

365,108

446,517

631,850

(81,409)

         
(*) figure relates to the eleven-month period for December 31, 2017 and to the twelve-month period for the other two years

2018 HIGHLIGHTS

In 2018 the Prada Group’s sales performance turned around, showing revenue growth that had been absent for some years. The results, which reflect a plan to increase volumes and profitability in the medium term, are reassuring to management with respect to the effectiveness of the omnichannel strategy and of the investments made in recent years. 
Changes to the organizational structure, especially at an operational level, and large steps forward in the digitalization process have made the Prada Group more dynamic and able to interpret more rapidly the spirit of the times. While this has been happening throughout the Company, the design team has focused its creative talent on the development of products that are particularly popular with the new generations, such as sneakers, backpacks and special editions. The collections have therefore benefited from a product assortment better targeted to the tastes of such market segment, while maintaining the brand identities and essential brand codes. Nylon was renewed as a major component of the Spring/Summer collection and Fall/Winter Linea Rossa 2018 collections, and was at the center of an important communications campaign. 
Handbags, which have enjoyed the continued success of iconic models launched in recent collections, contributed significantly to the annual sales growth.
The strategic decision to go for a product range increasingly geared toward preserving the exclusivity of the brands entailed revising the promotional sales policies to achieve more effective product positioning. In terms of volume, discounted sales fell in 2018 while full-price sales rose. However, the positive contribution of this situation is not evident in the gross margin as it was eliminated by the impact of very unfavorable exchange rates compared with those of the prior period.

The Fondazione Prada and Luna Rossa sponsorships have promoted the Prada brand on the international scene and have enhanced its value through its association with the prestigious cultural center and the oldest surviving sports competition, respectively. For the first time, Prada’s role in America’s Cup is not only as a team sponsor; it is also the Title and Presenting Sponsor of the entire sailing competition. Thanks to this agreement, in 2018 the brand began to benefit from growing visibility through events regarding the presentation of the 36th edition, such as the hologram presentation of the new AC75 flying monohull and the unveiling of the new trophy.
The brand identity was also strengthened with the addition of new fashion shows, Prada Resort in Manhattan, broadcast live in Times Square, and Miu Miu Croisière at Hotel Regina in Paris.
Special displays at directly operated stores and pop-up shops at prestigious department stores were used to market new collections and celebrate re-releases of iconic products in uniquely designed and conceptualized settings. Meanwhile, the constant research of store concepts led to additional restyling projects. Along with investments in the websites and in social media, these activities have further enriched the customer journey and are forging closer integration of physical retail, digital retail and communications.
The investments of the year involved the industrial area, with the reinforcement of manufacturing and logistics structures in Italy, and the corporate area, with improvements to the central and regional offices. Moreover, an extensive IT investment plan, part of the Group’s broader digital transformation strategy, is bringing benefits across the Company, such as in the areas of human resources and institutional compliance. This broad investment plan, prioritized with significant resources allocated to it by the Directors, enables Prada to be among the most technologically advanced companies for traditional retail as well as for its own e-commerce platforms and manufacturing processes, while preserving the Group’s characteristic craftsmanship. 

ANALYSIS OF PRO-FORMA NET REVENUES

IFRS

PRO-FORMA

(amounts in thousands of Euro)

twelve months ended December 31 2018

twelve months ended December 31 2017

% change

Net Sales

3,098,068

98.6%

3,008,280

98.4%

3.0%

Royalties

44,080

1.4%

48,195

1.6%

-8.5%

Net revenues

3,142,148

100%

3,056,475

100%

2.8%

IFRS

PRO FORMA

(amounts in thousands of Euro)

twelve months ended >December 31 2018

twelve months ended December 31 2017

% change

Net Sales by geographical area

Europe

1,188,910

38.4%

1,169,679

38.9%

1.6%

Americas

426,184

13.8%

431,843

14.4%

-1.3%

Asia Pacific

1,035,061

33.4%

972,888

32.3%

6.4%

Japan

350,313

11.3%

336,810

11.2%

4.0%

Middle East

93,655

3.0%

92,924

3.1%

0.8%

Other countries

3,945

0.1%

4,136

0.1%

-4.6%

Total

3,098,068

100%

3,008,280

100%

3.0%

Net Sales by brand

Prada

2,558,108

82.6%

2,461,246

81.8%

3.9%

Miu Miu

453,476

14.6%

459,338

15.3%

-1.3%

Church's

69,079

2.2%

70,999

2.4%

-2.7%

Other

17,405

0.6%

16,697

0.5%

4.2%

Total

3,098,068

100%

3,008,280

100%

3.0%

Net Sales by product line

Leather goods

1,756,288

56.7%

1,702,824

56.6%

3.1%

Footwear

616,263

19.9%

624,598

20.8%

-1.3%

Clothing

666,187

21.5%

623,988

20.7%

6.8%

Other

59,330

1.9%

56,870

1.9%

4.3%

Total

3,098,068

100%

3,008,280

100%

3.0%

Net sales by channel

Net Sales of direct operated stores (DOS)

2,532,004

81.7%

2,443,697

81.2%

3.6%

Sales to Independent customers and franchisees

566,064

18.3%

564,583

18.8%

0.3%

Total

3,098,068

100%

3,008,280

100%

3.0%

Net retail sales for the twelve months ended December 31, 2018 showed growth of 6.8% at constant exchange rates and 3.6% at current exchange rates. The annual performance was positive, although it slowed down in the latter months due primarily to the volatility of some markets and the strategic decision to reduce the discounted sales. The number of Directly Operated Stores, including 29 openings and 20 closures, rose from 625 at December 31, 2017 to 634 at December 31, 2018.
Sales from the wholesale channel were substantially consistent with those of the prior period, as they rose by 1.3% at constant exchange rates and by 0.3% at current exchange rates. Wholesale orders to e-tailers increased in line with the Group’s digital strategy.

Net sales in the Asia-Pacific market rose by 9.7% at  constant exchange rates (6.4% at  current exchange rates), with gains from the twelve months pro-forma of  2017  in  all the main markets (especially South Korea) as  a  result of  growth with both  the local clientele and with intra-regional travelers flows. Greater China produced net sales of Euro 675 million, up by 8.2% at constant exchange rates and 4.5% at current exchange rates.
Europe had a 2.8% increase in sales at constant exchange rates (+1.6% at current exchange rates). The growth was concentrated in purchases by local customers.
Net sales in the American market rose by 3.9% at constant exchange rates (-1.3%  at current exchange rates). The increase was split evenly between local customers and travellers.
Japan reported higher  net  sales  both  at  constant  exchange  rates  (+7.4%)  and at current exchange rates (+4%), mainly as a result of the recovery in domestic consumer spending.
Net sales in the Middle East rose by 5.2% at constant exchange rates (+0.8% at current exchange rates). The opening of two important stores, Prada and Miu Miu, inside the prestigious Dubai Mall contributed to the growth of the period.

Clothing sales rose by 9.6% at constant exchange rates and by 6.8% at current exchange rates. At constant exchange rates Prada and Miu Miu grew in all regions. Sales of leather goods rose by 5.9% at constant exchange rates and by 3.1% at current exchange rates. Handbag sales, driven by the continued success of iconic  models, showed the greatest increases. All regions reported sales growth.
Footwear sales rose by 1.5% at constant exchange rates and fell by 1.3% at current exchange rates, with different trends for the various markets: from double-digit growth in Japan and Asia Pacific to a slight decline in  the Americas, concentrated in the wholesale channel.

Prada brand  net  sales  increased  by  6.7%  at  constant  exchange  rates  (+3.9% at current exchange rates). At constant exchange rates, all product categories reported higher sales than those of 2017.
Miu Miu net sales rose by 1.7%  at  constant exchange rates (while they  fell  by  1.3% at current exchange rates), reflecting growth for clothing and almost steady results for footwear and leather goods compared with the previous period.
The Church’s brand reported a decline of  1.6% at  constant exchange rates (-2.7% at current exchange rates). The increase in retail sales, achieved through both existing stores and six store openings, compensated for the decrease in sales to independent customers, consistently with the selective strategy of reducing the independent accounts.
“Other brands” consisted primarily of sales of Marchesi 1824 brand patisserie products, which grew from the prior period.

Licensed  businesses  generated  royalties  of Euro  44.1  million,  down  by   8.5% at current exchange rates. The delay that occurred in 2018 was substantially attributable to eyewear licenses, which are currently in a phase of reorganization and renewal.

December 31, 2018

December 31, 2017

January 31, 2017

Owned

Franchises

Owned

Franchises

Owned

Franchises

Prada

398

25

394

25

387

25

Miu Miu

166

9

167

9

171

9

Church's

63

-

57

-

54

-

Car Shoe

4

-

4

-

5

-

Marchesi

3

-

3

-

3

-

Total

634

34

625

34

620

34

December 31, 2018

December 31, 2017

January 31, 2017

Owned

Franchises

Owned

Franchises

Owned

Franchises

Europe

224

4

229

4

220

4

Americas

111

-

112

-

113

-

Asia Pacific

195

25

184

25

187

25

Japan

81

-

79

-

78

-

Middle East and Africa

23

5

21

5

22

5

Total

634

34

625

34

620

34

The gross margin showed a dilution of 150 basis points, decreasing from 73.5% for the pro-forma twelve-month period ended December 31, 2017 to 72% for 2018. The negative impact of exchange rates, including the effect of hedges, was nearly wholly responsible for this, despite the positive contribution of a more favorable ratio of full-price sales to discounted sales.
Operating expenses rose by Euro 53.2 million compared with the 2017 pro-forma twelve-month period (from Euro 1,885.6 million to Euro 1,938.7 million), whereas they remained consistent as a percentage of net revenues (61.7%).
Selling costs rose mainly as a result of the increase in the retail sales staff, whereas advertising and communications costs rose on account of the numerous initiatives of the year, including digital ones, and sponsorship costs.

IFRS

PRO-FORMA

(amounts in thousands of Euro)

twelve months ended December 31 2018

% of net revenues

twelve months ended December 31 2017

% of net revenues

Product design and development costs

125,179

4.0%

130,468

4.3%

Advertising and communications costs

207,278

6.6%

184,752

6.0%

Selling costs

1,414,153

45.0%

1,399,273

45.8%

General and administrative costs

192,138

6.1%

171,077

5.6%

Total Operating expenses

1,938,748

61.7%

1,885,570

61.7%

EBIT for the twelve months ended December 31, 2018 was Euro 323.8 million, or 10.3% of net revenues, whereas in the 2017 pro-forma period it was Euro 360 million, or 11.8% of net revenues. The adverse effect of exchange rates had a large impact on the dilution of the operating margin.
The increase in finance costs was attributable primarily to exchange differences on financial items.

ANALYSIS OF THE STATEMENT OF FINANCIAL POSITION

The following table reclassifies the statement of financial position to provide a better understanding of net invested capital:

(amounts in thousands of Euro)

December 31 2018

December 31 2017

January 31 2017

Non-current assets (excluding deferred tax assets)

2,700,098

2,565,359

2,599,620

Trade receivables, net

321,913

289,973

285,504

Inventories, net

631,791

569,929

526,941

Trade payables

(315,211)

(313,697)

(256,094)

Net operating working capital

638,493

546,205

556,351

Other current assets (excluding items of financial position)

208,085

212,102

275,384

Other current liabilities (excluding items of financial position)

(245,754)

(233,181)

(224,536)

Other current assets/(liabilities), net

(37,669)

(21,079)

50,848

Provision for risks

(51,310)

(61,815)

(82,323)

Post-employment benefits

(60,001)

(61,444)

(67,211)

Other long-term liabilities

(166,091)

(174,706)

(187,322)

Deferred taxation, net

187,054

177,389

216,126

Other non-current assets/(liabilities)

(90,348)

(120,576)

(120,730)

Net invested capital

3,210,574

2,969,909

3,086,089

Shareholder's equity – Group

(2,877,986)

(2,844,652)

(3,080,502)

Shareholder's equity – Non-controlling interests

(19,083)

(21,519)

(24,028)

Total Consolidated shareholders' equity

(2,897,069)

(2,866,171)

(3,104,530)

Long-term financial payables

(487,431)

(638,954)

(547,628)

Short-term financial, net surplus/(deficit)

173,926

535,216

566,069

Net financial position surplus/(deficit)

(313,505)

(103,738)

18,441

Shareholders’ equity and net financial position

(3,210,574)

(2,969,909)

(3,086,089)

Net Debt to Consolidated shareholders’ equity ratio

10.8%

3.5%

n.a

As at December 31, 2018, the Group has net invested capital of Euro 3,210.6 million, net financial indebtedness of Euro 313.5 million and  consolidated shareholders’ equity of Euro 2,897.1 million.
Non-current assets, consisting essentially of property plant, equipment and intangible assets, increased from Euro 2,565.4 million as at December 31, 2017 to Euro 2,700.1 million as at December 31, 2018. The difference was affected mainly by the investments in property plant, equipment and intangible assets (Euro 283.6 million) and use of liquidity in financial investments (Euro 91.4 million, net of the change in fair value), net of depreciation, amortization and impairments (Euro 227.4 million) and assets disposal (Euro 11 million).

The capital expenditure is detailed below:

(amounts in thousands of Euro)

twelve months ended December 31 2018

eleven months ended December 31 2017

Area retail

135,997

110,026

Area manufacturing, logistics and corporate

147,590

140,638

Total

283,587

250,664

Approximately 50% of the total capital expenditure of the year was invested in the retail area primarily for store restyling and relocation projects, and to a lesser extent in the store openings of the period. Other capital expenditure was used to build up the manufacturing and logistics structures in Italy, improve the corporate areas and fund the digital transformation process.
The net operating working capital is Euro 638.5 million, up by Euro 92.3 million from that of December 31, 2017, due essentially to the restocking of finished products at the retail network.
Other current liabilities, net increased by Euro 16.6 million due to greater current tax liabilities and the fair value change of derivatives.
Other non-current liabilities, net, showed a decrease of Euro 30.2  million attributable to the use of provisions for deferred rent and other  medium/long- term liabilities.
During the year the Group paid dividends for an amount of Euro 197.6 million.

The following table provides details of the Group’s net financial position:

(amounts in thousands of Euro)

December 31 2018

December 31 2017

January 31 2017

Bonds - non-current

-

-

(130,000)

Bank borrowing – non-current

(487,431)

(638,954)

(417,628)

Total financial payables – non-current

(487,431)

(638,954)

(547,628)

Bonds - current

-

(130,000)

-

Financial payables and bank overdrafts - current

(421,481)

(222,971)

(151,211)

Payables to parent company and related parties - current

(4,415)

(4,423)

(4,934)

Total financial payables – current

(425,896)

(357,394)

(156,145)

Total financial payables

(913,326)

(996,348)

(703,773)

Cash and cash equivalents

599,821

892,610

722,214

Total financial receivables and cash and cash equivalents

599,821

892,610

722,214

Net financial surplus/(deficit), total

(313,505)

(103,738)

18,441

Net financial surplus/(deficit) excluding related party balances

(309,090)

(99,315)

23,375

EBITDA / Net Financial deficit (*)

1.76

5.67

n.a.

(*) The ratio of EBITDA on Net financial deficit at December 31, 2017 was determined taking into account the EBITDA pro-forma for the 12 months of 2017

The net financial indebtedness as at December 31, 2018 is Euro 313.5 million, an increase of Euro 209.8 million compared with that of December 31, 2017. Funding was used primarily for the distribution of dividends (Euro 197.6 million), capital expenditures and cash investments (Euro 379.4 million), net of the operating cash flow (Euro 365.1 million).
The total amount of undrawn lines of credit at December 31, 2018 is Euro 597 million.

RISK FACTORS 

RISK FACTORS REGARDING THE INTERNATIONAL LUXURY GOODS MARKET

The performance of the luxury goods market is influenced by the general economy. Accordingly, the Group’s business performance is exposed to global macroeconomic risks due to its international scale. An unfavorable global economy could adversely affect the propensity to spend on luxury goods having a negative impact on the Group’s operations, results, cash flows and financial condition.
Moreover, a substantial portion of sales originates from purchases of products by customers on trips  abroad.  Therefore,  unfavorable economic conditions, social or geopolitical situations leading to instability, and natural disasters resulting in lower travel volumes have in the past, and could in  the future, negatively impact  the Group’s operations, results, cash flow and financial condition.
The Group believes that full control of the value chain and a global retail presence (both physical and digital) enable to mitigate the risk that conditions such as these could influence significantly the business performance.

The Prada Group’s brands have always been associated with beauty, creativity, tradition and excellent quality. Prada’s ability to protect its brands and other intellectual property rights means safeguarding these fundamental assets that are responsible for the success of the brands and the brand positioning.
The Group protects its brands, designs, patents and websites by registering them and obtaining legal protection for them in all countries throughout the world. The Group actively opposes all forms of counterfeiting and intellectual property infringement by adopting strong, systematic measures worldwide. The wholesale, retail, online and offline markets are monitored daily in close collaboration with the customs authorities and police.

The Group’s success in the international luxury goods business is linked to the image and distinct character of its brands. These features depend on many factors, such as the style and design of the products, the quality of the materials and production techniques used, the image and locations of DOS, careful selection of licensees, communications activities and the general corporate profile.
Preserving the image and prestige acquired by its brands is a primary objective of the Prada Group, pursued by monitoring meticulously each internal and external phase of the value chain and by constantly seeking innovation in styles, products and communications in order to convey messages that are always consistent with the strong brand identities.

The Group’s success is reliant on its ability to create and define fashion and product trends, and to anticipate shifts in consumer tastes and luxury market trends in a timely manner.
The Group pursues those objectives through strong efforts dedicated to the creative activities of its design and product development departments. Approximately 1,000 individuals work in such departments between the design area, where a mix of nationalities, cultures and talents contribute to creativity, and the development area, where craft skills combined with solid manufacturing processes enable the Group to continue to compete and keep abreast of emerging consumer trends and lifestyles.
Close collaboration with the world of art and culture serves as another fundamental way to understand changes in society and consumer patterns.

RISKS SPECIFIC TO THE PRADA GROUP

The possibility for the Group to improve its business performance depends on the successful implementation of its strategy for each brand, which is achieved primarily through the continuous support and development of retail sales.
The Group provides support to the retail network by offering leather goods, clothing and footwear that reflect the brand positioning, accompanied by store operations geared toward making the buying experience unique. The restyling of the store layout, as for example the recent revamping of concepts, aims to further expand the capacity to attract customers. The performance of the retail channel is also supported by marketing initiatives intended to enhance the identity of the brands in the specific markets and emphasize the unique features that distinguish the style and craftsmanship of the products.
Moreover, the implementation of the omnichannel strategy has paved the way for medium to long-term business development based on product quality, high- performance innovation and distribution and communication channels that are constantly evolving and in line with the needs of the new generations of consumers.

The Group’s success depends on the contribution of key individuals who have played an essential role in the Group’s expansion and who have substantial experience in the fashion and luxury goods business. Its success also depends on Prada’s ability to attract and retain people who are qualified in the design, marketing, merchandising and distribution of the products.
The Group considers its management structure to be capable of ensuring business continuity, and has recently implemented a long-term incentive plan to retain key employees so that they will continue to cover the roles essential to the achievement of the challenging objectives that the Group constantly sets itself.

While the Group designs, controls and produces in-house most of its prototypes, samples and most sophisticated work, it outsources the remaining production of its finished products to external manufacturers (“contract manufacturers”) with appropriate expertise and capacity, and centralizes the management of all raw materials.
The Group has implemented a strict inspection and quality control process for all outsourced production and contractually requires its contract manufacturers to comply with all regulations on brand ownership and other intellectual property rights. Moreover, the Group demands compliance with applicable regulations concerning labor, social security, and occupational health and safety. The Group also requires its contract manufacturers to read the Prada Group Code of Ethics and comply with the principles set forth therein. Risk of contractual non-compliance is mitigated by a control system based on procedures that define internal responsibilities for the assessment of the suppliers’ ethical, technical and financial soundness.

Credit risk is defined as the risk of financial loss caused by the failure of a counterparty to meet its contractual obligations. The maximum risk to which an entity is exposed is represented by all the financial assets recognized in the financial statements. The Group considers its credit risk to involve primarily trade receivables generated from the wholesale channel and liquid assets. The Group manages credit risk and mitigates the related effects through its business and financial strategies.
The credit risk management for trade receivables is carried out by monitoring the reliability and solvency of customers, as well as through insurance agreements.
Concerning liquid assets, the risk of default substantially relates to bank deposits, which represent the Group’s most widely-used financial product for investing surplus operating cash flows. Default risk is mitigated by the allocation of cash holdings to bank deposits that are diversified in terms of counterparty (always investment grade), country and currency, and by the consistently short-term period. The residual portion of liquid assets consists of cash and bank accounts. The Group considers no significant risk to exist on these kinds of liquid assets given that they are used for operating activities and business processes and, consequently, the number of independent parties involved is fragmented.

Liquidity risk refers to difficulty that the Group could have in meeting its financial obligations. The Directors are responsible for managing liquidity risk, whereas the Corporate Finance management, which reports to the CFO, is responsible for optimizing financial resources.
The Directors consider the current funds and credit lines, in addition to those that will be generated by operating and financing activities, to be sufficient for enabling the Group to meet its requirements resulting from investing activities, manage working capital, make punctual loan repayments and pay dividends as planned.

The Group’s tax risks, which could derive from compliance errors or incorrect interpretation of regulations, are constantly monitored within the scope of the internal control system, specifically in the tax control framework implemented by the Group. The effectiveness of the tax risk management system has entitled Prada spa to participate in the Cooperative Compliance Tax Regime in Italy (under Italian Legislative Decree 128/2015). Under the Cooperative Compliance Tax Regime, the Group has set up a systematic, continuous and open communication channel with the Italian tax authorities based on reciprocal transparency and trust, which will enable to minimize uncertainties about the tax aspects of its business operations. Following the admission to such Regime, the Italian Tax Authority invited PRADA spa to join an international collaborative compliance program (International Compliance Assurance Programme) recently promoted by the OECD (Organisation for Economic Co-operation and Development), which allows the management of potential tax risks. PRADA spa and its subsidiaries operating in the countries involved in such project decided to join the Programme, currently ongoing in its pilot phase.

The Prada Group operates in a complex regulatory environment and so is exposed to the following legal risks:

  • risks associated with non-compliance with the Rules Governing the Listing of Securities on the Stock Exchange of Hong Kong or with other laws or regulations in force in Hong Kong that the Company must observe as it is listed on the Stock Exchange of Hong Kong Limited;
  • risks associated with occupational health and safety under Italian Legislative Decree 81/08 and equivalent regulations in force in other countries;
  • possible legal penalties for wrongful acts pursuant to Italian Law 231/2001, as subsequently amended;
  • possible events that could adversely affect the accuracy of the annual financial statements and the protection of assets;
  • changes in international tax rules applicable in the various countries where the Group operates;
  • possible manufacturing compliance risks regarding Italian and  international laws and regulations for finished goods distributed and raw materials and consumables used.

The Group involves various divisions and uses external experts as necessary to keep its processes and procedures constantly updated in order to comply with changing rules and regulations, thereby reducing legal and regulatory risk to an acceptable level. Monitoring activities are performed by divisional managers, auditors, and special entities and committees such as the Supervisory Board, Internal Control Committee and Industrial Compliance Committee.

The Group has a vast international presence, and therefore is exposed to the risk that changes in currency exchange rates could adversely impact revenue, expenses, margins and profit. In order to hedge the foreign exchange risk, the Group enters into derivative contracts designed to fix the value in Euro (or other functional currency) of identified future cash flows. The future cash flows consist primarily of inflows of trade and financial receivables and outflows of trade payables. They refer mainly to PRADA spa, the Group’s parent company and worldwide distributor of Prada and Miu Miu brand products.
The management of foreign exchange risk is described in more detail in the Notes to the Consolidated Financial Statements.

Interest rate risk is the risk that future cash flows could be affected by interest rate fluctuation. In order to hedge this risk, which refers mainly to PRADA spa, the Group uses derivatives (such as interest rate swaps) to convert variable-rate debt into fixed-rate debt or debt at rates within a specified range.
The management of interest rate risk is described in more detail in the Notes to the Consolidated Financial Statements.

Data is processed using information systems whose governance model ensures that:

  • information is adequately protected against the risk of unauthorized access and disclosure (including with means to protect personal privacy and proprietary information), improper information modification or destruction (including accidental loss), and use that is incompatible with the job assigned;
  • data is processed in accordance with the applicable laws and regulations.

In accordance with the specific legislative and regulatory developments on this matter, the Group has set up organizational and operational controls to adapt processes and procedures in order to adopt effective security measures to minimize the risks of non-compliance.

OTHER INFORMATION

Information on the Group’s transactions and balances with related parties is provided in the Notes to the Consolidated Financial Statements, insofar as required by IFRS, and in the Board of Directors’ Report and Corporate Governance Report, insofar as required by the Hong Kong Stock Exchange rules.

The Group uses certain financial measures (“non-IFRS measures”) to measure its business performance and to help readers understand and analyze its statement of financial position. Although such measures are used by the Group’s management, they are not universally or legally defined and are not regulated by the IFRS adopted to prepare the Consolidated Financial Statements. Other companies operating in the luxury goods business might use the same measures, but with different calculation criteria, so non-IFRS measures should always be read in conjunction with the related explanatory notes, and may not be directly comparable with those used by other companies.
The Prada Group uses the following non-IFRS measures in this Annual Report:

EBITDA: Earnings Before Interest, Taxation, Depreciation and Amortization, i.e. “consolidated net income for the period” adjusted to exclude “interest and other financial costs/(income) and dividends from investments”, “taxes on income” and “depreciation, amortization and impairment”.

EBIT: Earnings Before Interest and Taxation, i.e. “consolidated net income for the period” adjusted to exclude “interest and other financial income/(costs) and dividends from investments” and “taxation”.

Net Financial Position: short-term and long-term financial payables due to third parties and related parties, including financial lease obligations, net of cash and cash equivalents and short-term and long-term financial receivables due from third parties and related parties.

Free cash flows: net cash flows generated by operating activities, net of cash flows used in investing activities.

The following table sets forth the EBITDA and EBIT of the past two periods:

IFRS

PRO-FORMA

(amounts in thousands of Euro)

twelve months ended
December 31
2018

twelve-month ended
December 31
2017

Consolidated net income for the period

208,182

249,238

Taxation

94,356

105,284

Interest and other financial (income)/expense and

dividends from investments

21,308

5,498

EBIT (Earnings Before Interest and Taxation)

323,846

360,020

Depreciation, amortization and impairment

227,357

227,960

EBITDA (Earnings Before Interest, Taxation, Depreciation and Amortization)

551,203

587,979

Research and development activities are described within section “The Prada Group” of this Annual Report, especially in the paragraph on creativity. The design and product development costs for the 2018 twelve-month period amounted to Euro 125.2 million, as above reported in this Financial Review.

At December 31, 2018 the Group does not hold treasury shares, as reported in the section relating to the Report on Corporate Governance.

No significant events.

OUTLOOK

The process of business transformation started in 2017 is delivering positive results.
The strategic renewal and subsequent organizational review, which will be completed in the months to come, will give the Group a more dynamic structure and a renewed capacity to interpret the cultural evolution of the new generations with which to share the identity of Group’s brands.
The Group has already started a technological upgrade program that will increase control and efficiency of all business factors, from marketing to logistics and from product to customer service.
It’s clear that the digital transformation has radically altered relationships with consumers, making them ever more aware of their purchasing choices. In this context, communication takes on an even more crucial importance to effectively reach Group’s customers.
With this objective in mind the Group will continue to invest in all its digital assets to create an increasingly immersive brand experience with a unique and engaging involvement at all touch points.
The Group is also investing to strengthen the industrial infrastructure to ensure timely responses to the different needs of the individual markets, translating its creative vision of the evolution of looks into products readily available at stores. It’s on the basis of these plans that the Group’s expectation of a progressive recovery of volumes and margins is based.

 

Milan; March 15, 2019