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SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

FORM 10-Q

(Mark One)

For the period ended June 30, 2003

OR

For the transition period from                  to                 

Commission File number 0-18490

K-SWISS INC.

(Exact name of registrant as specified in its charter)

818-706-5100

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report.)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.     Yes x     No ¨

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act).    

Yes x     No ¨

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

Shares of common stock outstanding at July 28, 2003:

PART I—FINANCIAL INFORMATION

ITEM 1. FINANCIAL STATEMENTS

K-SWISS INC.

CONSOLIDATED BALANCE SHEETS

(Dollar amounts in thousands)

The accompanying notes are an integral part of these statements.

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K-SWISS INC.

CONSOLIDATED STATEMENTS OF EARNINGS

AND COMPREHENSIVE EARNINGS

(Amounts in thousands, except per share amounts)

(Unaudited)

The accompanying notes are an integral part of these statements.

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K-SWISS INC.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Amounts in thousands)

(Unaudited)

The accompanying notes are an integral part of these statements.

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K-SWISS INC.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

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The following options were not included in the computation of diluted EPS because the options’ exercise price was greater than the average market price of the common shares:

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During the six months ended June 30, 2003 and 2002, approximately 27% and 21%, respectively, of revenues were attributable to one customer. During the three months ended June 30, 2003 and 2002, approximately 27% and 24%, respectively, of revenues were attributable to this same customer.

During the six months ended June 30, 2003 and 2002, 16,000 and 3,000 options, respectively, were granted at exercise prices below fair market value. Net compensation expense recognized from all options granted at exercise prices below fair market value was $214,000 and $203,000 for the six months ended June 30, 2003 and 2002, respectively. All other options were granted at an exercise price equal to the fair market value of the Company’s common stock at the date of grant. Accordingly, no compensation cost has been recognized for such options granted.

During the three months ended June 30, 2003, no options were granted at exercise prices below fair market value and there were 1,000 options granted at exercise prices below fair market value during the three months ended June 30, 2002. Net compensation expense recognized from all options granted at exercise prices below fair market value was $127,000 and $107,000 for the quarters ended June 30, 2003 and 2002, respectively. All other options were granted at an exercise price equal to the fair market value of the Company’s common stock at the date of grant. Accordingly, no compensation cost has been recognized for such options granted.

In connection with the exercise of options, the Company realized income tax benefits in the six months and quarters ended June 30, 2003 and 2002 that have been credited to additional paid-in capital.

Had compensation cost for the plan been determined based on the fair value of the options at the grant dates consistent with the method of SFAS No. 123, the Company’s net earnings and earnings per share would have been:

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The fair value of options at date of grant was estimated using the Black-Scholes model with the following assumptions:

SFAS No. 142, “Goodwill and Other Intangible Assets,” eliminates the requirement to amortize goodwill and indefinite-lived intangible assets, requiring instead that those assets be measured for impairment at least annually, and more often when events indicate that an impairment exists. Intangible assets with finite lives will continue to be amortized over their useful lives. Goodwill and intangible assets as of June 30, 2003 and December 31, 2002 are as follows (in thousands):

The changes in the carrying amount of goodwill and intangible assets is as follows (in thousands):

In applying SFAS No. 142, the Company has performed the annual reassessment and impairment test required as of January 1, 2003 and determined that goodwill and intangible assets were not impaired. However, in March 2003, after a review of sales backlog, the Company has subsequently determined based on estimated revenues, operating profits and cash flows that its investment in the National Geographic license was impaired and recognized an impairment loss of $746,000 in the first quarter of 2003. In addition, the Company recognized a $4.1 million expense for the first six months of 2003 related to a guaranteed royalty payment commitment to National Geographic.

In July 2002, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.” This statement requires that a liability for a cost associated with an exit or disposal activity be recognized when the liability is incurred. Under previous guidance, a liability for an exit cost was recognized at the date of the commitment to an exit plan. The provisions of this statement will be applied prospectively, as applicable, and are effective for exit or disposal activities that are initiated after December 31, 2002. The adoption of SFAS No. 146 did not have a material effect on the Company’s financial position or results of operations.

In November 2002, the FASB issued FASB Interpretation No. 45, “Guarantor’s Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others” (“FIN 45”). This

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interpretation elaborates on the disclosures to be made by a guarantor in its interim and annual financial statements about its obligations under specified guarantees that it has issued. It also clarifies that a guarantor is required to recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. The disclosure requirements in this interpretation were effective for financial statements of interim or annual periods ending after December 15, 2002. Additionally, the recognition of a guarantor’s obligation should be applied on a prospective basis to guarantees issued after December 31, 2002. The adoption of FIN 45 did not have a material effect on the Company’s financial position or results of operations.

In January 2003, the FASB issued FASB Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”). This interpretation explains how to identify variable interest entities and how an enterprise assesses its interest in a variable interest entity to decide whether to consolidate that entity. This interpretation requires existing unconsolidated variable interest entities to be consolidated by their primary beneficiaries if the entities do not effectively disperse risks among parties involved. Variable interest entities that effectively disperse risks will not be consolidated unless a single party holds an interest or combination of interest that effectively recombines risks that were previously dispersed. This interpretation applies immediately to variable interest entities created after January 31, 2003, and to variable interest entities in which an enterprise obtains an interest after that date. It applies in the first fiscal year or interim period beginning after June 15, 2003, to variable interest entities in which an enterprise holds a variable interest that it acquired before February 1, 2003. The adoption of FIN 46 did not have a material effect on the Company’s financial position or results of operations.

In May 2003, the FASB issued SFAS No. 150, “Accounting for Certain Financial Instruments With Characteristics of Both Liabilities and Equity.” SFAS No. 150 changes the classification in the statement of financial position of certain common financial instruments from either equity or mezzanine presentation to liabilities and requires an issuer of those financial statements to recognize changes in fair value or redemption amount, as applicable, in earnings. SFAS No. 150 is effective for financial instruments entered into or modified after May 31, 2003, and with one exception, is effective at the beginning of the first interim period beginning after June 15, 2003. The effect of adopting SFAS No. 150 will be recognized as a cumulative effect of an accounting change as of the beginning of the period of adoption. Restatement of prior periods is not permitted. SFAS No. 150 is not expected to have any impact on the Company’s financial position or results of operations.

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ITEM 2.    MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND

 RESULTS OF OPERATIONS

Note Regarding Forward-Looking Statements and Analyst Reports

“Forward-looking statements,” within the meaning of the Private Securities Litigation Reform Act of 1995 (the “Act”), include certain written and oral statements made, or incorporated by reference, by us or our representatives in this report, other reports, filings with the Securities and Exchange Commission (the “S.E.C.”), press releases, conferences, or otherwise. Such forward-looking statements include, without limitation, any statement that may predict, forecast, indicate, or imply future results, performance, or achievements, and may contain the words “believe,” “anticipate,” “expect,” “estimate,” “intend,” “plan,” “project,” “will be,” “will continue,” “will likely result,” or any variations of such words with similar meaning. These statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict; therefore, actual results may differ materially from those expressed or forecasted in any such forward-looking statements. Investors should carefully review the risk factors set forth in other reports or documents we file with the S.E.C., including Forms 10-Q, 10-K and 8-K. Some of the other risks and uncertainties that should be considered include, but are not limited to, the following: international, national and local general economic and market conditions; the size and growth of the overall athletic footwear and apparel markets; the size of our competitors; intense competition among designers, marketers, distributors and sellers of athletic footwear and apparel for consumers and endorsers; market acceptance of our training shoe line; market acceptance of new Limited Edition product; market acceptance of non-performance product in Europe; market acceptance of National Geographic footwear; market acceptance of Royal Elastics footwear; demographic changes; changes in consumer preferences; popularity of particular designs, categories of products, and sports; seasonal and geographic demand for our products; the size, timing and mix of purchases of our products; fluctuations and difficulty in forecasting operating results, including, without limitation, the fact that advance “futures” orders may not be indicative of future revenues due to the changing mix of futures and at-once orders; potential cancellation of future orders; our ability to continue, manage or forecast our growth and inventories; new product development and commercialization; the ability to secure and protect trademarks, patents, and other intellectual property; difficulties in implementing, operating and maintaining our increasingly complex information systems and controls; concentration of production in China; potential earthquake disruption due to the location of our warehouse and headquarters; potential disruption in supply chain or customer purchasing habits due to health concerns relating to severe acute respiratory syndrome or other related illnesses; performance and reliability of products; customer service; adverse publicity; the loss of significant customers or suppliers; dependence on distributors; dependence on major customers; concentration of credit risk; business disruptions; increased costs of freight and transportation to meet delivery deadlines; the effects of terrorist actions on business activities, customer orders and cancellations, and the United States and international governments’ responses to these terrorist actions; changes in business strategy or development plans; general risks associated with doing business outside the United States, including, without limitation, import duties, tariffs, quotas and political and economic instability; changes in government regulations; liability and other claims asserted against us; the ability to attract and retain qualified personnel; and other factors referenced or incorporated by reference in this report and other reports.

K-Swiss (the “Company,” “we,” “us,” and “our”) operates in a very competitive and rapidly changing environment. New risk factors can arise and it is not possible for management to predict all such risk factors, nor can we assess the impact of all such risk factors on our business or the extent to which any factor, or combination of factors, may cause actual results to differ materially from those contained in any forward-looking statements. Given these risks and uncertainties, investors should not place undue reliance on forward-looking statements as a prediction of actual results.

Investors should also be aware that while we communicate, from time to time, with securities analysts, it is against our policy to disclose to them any material non-public information or other confidential commercial information. Accordingly, investors should not assume that we agree with any statement or report issued by any analyst irrespective of the content of the statement or report. Furthermore, we have a policy against issuing or confirming financial forecasts or projections issued by others. Thus, to the extent that reports issued by securities analysts or others contain any projections, forecasts or opinions, such reports are not our responsibility.

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Critical Accounting Policies

Our discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities.

We believe that the estimates, assumptions and judgments involved in the accounting policies described in the “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section of our most recent Annual Report on Form 10-K have the greatest potential impact on our financial statements, so we consider these to be our critical accounting policies. Because of the uncertainty inherent in these matters, actual results could differ from the estimates we use in applying the critical accounting policies. Certain of these critical accounting policies affect working capital account balances, including the policies for revenue recognition, the reserve for uncollectible accounts receivable and inventory reserves. These policies require that we make estimates in the preparation of our financial statements as of a given date.

Within the context of these critical accounting policies, we are not currently aware of any reasonably likely events or circumstances that would result in materially different amounts being reported.

Results of Operations

The following table sets forth, for the periods indicated, the percentage of certain items in the consolidated statements of earnings relative to revenues.

K-Swiss brand revenues increased to $110,307,000 for the quarter ended June 30, 2003 from $74,030,000 for the quarter ended June 30, 2002, an increase of $36,277,000 or 49.0%. K-Swiss brand revenues increased to $224,287,000 for the six months ended June 30, 2003 from $153,529,000 for the six months ended June 30, 2002, an increase of $70,758,000 or 46.1%. The increase for the quarter ended June 30, 2003 was the result of an increase in the volume of footwear sold along with higher average wholesale prices per pair. The increase for the six months ended June 30, 2003 was the result of an increase in volume of footwear sold partially offset by lower average wholesale prices per pair. The volume of footwear sold increased to 4,348,000 and 8,857,000 pair for the quarter and six months ended June 30, 2003, respectively, from 2,903,000 and 5,955,000 pair for the quarter and six months ended June 30, 2002, respectively. The increase in the volume of footwear sold for the quarter ended June 30, 2003 was primarily the result of increased sales of the Classic, training and children’s shoes of 60.8%, 78.4% and 27.5%, respectively. This increase for the quarter ended June 30, 2003 was also the result of an increase in the average wholesale price per pair to $24.93 for the quarter ended June 30, 2003 from $24.79 for the quarter ended June 30, 2002, an increase of 0.6%. This increase for the six months ended June 30, 2003 was partially offset by a decrease in the average wholesale price per pair to $24.81 for the six months ended June 30, 2003 from $25.00 for the six months ended June 30, 2002, a decrease of 0.8%.

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The breakdown of revenues (dollar amounts in thousands) is as follows. “Other” as shown below includes Royal Elastics and National Geographic brand revenues.

Overall gross profit margins, as a percentage of revenues, increased to 44.6% for the quarter ended June 30, 2003, from 43.6% for the quarter ended June 30, 2002. Gross profit margins, as a percentage of revenues, decreased to 44.0% for the six months ended June 30, 2003, from 44.1% for the six months ended June 30, 2002. Gross profit margin for the quarter ended and the six months ended June 30, 2003 was impacted by the recognition of $1.3 million and $4.1 million, respectively, of expenses related to a guaranteed royalty payment commitment to National Geographic. The change in gross profit margin for the quarter and six months ended June 30, 2003 was primarily due to product mix changes.

Overall selling, general and administrative expenses increased to $29,103,000 (26.0% of revenues) for the quarter ended June 30, 2003, from $23,065,000 (30.8% of revenues) for the quarter ended June 30, 2002, an increase of $6,038,000 or 26.2%. Selling, general and administrative expenses increased to $57,138,000 (25.1% of revenues) for the six months ended June 30, 2003, from $43,066,000 (27.7% of revenues) for the six months ended June 30, 2002, an increase of $14,072,000 or 32.7%. The increase in these expenses for the quarter and six months ended June 30, 2003 was primarily the result of increases in payroll as a result of an increase in compensation and related expenses, including an increase in bonus accrual for an employee incentive program, advertising expenses, commission due to increased revenues and an increase in legal expense. In addition the six months ended June 30, 2003 was affected by the impairment of the National Geographic license in the first quarter of 2003.

Overall net interest income was $123,000 (0.1% of revenues) and $239,000 (0.1% of revenues) for the quarter and six months ended June 30, 2003, respectively, compared to $254,000 (0.3% of revenues) and $451,000 (0.3% of revenues) for the quarter and six months ended June 30, 2002, respectively, representing a decrease of $131,000 for the quarter ended June 30, 2003 compared to the same prior year period and a decrease of $212,000 for the six months ended June 30, 2003 compared to the same prior year period. This decrease in net interest income was the result of significantly lower average interest rates as well as lower average balances.

Our effective tax rate was 39.5% for both the quarter and six months ended June 30, 2003, compared to 38.2% and 39.6% for the quarter and six months ended June 30, 2002, respectively.

Net earnings increased 108.0% to $12,619,000 for the quarter ended June 30, 2003 from $6,068,000 for the quarter ended June 30, 2002. Net earnings increased 66.9% to $26,263,000 for the six months ended June 30, 2003 from $15,736,000 for the six months ended June 30, 2002.

At June 30, 2003 and 2002 total futures orders with start ship dates from July through December 2003 and 2002 were approximately $159,073,000 and $87,087,000, respectively, an increase of 82.7%. The 82.7% increase in total futures orders is comprised of a 60.0% increase in the third quarter 2003 future orders and a 129.4% increase in the fourth quarter future orders. At June 30, 2003 and 2002, domestic futures orders with start ship dates from July through December 2003 and 2002 were approximately $140,868,000 and $74,634,000, respectively, an increase of 88.8%. At June 30, 2003 and 2002, international futures orders with start ship dates from July through December 2003 and 2002 were approximately $18,205,000 and $12,453,000, respectively, an increase of 46.2%. “Backlog”, as of any date, represents orders scheduled to be shipped within the next six months. Backlog does not include orders scheduled to be shipped on or prior to the date of determination of backlog. The mix of “futures” and “at once” orders can vary

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significantly from quarter to quarter and year to year and therefore “futures” are not necessarily indicative of revenues for subsequent periods. Orders generally may be canceled by customers without financial penalty. We believe our rate of net customer cancellations of domestic orders approximates industry averages for similar companies. Customers may also reject nonconforming goods. To date, we believe we have not experienced returns of our products or bad debts of customers materially in excess of industry averages for similar companies.

Liquidity and Capital Resources

We experienced net cash outflows of approximately $3,321,000 from our operating activities during the six months ended June 30, 2003 compared to net cash inflows of approximately $13,246,000 from our operating activities during the six months ended June 30, 2002. The change from the prior year is due primarily to changes in net earnings, accounts receivable, inventories, accounts payable and accrued liabilities.

We had a net outflow of cash from our investing activities for the six months ended June 30, 2003 and 2002 due to the purchase of property, plant and equipment.

We had a net outflow of cash from our financing activities for the six months ended June 30, 2003 and 2002 primarily due to the purchase of treasury stock.

In October 2002, we announced the completion of our September 2001 $25 million stock repurchase program and a new authorization by the Board of Directors for us to repurchase through December 2007 up to an additional $25 million of our Class A Common Stock from time to time on the open market, as market conditions warrant. We adopted this program because we believe repurchasing our shares can be a good use of excess cash depending on our array of alternatives. Currently, we have made purchases under all stock repurchase programs from August 1996 through July 28, 2003 (the day prior to the filing of this Form 10-Q) of 11.4 million shares of Class A Common Stock at an aggregate cost totaling approximately $102,756,000.

No other material capital commitments exist at June 30, 2003. Depending on our future growth rate, funds may be required by operating activities. With continued use of our revolving credit facility and internally generated funds, we believe our present and currently anticipated sources of capital are sufficient to sustain our anticipated capital needs for the remainder of 2003.

Our working capital increased $18,695,000 to $151,613,000 at June 30, 2003 from $132,918,000 at December 31, 2002.

ITEM 3.    QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

There have been no material changes from the information previously reported under Item 7A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2002.

ITEM 4.    DISCLOSURE CONTROLS AND PROCEDURES

The Company carried out an evaluation, under the supervision and with the participation of the Company’s management, including the Company’s President and Chief Executive Officer along with the Company’s Vice President of Finance and Chief Financial Officer, of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of June 30, 2003, pursuant to Exchange Act Rule 13a-15. Based upon that evaluation, the Company’s President and Chief Executive Officer along with the Company’s Vice President of Finance and Chief Financial Officer concluded that the Company’s disclosure controls and procedures as of June 30, 2003 are effective in timely alerting them to material information relating to the Company (including its consolidated subsidiaries) required to be included in the Company’s periodic S.E.C. filings.

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PART II—OTHER INFORMATION

ITEM 1:    Legal Proceedings.

In November 2001, we were sued in the U.S. Bankruptcy Court for the District of Delaware by the trustee appointed to oversee the liquidation of assets of a previous customer of ours. The trustee sought reimbursement of all payments made to us during the 90 day period prior to the bankruptcy filing. The aggregate amount of these payments, which the trustee’s counsel characterized as preferential transfers, was approximately $4,315,000, while the trustee later sought the court’s permission to add a further $600,000 in claimed preferential transfers. We believe these payments were received in the ordinary course of business and that we had meritorious defenses against the trustee’s claims. In June 2003, we reached a compromise settlement with the trustee that will require us to pay a small portion of the claimed amounts. This amount has been recognized in the quarter ended June 2003. The settlement is subject to Bankruptcy Court approval. The trustee has sought such approval, but the Court has not yet acted on the trustee’s request.

In response to our opposition to Swiss Army Brands, Inc.’s registration and intended use of Swiss Army as a trademark on footwear, Swiss Army Brands has petitioned for cancellation of our U.S. registrations for the K-Swiss trademark. These proceedings were held before the Trademark Trial and Appeal Board of the Patent and Trademark Office. We have now settled all litigation between us and Swiss Army Brands, Inc., in a manner satisfactory to both companies.

ITEM 2:    Changes in Securities.

None.

ITEM 3:    Defaults Upon Senior Securities.

None.

ITEM 4:    Submission of Matters to a Vote of Security Holders.

(a) The Annual Meeting of Stockholders was held May 22, 2003.

(b) The following directors were elected to serve until the 2004 Annual Meeting of Stockholders or until their successors have been duly elected and qualified:

(c) Of the 11,026,336 shares of Class A Common Stock represented at the meeting, the Class A Directors named in (b) above were elected by the following votes:

Of the 5,050,759 shares of Class B Common Stock represented at the meeting, the Class B Directors named in (b) above were elected by the following votes:

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ITEM 5:    Other Information.

None.

ITEM 6:    Exhibits and Reports on Form 8-K.

(a) Exhibits

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(b) Reports on Form 8-K

On April 24, 2003, the Company filed a Current Report on Form 8-K with respect to a press release issued by the Company discussing its results of operations and financial condition for the first quarter 2003.

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

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EXHIBIT INDEX