FINANCIAL CONDITION

LIQUIDITY AND CAPITAL RESOURCES
Our principal sources of funds historically have been cash flows from operations and borrowings under commercial paper, borrowings from the issuance of long-term debt and committed and uncommitted credit lines provided by banks and other lenders in the United States and abroad. At June 30, 2007, we had cash and cash equivalents of $253.7 million compared with $368.6 million at June 30, 2006.

At June 30, 2007, our outstanding borrowings were as follows:

We have a $750.0 million commercial paper program under which we may issue commercial paper in the United States. Our commercial paper is currently rated A-1 by Standard & Poor's and P-1 by Moody's. Our longterm credit ratings are A with a stable outlook by Standard & Poor's and A2 with a stable outlook by Moody's. At June 30, 2007, we had $26.5 million of commercial paper outstanding, which we may refinance on a periodic basis as it matures at then-prevailing market interest rates. We also have $178.9 million in additional uncommitted credit facilities, of which $28.9 million was used as of June 30, 2007.

Effective April 2007, we entered into a $750.0 million senior unsecured revolving credit facility, expiring on April 26, 2012, primarily to provide credit support for our commercial paper program, to repurchase shares of our common stock and for general corporate purposes. The new facility replaced our prior, undrawn $600.0 million senior unsecured revolving credit facility, which had been effective since May 27, 2005. Up to the equivalent of $250 million of the current facility is available for multicurrency loans. The interest rate on borrowings under the credit facility is based on LIBOR or on the higher of prime, which is the rate of interest publicly announced by the administrative agent, or 1/2% plus the Federal funds rate. We incurred costs of approximately $0.3 million to establish the facility which will be amortized over the term of the facility. The credit facility has an annual fee of $0.4 million, payable quarterly, based on our current credit ratings. As of June 30, 2007, we were in compliance with all related financial and other restrictive covenants, including limitations on indebtedness and liens.

In May 2007, we issued and sold the 2017 Senior Notes and the 2037 Senior Notes in a public offering. The 2017 Senior Notes were priced at 99.845% with a yield of 5.570% and the 2037 Senior Notes were priced at 98.722% with a yield of 6.093%. Interest payments on both notes are required to be made semi-annually on May 15 and November 15, commencing November 15, 2007. We used the net proceeds of this offering to repay long-term commercial paper, which was used to fund our accelerated stock repurchase program, and to pay transaction fees and expenses related to this offering.

We have a fixed rate promissory note agreement with a financial institution pursuant to which we may borrow up to $150.0 million in the form of loan participation notes through one of our subsidiaries in Europe. The interest rate on borrowings under this agreement is at an all-in fixed rate determined by the lender and agreed to by us at the date of each borrowing. At June 30, 2007, no borrowings were outstanding under this agreement. Debt issuance costs incurred related to this agreement were de minimis.

We have an overdraft borrowing agreement with a financial institution pursuant to which our subsidiary in Turkey may be credited to satisfy outstanding negative daily balances arising from its business operations. The total balance outstanding at any time shall not exceed 20.0 million Turkish lira. The interest rate applicable to each such credit shall be 40 basis points per annum above the spot rate charged by the lender or the lender's floating call rate agreed to by us at each borrowing. There were no debt issuance costs incurred related to this agreement. The outstanding balance at June 30, 2007 ($9.4 million at the exchange rate at June 30, 2007) is classified as short-term debt in our consolidated balance sheet.

We have a 3.0 billion yen revolving credit facility that expires on March 24, 2009. The interest rate on borrowings under the credit facility is based on TIBOR (Tokyo Interbank Offered Rate) and a 10 basis point facility fee is incurred on the undrawn balance. At June 30, 2007, no borrowings were outstanding under this facility.

Our business is seasonal in nature and, accordingly, our working capital needs vary. From time to time, we may enter into investing and financing transactions that require additional funding. To the extent that these needs exceed cash from operations, we could, subject to market conditions, issue commercial paper, issue long-term debt securities or borrow under our revolving credit facilities.

Total debt as a percent of total capitalization was 48% at June 30, 2007 and 24% at June 30, 2006.

The effects of inflation have not been significant to our overall operating results in recent years. Generally, we have been able to introduce new products at higher selling prices or increase selling prices sufficiently to offset cost increases, which have been moderate.

Based on past performance and current expectations, we believe that cash on hand, cash generated from operations, available credit lines and access to credit markets will be adequate to support currently planned business operations, information systems enhancements, capital expenditures, stock repurchases, commitments and other contractual obligations on both a near-term and long-term basis.

Cash Flows
Net cash provided by operating activities was $661.6 million, $709.8 million and $478.1 million in fiscal 2007, 2006 and 2005, respectively. The net decrease in operating cash flows from fiscal 2006 to fiscal 2007 reflected higher domestic and international inventory levels primarily driven by growth in new and emerging international markets, increased regulatory requirements and the building of safety stock for the recent implementation of SAP as part of our Strategic Modernization Initiative at our Aveda manufacturing facility. In addition, the decrease in operating cash flows reflected higher accounts receivable balances, primarily related to significant sales growth from our international operations. Cash flows were also impacted by cash payments made during fiscal 2007 related to our fiscal 2006 cost savings initiative. Partially offsetting the decrease was an improvement in net earnings from continuing operations.

The net increase in operating cash flows for fiscal 2006 as compared with fiscal 2005 primarily reflected favorable changes in certain working capital accounts, partially offset by a decrease in net earnings from continuing operations. Net accounts receivable balances decreased primarily reflecting higher collections domestically during fiscal 2006. Inventory levels remained constant at June 30, 2006 as compared to June 30, 2005 due to our efforts to better manage our inventory. Increases in other accrued liabilities primarily reflected higher advertising, merchandising and sampling accruals compared to fiscal 2005, as well as significant deferred compensation and supplemental pension payments made to retired executives in fiscal 2005. Additional increases in other accrued liabilities and other noncurrent liabilities reflected accrued employee separation benefits related to the Company's fiscal 2006 cost savings initiative.

Net cash used for investing activities was $373.8 million, $303.2 million and $237.0 million in fiscal 2007, 2006 and 2005. The increase in cash flows used for investing activities as compared with fiscal 2006 primarily reflected capital expenditures, which reflected our continuing company- wide initiative to upgrade our information systems, store improvements and counter construction. Fiscal 2007 investing activities also reflected the purchase of the remaining equity interest in Bumble and Bumble Products, LLC and Bumble and Bumble, LLC, as well as the acquisition of businesses engaged in the wholesale distribution and retail sale of our products in the United States and other countries. The increase in cash flows used for investing activities during fiscal 2006 primarily reflected the cash payment related to the Jo Malone Limited earn-out provision and, to a lesser extent, Aveda distributor acquisitions. Capital expenditures also increased in fiscal 2006 primarily reflecting our continued company-wide initiative to upgrade our information systems, which was initiated in fiscal 2005. Fiscal 2005 capital expenditures reflected those costs related to our information systems as well as the investment in leasehold improvements for our corporate offices.

Cash used for financing activities was $411.6 million, $594.6 million and $300.4 million in fiscal 2007, 2006 and 2005, respectively. Net cash flows related to short-term and long-term borrowings increased approximately $722.1 million from the prior year. An increase in proceeds from employee stock transactions of approximately $87 million also contributed to the improvement. Partially offsetting these improvements were increases in treasury stock repurchases of approximately $604 million and an increase of approximately $18 million in dividends paid to stockholders. During fiscal 2006, in addition to common stock repurchases and dividend payments, cash flows used for financing activities reflected the repayment of short-term commercial paper that was outstanding at June 30, 2005 and the October 2005 redemption of the remaining 2015 Preferred Stock. These outflows were partially offset by short-term borrowings under our loan participation note program. The 3.0 billion yen term loan outstanding at the end of fiscal 2005 was refinanced by borrowings under the new 3.0 billion yen revolving credit facility that we entered into in March 2006. The net cash used for financing activities in fiscal 2005 primarily reflected common stock repurchases and dividend payments, partially offset by the issuance of short-term commercial paper to fund working capital needs and the receipt of proceeds from employee stock option transactions.

Dividends
On October 25, 2006, the Board of Directors declared an annual dividend of $.50 per share on our Class A and Class B Common Stock, of which an aggregate of $103.6 million was paid on December 27, 2006 to stockholders of record at the close of business on December 8, 2006. The annual common stock dividend declared during fiscal 2006 was $.40 per share, of which an aggregate of $85.4 million was paid on December 28, 2005 to stockholders of record at the close of business on December 9, 2005. Dividends on the 2015 Preferred Stock were $0.5 million for fiscal 2006 and were characterized as interest expense in the accompanying consolidated statement of earnings. 2015 Preferred Stock was redeemed in October 2005.

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