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TORONTO, June 4 /PRNewswire-FirstCall/ -- Harry Winston Diamond Corporation (TSX: HW; NYSE: HWD) today reported first quarter results for the period ending April 30, 2008. The Company recorded an increase in consolidated sales for the quarter of 10%, generating an 18% increase in gross margin and a 10% increase in consolidated earnings from operations compared to the results of the first quarter of the prior year. Consolidated quarterly sales totalled $156.1 million with earnings from operations of $39.6 million compared to $141.4 million and $36.0 million, respectively, for the comparable quarter of the prior year. Net earnings were $21.3 million, or $0.35 per share, compared to net earnings of $3.3 million, or $0.06 per share, respectively, in the first quarter of the prior year. Net earnings for the comparable quarter of the prior year were reduced by a net $13.3 million foreign exchange loss, or $0.23 per share, as a result of the strengthening of the Canadian dollar relative to the US dollar during the quarter, compared to a net $0.2 million foreign exchange gain in the current quarter. Earnings from operations for the mining segment increased 13% to $42.0 million compared to the comparable quarter of the prior year. Extreme cold temperatures, compounded by the mining of a lower-grade section of the A-154 South ore body, caused a 31% decrease in carat production, with 0.7 million being produced in the quarter versus 1.0 million for the comparable quarter of the prior year. Mining sales, however, were down only 2% to $81.4 million as higher diamond prices compensated for reduced volume. The retail segment recorded a 27% increase in sales to $74.7 million. However, a $2.0 million non-recurring expense related to restructuring and improvements carried out at the Geneva watch factory resulted in the retail segment recording a loss from operations of $2.4 million. Excluding the impact of the restructuring charge, loss from operations would have been $0.3 million compared to a loss of $1.1 million in the comparable quarter of the prior year. First Quarter Fiscal 2009 Financial Highlights (US$ in millions except Earnings per Share amounts) ------------------------------------------------------------------------- Three months Three months Twelve months ended ended ended Apr. 30, Apr. 30, Jan. 31, 2008 2007 2008 ------------------------------------------------------------------------- Sales 156.1 141.4 679.4 ------------------------------------------------------------------------- Earnings from operations 39.6 36.0 217.7 ------------------------------------------------------------------------- Net earnings 21.3 3.3 106.4 ------------------------------------------------------------------------- Earnings per share $0.35 $0.06 $1.82 ------------------------------------------------------------------------- "This quarter has delivered improved operating results in both of our business segments despite a rough diamond production shortfall and a troubled economy in the principle diamond retail market of the US. Robust pricing continues for the white rough diamonds that are the signature of the Diavik Mine as production shortfalls meet increased demand from emerging economies. Our jewelry business has turned in exceptional sales growth, principally from global customers beyond the US, as we continue to improve both revenues and costs in this truly global brand," said Robert Gannicott, Chairman and Chief Executive Officer. Thomas J. O'Neill, President of Harry Winston Diamond Corporation added, "First quarter sales in our retail segment were particularly strong as our strategy to build market share through a growing network of salons and strengthening our watch business progressed. Although gross margin was impacted by high value individual sales at lower margins, this was mitigated by lower SG&A as a percentage of the increased sales base. Transactions to Asian, Russian and Middle Eastern clients more than offset the decline in the US and continue to grow as a proportion of our business. We look forward to a year of continued sales growth and improved profitability." Dividend Announcement Harry Winston Diamond Corporation is pleased to declare an eligible quarterly dividend payment of US$0.05 per share. Shareholders of record at the close of business on July 15, 2008, will be entitled to receive payment of this dividend on July 29, 2008. Annual Meeting of Shareholders and Webcast As previously announced, Harry Winston Diamond Corporation will hold its Annual Meeting of Shareholders on June 4th at 10:00AM EDT at the Fairmont Royal York Hotel located at 100 Front Street West, Toronto, Ontario. Interested parties unable to attend may listen to a webcast of the meeting and a review of the first quarter results on the company's web site at http://investor.harrywinston.com/. An online archive of the webcast will be available on the company's website at http://investor.harrywinston.com/ later the same day. Information in this news release that is not current or historical factual information may constitute forward-looking information or statements within the meaning of applicable securities laws. Implicit in this information, particularly in respect of statements as to future operating results and economic performance of Harry Winston Diamond Corporation, are assumptions regarding world economic conditions, projected revenue and expenses, diamond prices, and the Canadian/US dollar exchange rate. Specifically, in estimating Harry Winston Diamond Corporation's share of the Diavik Mine capital expenditure requirements, Harry Winston Diamond Corporation has used a Canadian/US dollar exchange rate of $1.00, and has assumed that construction will continue on schedule and without undue disruption with respect to current underground mining construction initiatives. These assumptions, although considered reasonable by Harry Winston Diamond Corporation at the time of preparation, may prove to be incorrect. Forward-looking information is subject to certain factors, including risks and uncertainties, which could cause actual results to differ materially from what we currently expect. These factors include, among other things, the uncertain nature of mining and mine development activities, risks associated with underground construction activities, risks associated with joint venture operations, risks associated with the remote location of the Diavik Mine site, risks associated with regulatory and financing requirements, fluctuations in diamond prices, changes in world economic conditions, increased competition from other luxury goods retailers, changes in consumer preferences and tastes in jewelry, and the risk of continued fluctuations in the Canadian/US dollar exchange rate. About Harry Winston Diamond Corporation Harry Winston Diamond Corporation (TSX: HW; NYSE: HWD) is a specialist diamond enterprise with assets in the mining and retail segments of the diamond industry. The company supplies rough diamonds to the global market from its 40% interest in the Diavik Diamond Mine, located in Canada's Northwest Territories. The company's retail division, Harry Winston, Inc., is a premier jewelry and timepiece retailer with salons in key locations including New York, Paris, London, Beijing, Tokyo and Beverly Hills. For more information, please go to http://www.harrywinston.com/ or for investor information, visit investor.harrywinston.com. Highlights (All figures are in United States dollars unless otherwise indicated) The Company recorded an increase in consolidated sales for the quarter of 10%, generating an 18% increase in gross margin and a 10% increase in consolidated earnings from operations compared to the results of the first quarter of the prior year. Consolidated quarterly sales totalled $156.1 million with earnings from operations of $39.6 million compared to $141.4 million and $36.0 million, respectively, for the comparable quarter of the prior year. Net earnings were $21.3 million, or $0.35 per share, compared to net earnings of $3.3 million, or $0.06 per share, respectively, in the first quarter of the prior year. Net earnings for the comparable quarter of the prior year were reduced by a net $13.3 million foreign exchange loss, or $0.23 per share, as a result of the strengthening of the Canadian dollar relative to the US dollar during the quarter, compared to a net $0.2 million foreign exchange gain in the current quarter. Earnings from operations for the mining segment increased 13% to $42.0 million compared to the comparable quarter of the prior year. Extreme cold temperatures compounded by the mining of a lower-grade section of the A-154 South ore body, caused a 31% decrease to 0.7 million carats produced versus 1.0 million for the comparable quarter of the prior year. Mining sales, however, were down only 2% to $81.4 million as higher diamond prices compensated for reduced volume. The retail segment recorded a 27% increase in sales to $74.7 million. Although the retail segment recorded a loss from operations of $2.4 million compared to $1.1 million in the comparable quarter of the prior year, the selling, general and administrative expenses included approximately $2.0 million of non-recurring expenses related to restructuring and improvements carried out at the Geneva watch factory. Retail segment SG&A as a percentage of sales decreased to 48% in the first quarter from 50% in the comparable quarter of the prior year. Excluding the impact of the non-recurring expenses, SG&A as a percentage of sales would have been 46%. Management's Discussion and Analysis Prepared as of June 3, 2008 (all figures are in United States dollars unless otherwise indicated) The following is management's discussion and analysis ("MD&A") of the results of operations for Harry Winston Diamond Corporation (the "Company") for the three months ended April 30, 2008, and its financial position as at April 30, 2008. This MD&A is based on the Company's consolidated financial statements prepared in accordance with generally accepted accounting principles in Canada ("Canadian GAAP") and should be read in conjunction with the unaudited consolidated financial statements and notes thereto for the three months ended April 30, 2008 and the audited consolidated financial statements of the Company and notes thereto for the year ended January 31, 2008. Unless otherwise specified, all financial information is presented in United States dollars. Unless otherwise indicated, all references to "first quarter" refer to the three months ended April 30, 2008 and all references to "international" for the retail segment refer to Europe and Asia. Certain comparative figures have been reclassified to conform with the current year's presentation. Caution Regarding Forward-Looking Information Certain information included in this MD&A may constitute forward-looking information within the meaning of Canadian and United States securities laws. In some cases, forward-looking information can be identified by the use of terms such as "may", "will", "should", "expect", "plan", "anticipate", "believe", "intend", "estimate", "predict", "potential", "continue" or other similar expressions concerning matters that are not historical facts. Forward-looking information may relate to management's future outlook and anticipated events or results, and may include statements or information regarding plans, timelines and targets for construction, mining, development, production and exploration activities at the Diavik Diamond Mine, future mining and processing at the Diavik Diamond Mine, projected capital expenditure requirements and the funding thereof, new salon openings, liquidity and working capital requirements and sources, estimated reserves and resources at, and production from, the Diavik Diamond Mine, the number and timing of expected rough diamond sales, expected diamond prices and expectations concerning the diamond industry, expected cost of sales and gross margin trends in the mining segment, and expected sales trends in the retail segment. Actual results may vary. See "Risks and Uncertainties". Forward-looking information is based on certain factors and assumptions regarding, among other things, mining, production, construction and exploration activities at the Diavik Diamond Mine, credit market conditions and the ability of the Company to refinance its existing credit facilities, the level of worldwide diamond production and world and US economic conditions. Specifically, in estimating Harry Winston Diamond Corporation's projected share of the Diavik Diamond Mine capital expenditure requirements over the next two years, Harry Winston Diamond Corporation has used an average Canadian/US dollar exchange rate of $0.99, and has assumed that construction will continue on schedule and without undue disruption with respect to current underground mining construction initiatives. In making statements regarding estimated production at the Diavik Diamond Mine and future mining activity and mine plans, including plans, timelines and targets for construction, mining, development, production and exploration activities at the Diavik Diamond Mine, and future rough diamond sales, Harry Winston Diamond Corporation has assumed, among other things, that mining operations and construction and exploration activities will proceed in the ordinary course according to schedule and consistent with past results. In making statements regarding expected diamond prices and expectations concerning the diamond industry and expected sales trends in the retail segment, the Company has made assumptions regarding, among other things, world and US economic conditions. While Harry Winston Diamond Corporation considers these assumptions to be reasonable based on the information currently available to it, they may prove to be incorrect. See "Risks and Uncertainties". Forward-looking information is subject to certain factors, including risks and uncertainties, which could cause actual results to differ materially from what we currently expect. These factors include, among other things, the uncertain nature of mining activities, including risks associated with underground construction and mining operations, risks associated with joint venture operations, risks associated with the remote location of and harsh climate at the Diavik Diamond Mine site, risks associated with regulatory requirements, fluctuations in diamond prices and changes in US and world economic conditions, the risk of fluctuations in the Canadian/US dollar exchange rate, financing and credit market risk, risks relating to the Company's salon expansion strategy and the risks of competition in the luxury jewelry segment. Please see page 18 of this Interim Report, as well as the Company's Annual Report, available at http://www.sedar.com/, for a discussion of these and other risks and uncertainties involved in Harry Winston Diamond Corporation's operations. Readers are cautioned not to place undue importance on forward-looking information, which speaks only as of the date of this Management's Discussion and Analysis, and should not rely upon this information as of any other date. Due to assumptions, risks and uncertainties, including the assumptions, risks and uncertainties identified above and elsewhere in this Management's Discussion and Analysis, actual events may differ materially from current expectations. While Harry Winston Diamond Corporation may elect to, it is under no obligation and does not undertake to update or revise any forward-looking information, whether as a result of new information, future events or otherwise at any particular time, except as required by law. Additional information concerning factors that may cause actual results to materially differ from those in such forward-looking statements is contained in the Harry Winston Diamond Corporation's filings with Canadian and United States securities regulatory authorities and can be found at http://www.sedar.com/ and http://www.sec.gov/ respectively. Summary Discussion Harry Winston Diamond Corporation is a specialist diamond company focusing on the mining and retail segments of the diamond industry. The Company supplies rough diamonds to the global market from production received from its 40% ownership interest in the Diavik Diamond Mine, located off Lac de Gras in Canada's Northwest Territories. The Company also owns a 100% interest in Harry Winston Inc., the premier fine jewelry and watch retailer. Harry Winston Diamond Corporation's mission is to deliver shareholder value through the enhanced earning power and longevity of the Diavik Diamond Mine asset as the cornerstone of a profitable synergy with the Harry Winston brand. In a changing diamond market-place, Harry Winston Diamond Corporation has charted a unique course to continue to build shareholder value. The Company's most significant asset is a 40% interest in the Diavik group of mineral claims. The Diavik Joint Venture (the "Joint Venture") is an unincorporated joint arrangement between Diavik Diamond Mines Inc. ("DDMI") (60%) and Harry Winston Diamond Mines Ltd. (40%) where Harry Winston Diamond Corporation owns an undivided 40% interest in the assets, liabilities and expenses. DDMI is the operator of the Diavik Diamond Mine. Both companies are headquartered in Yellowknife, Canada. DDMI is a wholly owned subsidiary of Rio Tinto plc of London, England, and Harry Winston Diamond Mines Ltd. is a wholly owned subsidiary of Harry Winston Diamond Corporation of Toronto, Canada. Market Commentary The Diamond Market The current quarter saw continuing price rises in the larger, better-quality rough diamonds, while the price of lower-quality rough diamonds remained unchanged in response to softening US demand. The demand in the Asian markets remained robust in all price ranges. The Retail Jewelry Market The global luxury diamond jewelry market continued to show strength in the first quarter of calendar 2008. Luxury retailers with operations outside of the US have experienced solid sales results, especially in the Asian, Russian and Middle Eastern markets. In the US, the higher end of the retail jewelry market has been impacted by the downturn in the economy but to a lesser extent than the broad-based jewelry market, where Harry Winston does not conduct business. Consolidated Financial Results The following is a summary of the Company's consolidated quarterly results for the eight quarters ended April 30, 2008 following the basis of presentation utilized in the Company's Canadian GAAP financial statements: (expressed in thousands of United States dollars except per share amounts and where otherwise noted) (quarterly results are unaudited) ------------------------------------------------------------------------- 2009 2008 2008 2008 2008 Q1 Q4 Q3 Q2 Q1 ------------------------------------------------------------------------- Sales $156,079 $188,195 $176,478 $173,269 $141,365 Cost of sales 73,149 83,637 74,591 81,827 71,132 ------------------------------------------------------------------------- Gross margin 82,930 104,558 101,887 91,442 70,233 Gross margin (%) 53.1% 55.6% 57.7% 52.8% 49.7% Selling, general and administrative expenses 43,285 45,494 35,539 35,201 34,211 ------------------------------------------------------------------------- Earnings from operations 39,645 59,064 66,348 56,241 36,022 ------------------------------------------------------------------------- Interest and financing expenses (5,453) (7,082) (7,422) (7,222) (6,132) Other income (expense) 246 706 594 545 913 Insurance settlement - 13,488 - - - Foreign exchange gain (loss) 155 22,270 (40,584) (11,785) (13,292) ------------------------------------------------------------------------- Earnings before income taxes 34,593 88,446 18,936 37,779 17,511 Income taxes (recovery) 13,336 (1,968) 26,197 17,747 14,118 ------------------------------------------------------------------------- Earnings (loss) before minority interest 21,257 90,414 (7,261) 20,032 3,393 Minority interest 1 (34) 90 (26) 140 ------------------------------------------------------------------------- Net earnings (loss) $ 21,256 $ 90,448 $ (7,351) $ 20,058 $ 3,253 ------------------------------------------------- ------------------------------------------------- Basic earnings (loss) per share $ 0.35 $ 1.55 $ (0.13) $ 0.34 $ 0.06 Diluted earnings (loss) per share $ 0.35 $ 1.54 $ (0.13) $ 0.33 $ 0.05 Cash dividends declared per share $ 0.05 $ 0.05 $ 0.25 $ 0.25 $ 0.25 Total assets(i) $ 1,591 $ 1,494 $ 1,433 $ 1,367 $ 1,315 Total long-term liabilities(i) $ 634 $ 660 $ 530 $ 486 $ 408 ------------------------------------------------------------------------- ------------------------------------------------------------------------- Three Three months months ended ended 2007 2007 2007 April 30, April 30, Q4 Q3 Q2 2008 2007 ------------------------------------------------------------------------- Sales $154,328 $145,232 $139,962 $156,079 $141,365 Cost of sales 78,559 74,636 68,458 73,149 71,132 ------------------------------------------------------------------------- Gross margin 75,769 70,596 71,504 82,930 70,233 Gross margin (%) 49.1% 48.6% 51.1% 53.1% 49.7% Selling, general and administrative expenses 38,590 33,480 27,171 43,285 34,211 ------------------------------------------------------------------------- Earnings from operations 37,179 37,116 44,333 39,645 36,022 ------------------------------------------------------------------------- Interest and financing expenses (6,441) (5,570) (4,805) (5,453) (6,132) Other income (expense) (111) 1,764 1,805 246 913 Insurance settlement - - - - - Foreign exchange gain (loss) 9,831 (1,560) 2,619 155 (13,292) ------------------------------------------------------------------------- Earnings before income taxes 40,458 31,750 43,952 34,593 17,511 Income taxes (recovery) 13,169 13,005 9,692 13,336 14,118 ------------------------------------------------------------------------- Earnings (loss) before minority interest 27,289 18,745 34,260 21,257 3,393 Minority interest (5) (86) (5) 1 140 ------------------------------------------------------------------------- Net earnings (loss) $ 27,294 $ 18,831 $ 34,265 $ 21,256 $ 3,253 ------------------------------------------------- ------------------------------------------------- Basic earnings (loss) per share $ 0.47 $ 0.32 $ 0.59 $ 0.35 $ 0.06 Diluted earnings (loss) per share $ 0.46 $ 0.32 $ 0.58 $ 0.35 $ 0.05 Cash dividends declared per share $ 0.25 $ 0.25 $ 0.25 $ 0.05 $ 0.25 Total assets(i) $ 1,288 $ 1,246 $ 1,116 $ 1,591 $ 1,315 Total long-term liabilities(i) $ 536 $ 530 $ 460 $ 634 $ 408 ------------------------------------------------------------------------- (i) Total assets and total long-term liabilities are expressed in millions of United States dollars. The comparability of quarter-over-quarter results is impacted by seasonality for both the mining and retail segments. Harry Winston Diamond Corporation expects that the quarterly results for its mining segment will continue to fluctuate depending on the seasonality of production at the Diavik Diamond Mine, the number of rough diamond sales events conducted during the quarter, and the volume, size and quality distribution of rough diamonds delivered from the Diavik Diamond Mine in each quarter. The quarterly results for the retail segment are also seasonal, with generally higher sales during the fourth quarter due to the holiday season. See "Segmented Analysis" on page 8 for additional information. Three Months Ended April 30, 2008 Compared to Three Months Ended April 30, 2007 Consolidated Net Earnings The first quarter earnings of $21.3 million or $0.35 per share represent an increase of $18.0 million or $0.29 per share as compared to the results of the first quarter of the prior year. The increase is due in part to a net foreign exchange gain of $0.2 million in the current quarter compared to a $13.3 million net foreign exchange loss, or $0.23 per share, recognized in the comparable quarter of the prior year related principally to an unrealized non-cash loss on future income taxes payable. For more detail on the impact of the foreign exchange gain on future income taxes payable and the future income tax recovery, see "Consolidated Income Taxes" below. Consolidated Sales Sales for the first quarter totalled $156.1 million, consisting of rough diamond sales of $81.4 million and retail segment sales of $74.7 million. This compares to sales of $141.4 million in the comparable quarter of the prior year (rough diamond sales of $82.8 million and retail segment sales of $58.6 million). The Company held two primary rough diamond sales, one of which was an open-market tender, in the first quarter compared to the same number in the comparable quarter of the prior year. Ongoing quarterly variations in revenues are inherent in the Company's business, resulting from the seasonality of the mining and retail activities as well as from the variability of the rough diamond sales schedule. Consolidated Cost of Sales and Gross Margin The Company's first quarter cost of sales was $73.1 million for a gross margin of 53.1% compared to $71.1 million cost of sales and a gross margin of 49.7% for the comparable quarter of the prior year. The Company's cost of sales includes costs associated with mining, rough diamond sorting and retail sales activities. See "Segmented Analysis" on page 8 for additional information. Consolidated Selling, General and Administrative Expenses The principal components of selling, general and administrative ("SG&A") expenses include expenses for salaries and benefits (including salon personnel), advertising, professional fees, rent and building related costs. The Company incurred SG&A expenses of $43.3 million for the first quarter, compared to $34.2 million in the comparable quarter of the prior year. Included in SG&A expenses for the first quarter are $7.2 million for the mining segment as compared to $5.1 million for the comparable quarter of the prior year, and $36.1 million for the retail segment as compared to $29.1 million for the comparable quarter of the prior year. For the mining segment, $0.9 million of the increase was due to a mark-to-market adjustment to stock-based compensation, and $0.8 million of the increase related to higher salaries and benefits. For the retail segment, the increase was as a result of our continued investment in the Harry Winston brand, and reflected an increase in salaries and benefits, rent and building related expenses and depreciation and amortization expense. Retail segment SG&A expenses also included approximately $2.0 million of non-recurring expenses related to restructuring and improvements carried out at the Geneva watch factory. See "Segmented Analysis" on page 8 for additional information. Consolidated Income Taxes The Company recorded a tax expense of $13.3 million during the first quarter compared to a tax expense of $14.1 million in the comparable quarter of the prior year. The Company's effective income tax rate for the quarter, excluding Harry Winston's retail segment, is 38%, which is based on a statutory income tax rate of 31% adjusted for various items including Northwest Territories mining royalty, impact of foreign exchange, and earnings subject to tax different than the statutory rate. The Company's functional and reporting currency is US dollars; however, the calculation of income tax expense is based on income in the currency of the country of origin. As such, the Company is continually subject to foreign exchange fluctuations, particularly as the Canadian dollar moves against the US dollar. The weakening of the Canadian dollar during the first quarter resulted in an unrealized foreign exchange gain of $0.9 million on the revaluation of the Canadian denominated future income tax liability, compared to an unrealized foreign exchange loss of $13.6 million recorded in the comparable quarter of the prior year. This unrealized foreign exchange gain is not taxable for Canadian income tax purposes. The rate of income tax payable by Harry Winston Inc. varies by jurisdiction. Net operating losses are available in certain jurisdictions to offset future income taxes payable in such jurisdictions. The net operating losses are scheduled to expire through 2027. Three months Three months ended ended April 30, April 30, 2008 2007 ------------------------------------------------------------------------- Statutory income tax rate 31% 34% Stock compensation 0% 1% Northwest Territories mining royalty (net of income tax relief) 12% 16% Impact of foreign exchange (3)% 29% Earnings subject to tax different than statutory rate (4)% (5)% Changes in valuation allowance 1% 0% Benefits of losses recognized through reduction of goodwill 0% 5% Assessments and adjustments 2% 0% Other items (1)% 1% Effective income tax rate 38% 81% ------------------------------------------------------------------------- Consolidated Interest and Financing Expenses Interest and financing expenses of $5.5 million were incurred during the first quarter compared to $6.1 million during the comparable quarter of the prior year. Consolidated Other Income Other income of $0.2 million was recorded during the quarter compared to other income of $0.9 million in the comparable quarter of the prior year. Consolidated Foreign Exchange Gain A net foreign exchange gain of $0.2 million was recognized during the quarter compared to a net loss of $13.3 million in the comparable quarter of the prior year. The gain in the current quarter relates principally to the revaluation of the Company's Canadian dollar denominated long-term future income tax liability as a result of the weakening of the Canadian dollar against the US dollar at quarter end. The Company's ongoing currency exposure relates primarily to expenses and obligations incurred in Canadian dollars, as well as the revaluation of certain Canadian monetary balance sheet amounts. The Company does not currently have any significant derivative instruments outstanding. Segmented Analysis The operating segments of the Company include mining and retail segments. Mining The mining segment includes the production and sale of rough diamonds. (expressed in thousands of United States dollars) (quarterly results are unaudited) ------------------------------------------------------------------------- 2009 2008 2008 2008 2008 Q1 Q4 Q3 Q2 Q1 ------------------------------------------------------------------------- Sales $ 81,393 $103,238 $122,711 $105,071 $ 82,752 Cost of sales 32,150 36,962 45,985 46,217 40,516 ------------------------------------------------------------------------- Gross margin 49,243 66,276 76,726 58,854 42,236 Gross margin (%) 60.5% 64.2% 62.5% 56.0% 51.0% Selling, general and administrative expenses 7,208 5,663 6,748 5,861 5,087 ------------------------------------------------------------------------- Earnings from operations $ 42,035 $ 60,613 $ 69,978 $ 52,993 $ 37,149 ------------------------------------------------- ------------------------------------------------- ------------------------------------------------------------------------- Three Three months months ended ended 2007 2007 2007 April 30, April 30, Q4 Q3 Q2 2008 2007 ------------------------------------------------------------------------- Sales $ 81,035 $ 90,754 $ 91,476 $ 81,393 $ 82,752 Cost of sales 39,413 45,461 43,256 32,150 40,516 ------------------------------------------------------------------------- Gross margin 41,622 45,293 48,220 49,243 42,236 Gross margin (%) 51.4% 49.9% 52.7% 60.5% 51.0% Selling, general and administrative expenses 7,397 4,665 4,373 7,208 5,087 ------------------------------------------------------------------------- Earnings from operations $ 34,225 $ 40,628 $ 43,847 $ 42,035 $ 37,149 ------------------------------------------------- ------------------------------------------------- Three Months Ended April 30, 2008 Compared to Three Months Ended April 30, 2007 Mining Sales Rough diamond sales for the quarter totalled $81.4 million compared to $82.8 million in the comparable quarter of the prior year resulting from a combination of lower carat production offset by higher pricing. During the quarter, the persistent very low temperatures that enabled an early start to a successful winter road season made the challenges of winter mining in the open pit more acute than usual, affecting equipment reliability and productivity and resulting in lower processed ore and carats recovered. This was further compounded by the mining of a lower grade section of the A-154 South pipe. This section of the pipe yielded a grade of approximately 4.0 carats per tonne versus a global grade for the entire pipe of 5.2 carats per tonne based on the April 2000 feasibility study. The Company held two primary rough diamond sales, one of which was an open-market tender, in the first quarter compared to the same number in the comparable quarter of the prior year. With the Company's continued expansion of its global rough diamond sales network, sales are now conducted throughout the quarter in each of the Company's three selling offices located in Belgium, Israel and India. The Company expects that results for its mining segment will continue to fluctuate depending on the seasonality of production at the Diavik Diamond Mine, the number of primary and secondary sales events conducted at each sales location during the quarter, and the volume, size and quality distribution of rough diamonds delivered from the Diavik Diamond Mine in each quarter. Mining Cost of Sales and Gross Margin The Company's first quarter cost of sales was $32.2 million for a gross margin of 60.5% compared to a $40.5 million cost of sales and a gross margin of 51.0% in the comparable quarter of the prior year. The reduction in cost of sales resulted primarily from a greater proportion of cost attributable to development activity versus production activity. The mining gross margin is anticipated to fluctuate between quarters, resulting from variations in the specific mix of product sold during each quarter and the nature of the mining activities. A substantial portion of cost of sales is mine operating costs, which are incurred at the Diavik Diamond Mine. Cost of sales also includes rough diamond sorting costs, which consist of the Company's cost of handling and sorting product in preparation for sales to third parties, and amortization and depreciation, the majority of which is recorded using the unit-of-production method over estimated proven and probable reserves. Mining Selling, General and Administrative Expenses SG&A expenses for the mining segment increased by $2.1 million from the comparable period of the prior year due to a $0.9 million mark-to-market adjustment to stock-based compensation and a $0.8 million increase in salaries and benefits. Retail The retail segment includes sales from Harry Winston's salons, which are located in prime markets around the world including seven salons in the United States: New York, Beverly Hills, Bal Harbour, Honolulu, Las Vegas, Dallas and Chicago; five salons in Japan: Ginza, Roppongi Hills, Osaka, Omotesando and Nagoya; three salons in Europe: Paris, London and Geneva; and three salons in Asia outside of Japan: Beijing, Taipei and Hong Kong. (expressed in thousands of United States dollars) (quarterly results are unaudited) ------------------------------------------------------------------------- 2009 2008 2008 2008 2008 Q1 Q4 Q3 Q2 Q1 ------------------------------------------------------------------------- Sales $ 74,686 $ 84,957 $ 53,767 $ 68,198 $ 58,613 Cost of sales 40,999 46,675 28,606 35,610 30,616 ------------------------------------------------------------------------- Gross margin 33,687 38,282 25,161 32,588 27,997 Gross margin (%) 45.1% 45.1% 46.8% 47.8% 47.8% Selling, general and administrative expenses 36,077 39,831 28,791 29,340 29,124 ------------------------------------------------------------------------- Earnings (loss) from operations $ (2,390) $ (1,549) $ (3,630) $ 3,248 $ (1,127) ------------------------------------------------- ------------------------------------------------- ------------------------------------------------------------------------- Three Three months months ended ended 2007 2007 2007 April 30, April 30, Q4 Q3 Q2 2008 2007 ------------------------------------------------------------------------- Sales $ 73,293 $ 54,478 $ 48,486 $ 74,686 $ 58,613 Cost of sales 39,146 29,175 25,202 40,999 30,616 ------------------------------------------------------------------------- Gross margin 34,147 25,303 23,284 33,687 27,997 Gross margin (%) 46.6% 46.4% 48.0% 45.1% 47.8% Selling, general and administrative expenses 31,193 28,815 22,798 36,077 29,124 ------------------------------------------------------------------------- Earnings (loss) from operations $ 2,954 $ (3,512) $ 486 $ (2,390) $ (1,127) ------------------------------------------------- ------------------------------------------------- Three Months Ended April 30, 2008 Compared to Three Months Ended April 30, 2007 Retail Sales Sales for the first quarter were $74.7 million compared to $58.6 million for the comparable quarter of the prior year. The 27% increase in Harry Winston Inc. sales relative to the comparable quarter of the prior year is primarily attributable to strong momentum in Asia and Russia. Sales in the Asian market increased 52% to $18.1 million, European sales increased 42% to $31.7 million and US sales increased 2% to $24.9 million. Retail Cost of Sales and Gross Margin Cost of sales for Harry Winston Inc. for the first quarter was $41.0 million compared to $30.6 million for the comparable quarter of the prior year. Gross margin for the quarter was $33.7 million or 45.1% compared to $28.0 million or 47.8% for the first quarter of the prior year. Excluding the impact of sales of Harry Winston Inc. pre-acquisition inventory, gross margin for the first quarter and the comparable quarter of the prior year would have been 47.3% and 51.6%, respectively. Gross margin for the first quarter was impacted primarily by three factors: an increased contribution of high dollar value transactions, which carry lower-than-average gross margins; an increase in costs related to precious metals and gem stones; and an increase in research and development costs to support the growing watch business. Retail Selling, General and Administrative Expenses With the expansion of the new international salon activity consistent with the Company's retail growth strategy, SG&A expenses increased to $36.1 million from $29.1 million in the comparable quarter of the prior year. However, SG&A as a percentage of sales decreased to 48.3% in the first quarter from 49.7% in the comparable quarter of the prior year. The increase, which was primarily due to the continued expansion of the retail salon network, included an increase of $2.3 million in rent and building related expenses, an increase of $1.6 million in salaries and benefits, and an increase of $1.3 million in depreciation and amortization. These increases were partially offset by a $1.1 million decrease in advertising and selling expenses. Additionally, SG&A expenses included approximately $2.0 million of non-recurring expenses related to restructuring and improvements carried out at the Geneva watch factory. SG&A expenses include depreciation and amortization expense of $3.2 million compared to $1.9 million in the comparable quarter of the prior year. Operational Update Harry Winston Diamond Corporation's results of operations include results from its mining and retail operations. Mining Segment During the first calendar quarter of 2008, the Diavik Diamond Mine produced 1.8 million carats from 0.47 million tonnes of ore sourced entirely from the A-154 South kimberlite pipe. Extreme cold temperatures experienced in the first calendar quarter affected equipment reliability and productivity, resulting in lower processed ore and 31% less carats recovered. This was further compounded by the mining of a lower-grade area of the A-154 pipe. Detailed sampling of the area already mined shows sample grades ranging from as low as 2 carats per tonne to over 9 carats per tonne, with an average of 4 carats per tonne. This short-range grade variation within the longer range ore reserve is a common feature of diamond mineralization due to the size range and distribution of the diamonds within the host rock. This shortfall is not expected to persist through the balance of the A-154 South kimberlite pipe. A program of detailed drilling to confirm the A-154 South underground reserve grade will be undertaken from the pit floor after open pit mining finishes at year end. Given that it has been the active mining area, there has been less definition drilling on this pipe than on A-154 North and A-418, which make up the bulk of the underground mining reserve. The Diavik Diamond Mine successfully completed its 2008 winter road program in April, with 4,174 loads transported to the site. In addition to supplies required to support day-to-day mining operations of its open pits, the Diavik Diamond Mine trucked additional loads of fuel, cement, explosives, equipment and materials to support construction currently underway to prepare for underground mining, expected to begin in calendar 2009. Preparation of the new A-418 open pit is continuing as planned, with sustainable diamond production expected to begin towards the end of the calendar year. Construction of surface infrastructure to support underground mining continues on the crusher and the paste backfill plant, and on the expansion of the water treatment and power plants. A fifth fuel tank was commissioned to meet the increasing electricity requirements of underground mining. Diamond production from underground is scheduled to begin in calendar 2009, and is expected to replace open pit mining by calendar 2012. In exploration, a large diameter reverse circulation drilling program was successfully conducted from the ice to obtain an additional bulk sample to better define the A-21 kimberlite pipe, located near the existing mining operations. The results of this drilling program are still pending. In addition, an aggressive exploration program has been started on the Joint Venture's substantial claim block around the mine site, with a budget of CDN $10.0 million for calendar 2008. The Company's expectations for capital expenditures to support the new mine plan's underground development remain at approximately $221 million over the next two years, assuming among other factors a Canadian/US dollar average exchange rate of $0.99. It is expected that the funds for this capital expenditure program will come from a combination of cash from operations, proceeds from the recent common share private placement and a refinancing of the Company's credit facility. Harry Winston Diamond Corporation's 40% Share of Diavik Diamond Mine Production (reported on a one-month lag) Three months Three months Twelve months ended ended ended March 31, March 31, December 31, 2008 2007 2007 ------------------------------------------------------------------------- Diamonds recovered (000s carats) 714 1,034 4,777 Grade (carats/tonne) 4.08 4.97 4.97 ------------------------------------------------------------------------- Retail Segment For the quarter ended April 2008, the retail segment generated sales growth of 27% over the comparable period of the prior year. Strong sales growth outside of the US more than offset softer sales in the US market. Gross margin for the first quarter was impacted primarily by three factors: an increased contribution of high dollar value transactions, which carry lower-than-average gross margins; an increase in costs related to precious metals and gem stones; and an increase in research and development costs to support the growing watch business. Harry Winston Inc. operated a network of 18 salons during the quarter as compared to 14 salons in the comparable quarter of the prior year. The next new salon opening is scheduled for the second quarter of fiscal 2009 in Costa Mesa, California. Harry Winston Inc. introduced its new watches at the watch and jewelry fair in Basel, Switzerland, which was held in April 2008. The new offerings were well received both by the press and customers. The sales orders taken during the Basel Fair were significantly higher than the prior year, a reflection of the continued strength of the watch business. Liquidity and Capital Resources Working Capital As at April 30, 2008, the Company had unrestricted cash and cash equivalents of $61.8 million and contingency cash collateral and reserves of $33.9 million as required under the Company's debt arrangements, compared to $49.6 million and $25.6 million, respectively, at January 31, 2008. The Company had cash on hand and balances with banks of $61.8 million and short-term investments of $nil at April 30, 2008 compared to $33.0 million and $16.6 million, respectively, at January 31, 2008. The short-term investments were held in overnight deposits. Total cash resources at April 30, 2008 were $20.5 million higher than $75.2 million at January 31, 2008, resulting primarily from additional funds relating to the recent private equity placement of CDN $75.0 million. Working capital increased to $232.3 million at April 30, 2008 from $220.0 million at January 31, 2008. The Company's working capital and working capital requirements fluctuate from quarter to quarter depending on, among other factors, the seasonality of production at the Diavik Diamond Mine, the number of sales events conducted during the quarter and the volume, size and quality distribution of rough diamonds delivered from the Diavik Diamond Mine in each quarter, along with the seasonality of the retail segment. The Company's principal working capital needs include investments in inventory, prepaid expenses and other current assets, and accounts payable and income taxes payable. The Company's cash requirements are driven by differences in the timing of cash receipts and the cash outflows. The Company has the ability to draw on its various credit facilities to finance these timing differences. Cash Flow from Operations During the quarter ended April 30, 2008, the Company generated $34.3 million in cash from operations, compared to $14.3 million in the comparable quarter of the prior year. During the quarter, the Company increased accounts payable and accrued liabilities by $18.7 million, purchased inventory of $18.6 million, increased income taxes payable by $9.6 million, decreased prepaid expenses and other current assets by $4.4 million, and decreased accounts receivable by $1.7 million. The liquidity and capital requirements of the Company vary by quarter depending on the seasonal and production variability of its mining and retail segments. Timing differences in cash flow are financed by drawing down on the Company's credit facilities. Over the course of a fiscal year, the Company does not expect the fluctuations to be material. Over the next two fiscal years, capital requirements for the mining segment are expected to increase significantly in accordance with the expected investment program at the Diavik Diamond Mine. Thereafter, capital requirements for the mining segment are expected to moderate and the mining segment is expected to generate sufficient cash flow to finance its operations and capital expenditure requirements. The capital requirements for the retail segment are ordinary in course and are not expected to fluctuate materially over the next few years. The retail segment will finance its operations and capital requirements during these years from operating cash flow and its credit facilities. Financing Activities During the quarter, the Company repaid $12.5 million of its senior secured term facilities. At April 30, 2008, the Company had $63.9 million outstanding on its senior secured term credit facilities and $50.0 million outstanding on its senior secured revolving credit facility. In comparison, at January 31, 2008, $76.4 million was outstanding on the term credit facilities and $50.0 million was outstanding on the secured revolving credit facility. On February 22, 2008, Harry Winston Inc. entered into a new credit agreement with a syndicate of banks for a $250.0 million, five-year revolving credit facility. As at April 30, 2008, Harry Winston Inc. had $160.1 million outstanding on its $250.0 million secured credit facility, which is used to fund salon inventory and capital expenditure requirements. This represents an increase of $6.1 million from the amount outstanding at January 31, 2008. Also included in long-term debt of the Company's retail operations is a 25-year loan agreement for 17.5 million CHF used to finance the construction of the new watch factory in Geneva, Switzerland. At April 30, 2008, $16.7 million had been drawn against the facility compared to $16.1 million at January 31, 2008. The bank has a secured interest in the factory building. Harry Winston Japan, K.K. maintains secured and unsecured credit agreements with three banks amounting to (Yen)2,075 million. At April 30, 2008, $19.9 million had been drawn against these facilities, $4.8 million of which is long term, payable on June 28, 2010, with the balance of $15.1 million classified as bank advances. At January 31, 2008, $19.4 million had been drawn against these facilities, $4.7 million of which is long term with the balance of $14.7 million classified as bank advances. At April 30, 2008, $0.6 million and $8.5 million was drawn under the Company's revolving financing facilities relating to its Belgian subsidiary, Harry Winston Diamond International N.V., and its Israeli subsidiary, Harry Winston Diamond (Israel) Limited, respectively. At January 31, 2008, $10.5 million and $9.4 million were drawn under the Company's revolving financing facilities relating to Harry Winston Diamond International N.V. and Harry Winston Diamond (Israel) Limited, respectively. During the first quarter, the Company made dividend payments of $3.1 million or $0.05 per share to its shareholders. On March 14, 2008, the Company completed a private placement of 3 million common shares at a price of CDN $25 per share. The private placement was completed on a non-brokered basis, with no fees or commissions payable. The private placement generated net proceeds of CDN $75.0 million, and diluted the Company's issued and outstanding shares by 5%. Investing Activities During the quarter, the Company purchased capital assets of $68.1 million, of which $64.9 million were purchased for the mining segment and $3.2 million for the retail segment. Also included in deferred mineral property costs were expenditures of $1.7 million made during the quarter. Contractual Obligations The Company has contractual payment obligations with respect to long-term debt and, through its participation in the Joint Venture, future site restoration costs at the Diavik Diamond Mine level. Additionally, at the Joint Venture level, contractual obligations exist with respect to operating purchase obligations, as administered by DDMI, the operator of the mine. In order to maintain its 40% ownership interest in the Diavik Diamond Mine, the Company is obligated to fund 40% of the Joint Venture's total expenditures on a monthly basis. Based on the current mine plan, the Company's current projected share of the planned capital expenditures at the Diavik Diamond Mine, which are not reflected in the table below, including capital expenditures for the calendar years 2008 to 2012, is approximately $320 million assuming, among other factors, a Canadian/US average exchange rate of $0.96 for the five years. The most significant contractual obligations for the ensuing five-year period can be summarized as follows: Contractual Obligations (expressed in thousands Less of United States than Year Year After dollars) Total 1 year 2-3 4-5 5 years ------------------------------------------------------------------------- Long-term debt(a)(b) $370,557 $ 78,090 $ 84,326 $ 23,281 $184,860 Environmental and participation agreements incremental commitments(c) 97,037 76,245 3,972 1,985 14,835 Operating lease obligations(d) 121,030 16,642 28,332 18,029 58,027 Capital lease obligations(e) 2,234 929 1,239 66 - ------------------------------------------------------------------------- Total contractual obligations $590,858 $171,906 $117,869 $ 43,361 $257,722 ------------------------------------------------- ------------------------------------------------- (a) Long-term debt presented in the foregoing table includes current and long-term portions. The Company's credit agreements are comprised of two senior secured term credit facilities and a senior secured revolving credit facility. The existing facilities have a maturity date of December 15, 2009. At April 30, 2008, $63.9 million in total was outstanding on the senior secured term credit facilities, and $50.0 million was outstanding on the senior secured revolving credit facility. Scheduled repayments on the senior secured term credit facilities commenced March 15, 2008 with $12.5 million in repayments due every quarter. The maximum amount permitted to be drawn under the senior secured revolving credit facility will be reduced by $12.5 million on a quarterly basis commencing March 15, 2009. The Company's first mortgage on real property has scheduled principal payments of approximately $0.1 million quarterly, and may be prepaid after 2009. On April 30, 2008, $8.7 million was outstanding on the mortgage payable. On February 22, 2008, Harry Winston Inc. entered into a new credit agreement with a syndicate of banks for a $250.0 million, five-year revolving credit facility. There are no scheduled repayments required before maturity. At April 30, 2008, $160.1 million had been drawn against this secured credit facility which expires on March 31, 2013. Also included in long-term debt of Harry Winston Inc. is a 25-year loan agreement for 17.5 million CHF used to finance the construction of the new watch factory in Geneva, Switzerland. The bank has a secured interest in the factory building. The loan agreement is comprised of a 3.5 million CHF loan and a 14.0 million CHF loan. The 3.5 million CHF loan bears interest at a rate of 3.9% and matures on April 22, 2010. The 14.0 million CHF loan bears interest at a rate of 3.55% and matures on January 31, 2033, with quarterly payments commencing on June 30, 2008. At April 30, 2008, $16.7 million was outstanding on this loan agreement. (b) Interest on long-term debt is calculated at various fixed and floating rates. Projected interest payments on the current debt outstanding were based on interest rates in effect at April 30, 2008 and have been included under long-term debt in the table above. Interest payments for the next 12 months are approximated to be $14.5 million. (c) The Joint Venture, under environmental and other agreements, must provide funding for the Environmental Monitoring Advisory Board. These agreements also state the Joint Venture must provide security deposits for the performance by the Joint Venture of its reclamation and abandonment obligations under all environmental laws and regulations. The Joint Venture has fulfilled its obligations for the security deposits by posting letters of credit of which the Company's share as at April 30, 2008 was $74.8 million. The requirement to post security for the reclamation and abandonment obligations may be reduced to the extent of amounts spent by the Joint Venture on those activities. The Joint Venture has also signed participation agreements with various native groups. These agreements are expected to contribute to the social, economic and cultural well-being of area Aboriginal bands. The amounts reflected as contractual obligations in the table above represent obligations that are in addition to the $74.8 million in letters of credit posted. The actual cash outlay for the Joint Venture's obligations under these agreements is not anticipated to occur until later in the life of the Diavik Diamond Mine. (d) Operating lease obligations represent future minimum annual rentals under non-cancellable operating leases for Harry Winston Inc. salons and office space. Harry Winston Inc.'s New York salon lease expires on December 17, 2010 with an option to renew. (e) Capital lease obligations represent future minimum annual rentals under non-cancellable capital leases for Harry Winston Inc. retail exhibit space. Outlook Mining Production During the first calendar quarter, the persistent very low temperatures that enabled an early start to a successful winter road season at the Diavik Diamond Mine made the challenges of winter mining in the open pit more acute than usual, resulting in a lower tonnage of processed ore. This was compounded by the mining of a lower-grade section of the A-154 South kimberlite pipe together resulting in 31% less carats recovered than in the comparable period of the prior year. This lower grade ore has a grade of approximately 4 carats per tonne versus a global grade for the entire pipe of 5.2 carats per tonne based on the April 2000 feasibility study. Detailed sampling of the area already mined shows sample grades ranging from as low as 2 carats per tonne to over 9 carats per tonne, with an average of 4 carats per tonne. This short-range grade variation within the longer range ore reserve is a common feature of diamond mineralization due to the size range and distribution of the diamonds within the host rock. This shortfall is not expected to persist through the balance of the A-154 South kimberlite pipe. A program of detailed drilling to confirm the A-154 South underground reserve grade will be undertaken from the pit floor after open pit mining finishes at year end. Given that it has been the active mining area, there has been less definition drilling on this pipe than on A-154 North and A-418 that make up the bulk of the underground mining reserve. The grade variance in the A-154 South pipe has persisted, to some extent, into the second quarter. As a result, the Company expects about a 10% shortfall in carat production from the original forecast of approximately 12 million carats although price increases are expected to significantly offset this. Pre-stripping of the A-418 kimberlite pipe continues, with sustainable production from the A-418 open pit anticipated towards late in the calendar year. The expected start date of 2009 for underground production from A-154 South, A-154 North and A-418 remains unchanged. The Company expects diamond prices to remain robust with softness in the US being offset by strong demand in the world economy, especially in the Far East. Cost of Sales The continuation of pre-stripping of the A-418 kimberlite pipe is expected to result in lower cost of sales in calendar 2008 than previously anticipated. Cost of sales will also be impacted by the expected reduction in production from the original estimate of approximately 12 million carats. The Company continues to expect cost of sales to peak in calendar 2009, followed by an anticipated decline in cost of sales over the following two years as the overlap between open pit and underground mining diminishes. Capital Expenditures The Company continues to expect capital contributions of approximately $221 million over the next two years in support of the underground development project. Financing for this capital contribution is expected to be drawn from a combination of cash from operations, proceeds from the recent common share private placement and refinancing of the Company's credit facility. Based on the current mine plan, the Company's portion of planned capital expenditures at the Diavik Diamond Mine for calendar years 2008 to 2012 is expected to be approximately $320 million at a Canadian/US dollar average exchange rate of $0.96. Rough Diamond Sales Cycle The Company is expecting to hold two rough diamond sales in the second quarter, two in the third quarter and three in the fourth. Sales are now conducted throughout the quarter in each of the Company's three selling offices located in Belgium, Israel and India. Retail Harry Winston Inc. expects sales in the luxury jewelry industry to remain robust. The retail segment is strategically well positioned to withstand regional economic disruptions as a result of its diverse global distribution network. Continued strong demand for luxury diamond jewelry and watches from markets in Asia, Russia and the Middle East is expected to offset the difficult retail environment in the US market. The sales performance in the first quarter leaves us well positioned to achieve our annual sales growth objective of in excess of 15%. Harry Winston Inc. will continue to strengthen its brand in mature and emerging markets through the expansion of the salon network over the next several years and introduction of new jewelry offerings using the highest quality of diamonds and other gemstones. One salon is scheduled to be opened in Costa Mesa, California during the second quarter. Related Parties Transactions with related parties for the three months ended April 30, 2008 include $0.4 million of rent relating to the New York salon, payable to a Harry Winston Inc. employee. Changes in Internal Control over Financial Reporting During the first quarter of fiscal 2009, there were no changes in the Company's internal control over financial reporting that materially affected, or are reasonably likely to materially affect, the Company's internal control over financial reporting. Critical Accounting Estimates Management is often required to make judgments, assumptions and estimates in the application of Canadian generally accepted accounting principles that have a significant impact on the financial results of the Company. Certain policies are more significant than others and are, therefore, considered critical accounting policies. Accounting policies are considered critical if they rely on a substantial amount of judgment (use of estimates) in their application or if they result from a choice between accounting alternatives and that choice has a material impact on the Company's reported results or financial position. There have been no changes to the Company's critical accounting policies or estimates from those disclosed in the Company's MD&A for its fiscal year ended January 31, 2008. Changes in Accounting Policies Capital Disclosures Effective February 1, 2008, the Company adopted new accounting recommendations from the Canadian Institute of Chartered Accountants ("CICA"), Handbook Section 1535, "Capital Disclosures". This new standard specifies the requirements for disclosure of both qualitative and quantitative information to enable users of financial statements to evaluate the Company's objectives, policies and processes for managing capital. This disclosure is contained in note 12 to the interim consolidated financial statements. Inventories Effective February 1, 2008, the Company adopted new accounting recommendations from the CICA, Handbook Section 3031, "Inventories", which supersedes the previously issued standard on inventory. The new standard introduces significant changes to the measurement and disclosure of inventory. The measurement changes include: the elimination of LIFO, the requirement to measure inventories at the lower of cost and net realizable value method, for inventories that are not ordinarily interchangeable and goods or services produced for specific purposes, the requirement for an entity to use a consistent cost formula for inventory of a similar nature and use, and the reversal of previous write-downs to net realizable value when there is a subsequent increase in the value of inventories. Disclosures of inventories have also been enhanced. Inventory policies, carrying amounts, amounts recognized as an expense, write-downs and the reversals of write-downs are required to be disclosed. This standard has had no material impact on the Company's consolidated financial statements. Financial Instruments Effective February 1, 2008, the Company adopted new accounting recommendations from the CICA, Handbook Section 3862, "Financial Instruments - Disclosures" and Handbook Section 3863, "Financial Instruments - Presentation". Section 3862 provides guidance on disclosure of risks associated with both recognized and unrecognized financial instruments and how the Company manages these risks. Section 3863 details financial instruments presentation requirements, which are unchanged from those discussed in Section 3861, "Financial Instruments - Disclosure and Presentation". This disclosure is contained in note 13 to the interim consolidated financial statements. Recently Issued Accounting Standards Goodwill and Intangibles On February 1, 2008 the CICA issued Handbook Section 3064, "Goodwill and Intangible Assets". This Section establishes revised standards for the recognition, measurement, presentation and disclosure of goodwill and intangible assets. Concurrent with the introduction of this standard, the CICA withdrew EIC 27, "Revenues and Expenses During the Pre-operating Period," which eliminates the ability for companies to defer costs and revenues incurred prior to commercial production at new mine operations. The changes are effective for interim and annual financial statements beginning January 1, 2009. The Company is currently assessing the impact of this standard on its consolidated financial statements. International Financial Reporting Standards ("IFRS") In 2006, the Canadian Accounting Standards Board ("AcSB") published a new strategic plan that will significantly impact financial reporting requirements for Canadian companies. The AcSB strategic plan outlines the convergence of Canadian GAAP with IFRS over an expected five-year transitional period. In February 2008, the AcSB announced that 2011 is the changeover date for public accountable companies to convert from Canadian GAAP to IFRS. The transition date is for interim and annual financial statements relating to fiscal years beginning on or after January 1, 2011. Accordingly, this new standard will apply to the Company effective for the fiscal year commencing February 1, 2011. While the Company has begun assessing the adoption of IFRS for 2011, the financial reporting impact of the transition to IFRS cannot be reasonably estimated at this time. Risks and Uncertainties Harry Winston Diamond Corporation is subject to a number of risks and uncertainties as a result of its operations. In addition to the other information contained in this Management's Discussion and Analysis and the Company's other publicly filed disclosure documents, readers should give careful consideration to the following risks, each of which could have a material adverse effect on the Company's business prospects or financial condition: Nature of Mining The operation of the Diavik Diamond Mine is subject to risks inherent in the mining industry, including variations in grade and other geological differences, unexpected problems associated with required water retention dikes, water quality, surface and underground conditions, processing problems, equipment performance, accidents, labour disputes, risks relating to the physical security of the diamonds, force majeure risks and natural disasters. Particularly with underground mining operations, inherent risks include variations in rock structure and strength as it impacts on mining method selection and performance, de-watering and water handling requirements, achieving the required paste backfill strengths, and unexpected local ground conditions. Hazards, such as unusual or unexpected rock formations, rock bursts, pressures, collapses, flooding or other conditions, may be encountered during mining. Such risks could result in personal injury or fatality; damage to or destruction of mining properties, processing facilities or equipment; environmental damage; delays, suspensions or permanent reductions in mining production; monetary losses; and possible legal liability. The Diavik Diamond Mine, because of its remote northern location and access only by winter road or by air, is subject to special climate and transportation risks. These risks include the inability to operate or to operate efficiently during periods of extreme cold, the unavailability of materials and equipment, and increased transportation costs due to the late opening and/or early closure of the winter road. Such factors can add to the cost of mine development, production and operation and/or impair production and mining activities, thereby affecting the Company's profitability. Nature of Joint Arrangement with DDMI The Company owns an undivided 40% interest in the assets, liabilities and expenses of the Diavik Diamond Mine and the Diavik group of mineral claims. The Diavik Diamond Mine and the exploration and development of the Diavik group of mineral claims is a joint arrangement between DDMI (60%) and Harry Winston Diamond Mines Ltd. (40%), and is subject to the risks normally associated with the conduct of joint ventures and similar joint arrangements. These risks include the limited ability to exert influence over strategic decisions made in respect of the Diavik Diamond Mine and the Diavik group of mineral claims. By virtue of DDMI's 60% interest in the Diavik Diamond Mine, it has a controlling vote in virtually all Joint Venture management decisions respecting the development and operation of the Diavik Diamond Mine and the development of the Diavik group of mineral claims. Accordingly, DDMI is able to determine the timing and scope of future project capital expenditures, and therefore is able to impose capital expenditure requirements on the Company that the Company may not have sufficient cash to meet. The Company's contribution to capital requirements to complete the underground development and supporting infrastructure contemplated by the new mine plan is estimated to be $221 million over the next two years, with funding expected to be provided in part from a CDN $75 million private placement completed on March 14, 2008, cash flow from operations and a refinancing of the Company's existing credit facilities. There can be no assurance that the Company will be able to refinance its current credit facilities on satisfactory terms and conditions, or at all. A failure by the Company to meet capital expenditure requirements imposed by DDMI could result in the Company's interest in the Diavik Diamond Mine and the Diavik group of mineral claims being diluted. Diamond Prices and Demand for Diamonds The profitability of the Company is dependent upon production from the Diavik Diamond Mine and on the results of the operations of its retail operations. Each in turn is dependent in significant part upon the worldwide demand for and price of diamonds. Diamond prices fluctuate and are affected by numerous factors beyond the control of the Company, including worldwide economic trends, particularly in the US, Japan, China and India, worldwide levels of diamond discovery and production and the level of demand for, and discretionary spending on, luxury goods such as diamonds and jewelry. Low or negative growth in the worldwide economy, prolonged credit market disruptions or the occurrence of terrorist or similar activities creating disruptions in economic growth could result in decreased demand for luxury goods such as diamonds and jewelry, thereby negatively affecting the price of diamonds and jewelry. Similarly, a substantial increase in the worldwide level of diamond production could also negatively affect the price of diamonds. In each case, such developments could materially adversely affect the Company's results of operations. Currency Risk Currency fluctuations may affect the Company's financial performance. Diamonds are sold throughout the world based principally on the US dollar price, and although the Company reports its financial results in US dollars, a majority of the costs and expenses of the Diavik Diamond Mine, which are borne 40% by the Company, are incurred in Canadian dollars. Further, the Company has a significant future income tax liability that has been incurred and will be payable in Canadian dollars. The Company's currency exposure relates primarily to expenses and obligations incurred by it in Canadian dollars and, secondarily, to revenues of Harry Winston Inc. in currencies other than the US dollar. The appreciation of the Canadian dollar against the US dollar, and the depreciation of such other currencies against the US dollar, therefore, will increase the expenses of the Diavik Diamond Mine and the amount of the Company's Canadian dollar liabilities relative to the revenue the Company will receive from diamond sales, and will decrease the US dollar revenues received by Harry Winston Inc. From time to time, the Company may use a limited number of derivative financial instruments to manage its foreign currency exposure. Licenses and Permits The operation of the Diavik Diamond Mine and exploration on the Diavik property require licenses and permits from the Canadian government. Renewal of the Diavik Diamond Mine Type "A" Water License was granted by the regional Wek'eezhii Land and Water Board on November 1, 2007 for an eight-year period. While the Company anticipates that DDMI, which is also the operator of the Diavik Diamond Mine, will be able to renew this license and other necessary permits in the future, there can be no guarantee that DDMI will be able to do so or obtain or maintain all other necessary licenses and permits that may be required to maintain the operation of the Diavik Diamond Mine or to further explore and develop the Diavik property. Regulatory and Environmental Risks The operation of the Diavik Diamond Mine, exploration activities at the Diavik Project and the manufacturing of jewelry and watches are subject to various laws and regulations governing the protection of the environment, exploration, development, production, taxes, labour standards, occupational health, waste disposal, mine safety, manufacturing safety and other matters. New laws and regulations, amendments to existing laws and regulations, or more stringent implementation or changes in enforcement policies under existing laws and regulations could have a material adverse impact on the Company by increasing costs and/or causing a reduction in levels of production from the Diavik Diamond Mine and in the manufacture of jewelry and watches. As well, as the Company's international operations expand, it or its subsidiaries become subject to laws and regulatory regimes which differ materially from those under which they operate in Canada and the US. Mining and manufacturing are subject to potential risks and liabilities associated with pollution of the environment and the disposal of waste products occurring as a result of mining and manufacturing operations. To the extent that the Company's operations are subject to uninsured environmental liabilities, the payment of such liabilities could have a material adverse effect on the Company. Climate Change Canada ratified the Kyoto Protocol to the United Nations Framework Convention on Climate Change in late 2002 and the Kyoto Protocol came into effect in Canada in February 2005. The Canadian government is currently developing a number of policy measures in order to meet its emission reduction guidelines. While the impact of these measures cannot be quantified at this time, the likely effect will be to increase costs for fossil fuels, electricity and transportation, restrict industrial emission levels, impose added costs for emissions in excess of permitted levels and increase costs for monitoring and reporting. Compliance with these initiatives could have a material adverse effect on the Company's results of operations. Resource and Reserve Estimates The Company's figures for mineral resources and ore reserves on the Diavik group of mineral claims are estimates, and no assurance can be given that the anticipated carats will be recovered. The estimation of reserves is a subjective process. Forecasts are based on engineering data, projected future rates of production and the timing of future expenditures, all of which are subject to numerous uncertainties and various interpretations. The Company expects that its estimates of reserves will change to reflect updated information. Reserve estimates may be revised upward or downward based on the results of current and future drilling, testing or production levels and on changes in mine design. In addition, market fluctuations in the price of diamonds or increases in the costs to recover diamonds from the Diavik Diamond Mine may render the mining of ore reserves uneconomical. Mineral resources that are not mineral reserves do not have demonstrated economic viability. Due to the uncertainty that may attach to inferred mineral resources, there is no assurance that mineral resources at the Diavik property will be upgraded to proven and probable ore reserves. Insurance The Company's business is subject to a number of risks and hazards generally, including adverse environmental conditions, industrial accidents, labour disputes, unusual or unexpected geological conditions, risks relating to the physical security of diamonds and jewelry held as inventory or in transit, changes in the regulatory environment and natural phenomena such as inclement weather conditions. Such occurrences could result in damage to the Diavik Diamond Mine, personal injury or death, environmental damage to the Diavik property, delays in mining, closing of Harry Winston Inc. manufacturing facilities or salons, monetary losses and possible legal liability. Although insurance is maintained to protect against certain risks in connection with the Diavik Diamond Mine and the Company's operations, the insurance in place will not cover all potential risks. It may not be possible to maintain insurance to cover insurable risks at economically feasible premiums. Fuel Costs The Diavik Diamond Mine's expected fuel needs are purchased periodically during the year for storage, and transported to the mine site by way of the winter road. These costs will increase if transportation by air freight is required due to a shortened "winter road season" or unexpectedly high fuel usage. The cost of the fuel purchased is based on the then prevailing price and expensed into operating costs on a usage basis. The Diavik Diamond Mine currently has no hedges for its future anticipated fuel consumption. Reliance on Skilled Employees Production at the Diavik Diamond Mine is dependent upon the efforts of certain skilled employees of DDMI. The loss of these employees or the inability of DDMI to attract and retain additional skilled employees may adversely affect the level of diamond production from the Diavik Diamond Mine. Currently, there is significant competition for skilled workers in remote northern operations due to the significant number of large-scale construction projects ongoing and planned in Canada's north, including the various construction projects relating to the development of the oil sands in northern Alberta. The Company's success at marketing rough diamonds and in operating the business of Harry Winston Inc. is dependent on the services of key executives and skilled employees, as well as the continuance of key relationships with certain third parties, such as diamantaires. The loss of these persons or the Company's inability to attract and retain additional skilled employees or to establish and maintain relationships with required third parties may adversely affect its business and future operations in marketing diamonds and in operating its retail segment. Expansion of the Existing Salon Network A key component of the Company's retail strategy is the expansion of its existing salon network. This strategy requires the Company to make ongoing capital expenditures to build and open new salons, to refurbish existing salons from time to time, and to incur additional operating expenses in order to operate the new salons. To date, much of this expansion has been financed through borrowings by Harry Winston Inc. There can be no assurance that the expansion of the salon network will prove successful in increasing annual sales or earnings from the retail segment, and the increased debt levels resulting from this expansion could negatively impact the Company's liquidity and its results from operations in the absence of increased sales and earnings. Competition in the Luxury Jewelry Segment The Company is exposed to competition in the retail diamond market from other luxury goods, diamond, jewelry and watch retailers. The ability of Harry Winston Inc. to successfully compete with such luxury goods, diamond, jewelry and watch retailers is dependent upon a number of factors, including the ability to source high-end polished diamonds and protect and promote its distinctive brand name and reputation. If Harry Winston Inc. is unable to successfully compete in the luxury jewelry segment, then the Company's results of operations will be adversely affected. Outstanding Share Information As at April 30, 2008 ------------------------------------------------------------------------- Authorized Unlimited Issued and outstanding shares 61,372,091 Options outstanding 1,619,338 Fully diluted 62,991,429 ------------------------------------------------------------------------- Additional Information Additional information relating to the Company, including the Company's most recently filed annual information form, can be found on SEDAR at http://www.sedar.com/, and is also available on the Company's website at http://investor.harrywinston.com/. Consolidated Balance Sheets (expressed in thousands of United States dollars) April 30, 2008 January 31, (unaudited) 2008 ------------------------------------------------------------------------- Assets Current assets: Cash and cash equivalents (note 3) $ 61,776 $ 49,628 Cash collateral and cash reserves (note 3) 33,938 25,615 Accounts receivable 23,726 25,505 Inventory and supplies (note 4) 340,805 322,228 Prepaid expenses and other current assets 59,484 58,617 ------------------------------------------------------------------------- 519,729 481,593 Deferred mineral property costs 177,549 179,990 Capital assets 610,180 548,827 Intangible assets, net (note 6) 131,986 132,628 Goodwill 93,780 93,780 Other assets 17,587 16,167 Future income tax asset 39,920 40,963 $ 1,590,731 $ 1,493,948 ---------------------------- ---------------------------- Liabilities and Shareholders' Equity Current liabilities: Accounts payable and accrued liabilities $ 141,871 $ 124,426 Income taxes payable 57,684 48,118 Bank advances 24,228 34,928 Current portion of long-term debt (note 7) 63,618 54,137 ------------------------------------------------------------------------- 287,401 261,609 Long-term debt (note 7) 240,007 255,212 Future income tax liability 359,100 370,500 Other long-term liability 1,931 1,730 Future site restoration costs 33,404 32,980 Minority interest 256 255 Shareholders' equity: Share capital (note 8) 381,541 305,502 Contributed surplus 15,769 15,614 Retained earnings 243,521 225,334 Accumulated other comprehensive income 27,801 25,212 ------------------------------------------------------------------------- 668,632 571,662 Commitments and guarantees (note 9) ------------------------------------------------------------------------- $ 1,590,731 $ 1,493,948 ---------------------------- ---------------------------- See accompanying notes to consolidated financial statements. Consolidated Statements of Earnings (expressed in thousands of United States dollars, except per share amounts) (unaudited) Three Months Three Months Ended Ended April 30, April 30, 2008 2007 ------------------------------------------------------------------------- Sales $ 156,079 $ 141,365 Cost of sales 73,149 71,132 ------------------------------------------------------------------------- Gross margin 82,930 70,233 Selling, general and administrative expenses 43,285 34,211 ------------------------------------------------------------------------- Earnings from operations 39,645 36,022 ------------------------------------------------------------------------- Interest and financing expenses (5,453) (6,132) Other income 246 913 Foreign exchange gain (loss) 155 (13,292) ------------------------------------------------------------------------- Earnings before income taxes 34,593 17,511 Income tax expense - Current 21,501 17,440 Income tax recovery - Future (8,165) (3,322) ------------------------------------------------------------------------- Earnings before minority interest 21,257 3,393 Minority interest 1 140 ------------------------------------------------------------------------- Net earnings $ 21,256 $ 3,253 ---------------------------- ---------------------------- Earnings per share Basic $ 0.35 $ 0.06 ---------------------------- ---------------------------- Fully diluted $ 0.35 $ 0.05 ---------------------------- ---------------------------- Weighted average number of shares outstanding 59,905,424 58,362,128 ---------------------------- ---------------------------- See accompanying notes to consolidated financial statements. Consolidated Statements of Comprehensive Income (expressed in thousands of United States dollars) (unaudited) Three Months Three Months Ended Ended April 30, April 30, 2008 2007 ------------------------------------------------------------------------- Net earnings $ 21,256 $ 3,253 Other comprehensive income Net gain on translation of foreign operations (net of tax - nil) 2,589 1,991 ------------------------------------------------------------------------- ---------------------------- Total comprehensive income $ 23,845 $ 5,244 ---------------------------- ---------------------------- See accompanying notes to consolidated financial statements. Consolidated Statements of Changes in Shareholders' Equity (expressed in thousands of United States dollars) (unaudited) Three Months Three Months Ended Ended April 30, April 30, 2008 2007 ------------------------------------------------------------------------- Common shares: Balance at beginning of period $ 305,502 $ 305,165 Issued during the period 76,039 43 ------------------------------------------------------------------------- Balance at end of period 381,541 305,208 ------------------------------------------------------------------------- Contributed surplus: Balance at beginning of period 15,614 14,922 Stock option expense 155 185 ------------------------------------------------------------------------- Balance at end of period 15,769 15,107 ------------------------------------------------------------------------- Retained earnings: Balance at beginning of period 225,334 165,625 Net earnings 21,256 3,253 Dividends paid (3,069) (14,593) ------------------------------------------------------------------------- Balance at end of period 243,521 154,285 ------------------------------------------------------------------------- Accumulated other comprehensive income: Balance at beginning of period 25,212 16,016 Other comprehensive income Net gain on translation of foreign operations (net of tax - nil) 2,589 1,991 ------------------------------------------------------------------------- Balance at end of period 27,801 18,007 ------------------------------------------------------------------------- Total shareholders' equity $ 668,632 $ 492,607 ---------------------------- ---------------------------- See accompanying notes to consolidated financial statements. DATASOURCE: Harry Winston Diamond Corporation CONTACT: Kelley Stamm, , (416) 362-2237 ext.223

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