Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.

We manufacture, market and sell beauty products, including those in the skin care, makeup, fragrance and hair care categories, which are distributed in over 130 countries and territories. The following is a comparative summary of operating results from continuing operations for the three and nine months ended March 31, 2006 and 2005, and reflects the basis of presentation described in Note 1 of Notes to Consolidated Financial Statements - Summary of Significant Accounting Policies for all periods presented. Sales of products and services that do not meet our definition of skin care, makeup, fragrance or hair care have been included in the "other" category.

                                                   Three Months Ended                 Nine Months Ended
                                                        March 31                           March 31
                                                -------------------------         --------------------------

                                                   2006            2005              2006            2005
                                                ----------     ----------         ----------      ----------
                                                                       (In millions)
NET SALES
   By Region:
     The Americas                               $    870.1     $    838.7         $  2,629.9      $  2,588.7
     Europe, the Middle East & Africa                501.5          493.4            1,577.9         1,541.8
     Asia/Pacific                                    206.6          193.2              651.4           621.4
                                                ----------     ----------         ----------      ----------
                                                $  1,578.2     $  1,525.3         $  4,859.2      $  4,751.9
                                                ==========     ==========         ==========      ==========

   By Product Category:
     Skin Care                                  $    611.1     $    608.2         $  1,778.6      $  1,749.9
     Makeup                                          634.9          615.3            1,882.1         1,779.4
     Fragrance                                       246.3          228.7              947.4           999.0
     Hair Care                                        80.3           67.3              229.9           202.0
     Other                                             5.6            5.8               21.2            21.6
                                                ----------     ----------         ----------      ----------
                                                $  1,578.2     $  1,525.3         $  4,859.2      $  4,751.9
                                                ==========     ==========         ==========      ==========
OPERATING INCOME (LOSS)
   By Region:
     The Americas                               $     99.2     $    115.9         $    259.2      $    310.4
     Europe, the Middle East & Africa                 54.9           52.7              209.3           211.8
     Asia/Pacific                                     13.8           10.2               56.8            45.6
     Special charges related to cost
      savings initiative                             (51.6)            --              (53.2)             --
                                                ----------     ----------         ----------      ----------
                                                $    116.3     $    178.8         $    472.1      $    567.8
                                                ==========     ==========         ==========      ==========

   By Product Category:
     Skin Care                                  $     80.3     $     89.3         $    252.4      $    275.0
     Makeup                                           92.5           92.5              245.5           232.9
     Fragrance                                       (11.7)          (9.2)               5.2            40.3
     Hair Care                                         6.8            5.6               19.7            17.7
     Other                                              --            0.6                2.5             1.9
     Special charges related to cost
      savings initiative                             (51.6)            --              (53.2)             --
                                                ----------     ----------         ----------      ----------
                                                $    116.3     $    178.8         $    472.1      $    567.8
                                                ==========     ==========         ==========      ==========

                                                                Three Months Ended         Nine Months Ended
                                                                     March 31                  March 31
                                                             ----------------------      ----------------------

                                                               2006          2005           2006         2005
                                                             --------      --------      ---------     --------

Net sales                                                       100.0%        100.0%         100.0%       100.0%
Cost of sales                                                    26.1          25.2           26.5         26.0
                                                             --------      --------      ---------     --------
Gross profit                                                     73.9          74.8           73.5         74.0
                                                             --------      --------      ---------     --------
Operating expenses:
   Selling, general and administrative                           63.2          63.1           62.7         62.1
   Special charges related to cost savings initiative             3.3            --            1.1           --
                                                             --------      --------      ---------     --------
                                                                 66.5          63.1           63.8         62.1
                                                             --------      --------      ---------     --------

Operating income                                                  7.4          11.7            9.7         11.9
Interest expense, net                                             0.4           0.2            0.4          0.2
                                                             --------      --------      ---------     --------
Earnings before income taxes, minority interest and
 discontinued operations                                          7.0          11.5            9.3         11.7
Provision for income taxes                                        2.8           4.3            3.5          4.4
Minority interest, net of tax                                    (0.2)         (0.1)          (0.2)        (0.1)
                                                             --------      --------      ---------     --------

Net earnings from continuing operations                           4.0           7.1            5.6          7.2
Discontinued operations, net of tax                              (0.2)         (0.1)          (1.5)        (0.1)
                                                             --------      --------      ---------     --------
Net earnings                                                      3.8%          7.0%           4.1%         7.1%
                                                             ========      ========      =========     ========

In order to meet the demands of consumers, we continually introduce new products, support new and established products through advertising, sampling and merchandising, and phase out existing products that no longer meet the needs of our consumers. The economics of developing, producing and launching these new products influence our sales and operating performance each period. The introduction of new products may have some cannibalizing effect on sales of existing products, which we take into account in our business planning.

Third Quarter Fiscal 2006 as Compared with Third Quarter Fiscal 2005

Net Sales

Net sales increased 3% or $52.9 million to $1,578.2 million reflecting growth in all product categories and geographic regions. Product category results were led principally by makeup and fragrance, particularly in the Americas region, fueled by new product launches. International growth, particularly in the Europe, Middle East & Africa region, was tempered by the unfavorable effect of changes in exchange rates. Excluding the impact of foreign currency translation, net sales increased 6%.

Product Categories

Skin Care
Net sales of skin care products increased $2.9 million to $611.1 million. The recent launches of Resilience Lift Extreme Ultra Firming Cremes by Estee Lauder, and Turnaround Concentrate Visible Skin Renewer and Turnaround 15-Minute Facial by Clinique generated incremental sales of approximately $49 million. Sales of products in Clinique's 3-Step Skin Care System, bolstered by the introduction of Liquid Facial Soap, also contributed approximately $6 million to the increase. These contributions to net sales were partially offset by decreases in sales of certain existing products in the Resilience Lift, Perfectionist and Re-Nutriv lines by Estee Lauder, and Superdefense Triple Action Moisturizers SPF 25 by Clinique of approximately $46 million, collectively. Excluding the impact of foreign currency translation, skin care net sales increased 3%.

THE ESTEE LAUDER COMPANIES INC.

Makeup
Makeup net sales increased 3% or $19.6 million to $634.9 million primarily reflecting growth from our makeup artist brands of approximately $45 million, which offset challenges in certain of our core brands. Lower sales of approximately $20 million of Pure Pops Brush-on Color, Ideal Matte Refinishing Compact Makeup SPF 12 and So Ingenious by Estee Lauder, combined with declines in our BeautyBank brands, which substantially completed their initial rollout in the prior-year quarter, partially offset these positive results. Excluding the impact of foreign currency translation, makeup net sales increased 5%.

Fragrance
Net sales of fragrance products increased 8% or $17.6 million to $246.3 million. While fragrance continues to be a challenging product category for us, growth in the current quarter reflects a strategic balance between new fragrance offerings and some of our most successful franchises. Growth was fueled by the initial sales of Unforgivable by Sean John and the recent launch of Youth Dew Amber Nude by Estee Lauder of approximately $20 million, combined. Additional increases from Estee Lauder pleasures and Beautiful contributed approximately $11 million to the category. Partially offsetting these increases were lower sales of approximately $13 million combined of DKNY Be Delicious Men, which was launched in the third quarter of the prior fiscal year, and DKNY Be Delicious, which launched internationally in the same period. Excluding the impact of foreign currency translation, fragrance net sales increased 11%.

Hair Care
Hair care net sales increased 19% or $13.0 million to $80.3 million, primarily due to sales growth from Bumble and bumble and Aveda products. Bumble and bumble sales benefited from sales growth due to new points of distribution and the launch of new hair shine and powder products. Aveda net sales increased as a result of the recent acquisition of a distributor, sales of professional color products and the recent launch of Damage Remedy hair care products. Excluding the impact of foreign currency translation, hair care net sales increased 20%.

Geographic Regions
Net sales in the Americas increased 4% or $31.4 million to $870.1 million. The increase was led by growth in the United States of approximately $56 million from our makeup artist and hair care brands, and the introduction of the Unforgivable fragrance by Sean John partially offset by approximately $36 million related to weaknesses in certain of our core brands as a result of challenges from competitive pressures and business disruptions at certain key retailers, and lower sales from our BeautyBank brands, which substantially completed their initial rollout in the comparable prior-year quarter. We expect business disruptions at certain key retailers in the United States to continue throughout the remainder of the fiscal year and into fiscal 2007. Net sales growth in Mexico, Canada and Latin America contributed an additional $8 million to the increase.

In Europe, the Middle East & Africa, net sales increased 2% or $8.1 million to $501.5 million, reflecting higher net sales of approximately $19 million from Russia, our travel retail and distributor businesses, France and South Africa. The travel retail and distributor businesses showed balanced growth from core brands and makeup artist brands as well as the success of the DKNY Be Delicious franchise. These increases were partially offset by lower sales in Spain and Benelux (Belgium, the Netherlands and Luxembourg) of approximately $12 million, collectively. In particular, Spain was negatively impacted by a difficult retail environment and changes to our distribution policy. On a local currency basis, net sales in Europe, the Middle East & Africa increased 8% which reflects the strengthening of the U.S. dollar as compared with currencies in this region.

Net sales in Asia/Pacific increased 7% or $13.4 million to $206.6 million. Strategic growth in China combined with positive results in Korea and Hong Kong, driven by the success of our makeup artist brands, contributed approximately $17 million to sales growth in this region. These increases were partially offset by decreases in Japan and Australia of approximately $5 million. Japan's results were negatively impacted due to the strengthening of the U.S. dollar against the Japanese yen. The decrease in Australia reflected slower sell-through in a difficult retail environment, particularly in the fragrance category. On a local currency basis, net sales in Asia/Pacific increased 10%.

We strategically stagger our new product launches by geographic market, which may account for differences in regional sales growth.

THE ESTEE LAUDER COMPANIES INC.

Cost of Sales

Cost of sales as a percentage of total net sales increased to 26.1% as compared with 25.2% in the prior period. This increase reflected the net unfavorable change in the mix of our business within our geographic regions and product categories of approximately 90 basis points, an increase in obsolescence charges of approximately 40 basis points and a charge related to unutilized tooling of approximately 30 basis points. Partially offsetting these increases were favorable changes in promotional activities of approximately 70 basis points.

The higher price of oil has resulted in price increases in certain oil-based chemicals, which has had a slight adverse effect on our cost of sales margin. In an ongoing effort to mitigate the impact of these increases, we are seeking potential offsetting opportunities in other categories of material purchases through our sourcing initiative in low-cost manufacturing locations worldwide.

Since certain promotional activities are a component of sales or cost of sales and the timing and level of promotions vary with our promotional calendar, we have experienced, and expect to continue to experience, fluctuations in the cost of sales percentage. In addition, future cost of sales mix may be impacted by the inclusion of new brands which have margin and product cost structures different from those of our existing brands.

Operating Expenses

Operating expenses increased to 66.5% of net sales as compared with 63.1% of net sales in the prior period. During the quarter, we recorded a $51.6 million charge to operating expenses related to the implementation of our cost savings initiative that negatively impacted our operating expense margin by 330 basis points. This charge primarily related to employee separation costs associated with the cost savings initiative. This initiative is expected to generate cost savings for the balance of this fiscal year and for future periods. Our operating expense margin was also negatively impacted by the estimated effects on net sales of retailer consolidations of approximately 80 basis points and the effect of the recognition of stock-based compensation expense of approximately 40 basis points as a result of the adoption of Statement of Financial Accounting Standards ("SFAS") No. 123(R), "Share-Based Payment" ("SFAS No. 123(R)"). Offsetting these incremental costs were operating expense margin improvements of approximately 80 basis points resulting from net sales growth in brands with lower advertising, merchandising and sampling cost structures as well as an overall reduction in this type of spending, and approximately 30 basis points related to sales growth from our travel retail business.

Changes in advertising, sampling and merchandising spending result from the type, timing and level of activities related to product launches and rollouts, as well as the markets being emphasized.

Operating Results

Operating income decreased 35%, or $62.5 million, to $116.3 million. Operating margin was 7.4% of net sales in the current period as compared with 11.7% in the prior period. These results were negatively impacted by the effects of a special charge related to our cost savings initiative of $51.6 million, or 3.3% of net sales. In addition to the special charge, net sales growth was more than offset by the increases in our cost of sales and operating expense margins as previously discussed.

The following discussions of Operating Results by Product Categories and Geographic Regions exclude the impact of a special charge related to the implementation of our cost savings initiative. We believe the following analysis of operating results better reflects the manner in which we conduct and view our business. See Note 6 of Notes to Consolidated Financial Statements - Segment Data and Related Information.

Product Categories

Operating income declined 10% or $9.0 million in the skin care product category reflecting weak sales growth in certain of our core brands as compared to the launch activity in the prior-year quarter. Operating results in the fragrance product category declined 27% or $2.5 million reflecting lower net sales from certain of our designer fragrances and higher promotional costs related to new launch activity. Overall, makeup results were flat as improvements in our makeup artist brands were offset by lower sales volume at certain of our core brands and our BeautyBank brands, which substantially completed their initial rollout in the prior-year quarter. Partially offsetting these decreases, hair care operating income increased 21% or $1.2 million, primarily reflecting net sales growth from Bumble and bumble.

THE ESTEE LAUDER COMPANIES INC.

Geographic Regions
Operating income in the Americas decreased 14% or $16.7 million to $99.2 million. The ongoing success of our makeup artist brands contributed to higher operating results, but was more than offset by challenges in certain of our core brands, associated in part to competitive pressures and retailer consolidations, and declines in our BeautyBank brands, which substantially completed their initial rollout in the prior-year quarter. Results in this region also reflected incremental operating expenses associated with new accounting rules for stock-based compensation.

In Europe, the Middle East & Africa, operating income increased 4% or $2.2 million to $54.9 million primarily due to improved results of approximately $8 million from Russia, France, Germany and our distributor businesses, partially offset by declines in Spain and Portugal of approximately $6 million, collectively.

In Asia/Pacific, operating income increased 35% or $3.6 million to $13.8 million. This increase reflects improved results of approximately $7 million in Japan, Australia and Hong Kong, partially offset by lower results in Taiwan and Korea of approximately $3 million.

Interest Expense, Net

Net interest expense was $6.6 million as compared with $3.3 million in the prior period. The increase in net interest expense was primarily due to a higher level of borrowings compared with the prior period as a result of the issuance of commercial paper. The increased expense was slightly offset by increased interest income related to higher investment interest rates.

Provision for Income Taxes

The provision for income taxes represents Federal, foreign, state and local income taxes. The effective rate differs from statutory rates due to the effect of state and local taxes, tax rates in foreign jurisdictions and certain nondeductible expenses. The Company's effective tax rate will change from quarter to quarter based on non-recurring and recurring factors including, but not limited to, the geographic mix of earnings, the timing and amount of foreign dividends, enacted tax legislation, state and local taxes, tax audit settlements and the interaction of various global tax strategies. The effective rate for income taxes for the three months ended March 31, 2006 was 39.6% as compared with 37.4% in the prior period. The increase in the effective income tax rate of 220 basis points was primarily attributable to an increase in state and local income tax expense (130 basis points), an increase attributable to the anticipated full-year mix of global earnings (130 basis points), offset by a decrease from miscellaneous items (40 basis points).

The Internal Revenue Service ("IRS") has completed and closed its audits of our consolidated Federal income tax returns through fiscal 1997. The Company is presently under examination by the IRS for fiscal years 1998 through 2001. During the current quarter, we entered into discussions with the IRS regarding several issues that have been raised during their examination. The effective tax rates include our best estimates of the probable loss or favorable resolution of certain of the issues currently under discussion with the IRS. The final settlement of the remaining issues, which include transfer pricing and foreign tax credit calculations, is subject to further discussions, negotiations, review and computations. While it is probable that additional tax liabilities will result from the conclusion of the IRS examination, due to the complexity of the issues still under discussion, an estimate of the final outcome cannot be made at this time. We expect to conclude these discussions in conjunction with the finalization of the field examination portion of the audit in the fourth quarter of the current fiscal year.

THE ESTEE LAUDER COMPANIES INC.

Discontinued Operations

On September 30, 2005, we committed to a plan to sell the assets and operations of our reporting unit that markets and sells Stila brand products and to actively seek a buyer for the brand. Subsequent to March 31, 2006, we sold certain assets and operations of the Stila business, and pursuant to such sale, have agreed to divest ourself of continuing involvement in the Stila business, except as discussed below. As a result of the operations of this business through March 31, 2006 and in consideration of the then pending sale of certain assets and operations of this reporting unit, we recorded a charge of $3.7 million (net of $24.5 million tax benefit) to discontinued operations for the three months ended March 31, 2006. The charge reflects the additional anticipated loss on the disposition of the business of $0.8 million, net of tax, for the three months ended March 31, 2006, which represents adjustments to the fair value of assets held for sale, the costs to dispose of those assets not acquired by the purchaser and other costs anticipated in connection with the sale. The charge also includes the operating loss of $2.9 million, net of tax, for the three months ended March 31, 2006. All statements of earnings information for the prior period has been restated for comparative purposes, including the restatement of the makeup product category and each of the geographic regions.

On April 10, 2006 (the "Effective Date"), we completed the sale of certain assets and operations of the reporting unit that marketed and sold Stila brand products to Stila Corp. (the "Purchaser"), an affiliate of Sun Capital Partners, Inc. for consideration of $23.0 million. The sale price included cash of $9.3 million, a promissory note with a notional value of $13.3 million and a fair value of $11.0 million and convertible preferred stock with an aggregate liquidation preference of $5.0 million and a fair value of $2.7 million. Stila Corp. will immediately assume responsibility for all decisions regarding the operations of the Stila business.

As additional consideration for the purchased assets, and subject to the terms and conditions of the sale agreement, the Purchaser will pay us an amount equal to two percent of the annual net sales of the acquired business during the period commencing on the Effective Date and ending August 20, 2019. We will use these proceeds to satisfy our commitment under the 1999 agreement pursuant to which we originally purchased the Stila business.

As discussed above, at March 31, 2006 we recorded a loss related to the anticipated disposition of the Stila business. In connection with this transaction, we anticipate additional future losses of approximately $6 million, net of tax, substantially related to employee separation benefits, beginning in the fourth quarter of fiscal 2006 and continuing into fiscal 2007.

In order to facilitate the transition of the Stila business to the Purchaser, we will continue to provide certain information systems, accounting and other back office services to the Purchaser. We will receive monthly service fees, which are designed to recover the estimated costs of providing these transition services. We have also agreed with the Purchaser to provide certain distribution and online services. In both cases, these services will continue for a period of up to four months from the Effective Date, subject to an extension of two months at the request of the Purchaser. In addition, we agreed to manufacture and sell to the Purchaser a limited range of products for a period of up to four months following the Effective Date and, in the case of one product, of up to two years.

Nine Months Fiscal 2006 as Compared with Nine Months Fiscal 2005

Net Sales

Net sales increased 2% or $107.3 million to $4,859.2 million due to growth in our makeup, skin care and hair care product categories, which was partially offset by lower sales in our fragrance product category. The net increase reflects sales growth in all geographic regions. In particular, the Asia/Pacific and Europe, Middle East & Africa regions posted solid gains, despite the unfavorable effects of changes in exchange rates. Excluding the impact of foreign currency translation, net sales increased 4%.

THE ESTEE LAUDER COMPANIES INC.

Product Categories

Skin Care
Net sales of skin care products increased 2% or $28.7 million to $1,778.6 million due primarily to new product launches. The recent launches of Resilience Lift Extreme Ultra Firming Cremes by Estee Lauder, and Turnaround Concentrate Visible Skin Renewer and Turnaround 15-Minute Facial by Clinique generated incremental sales of approximately $71 million, combined. Perfectionist [CP+] by Estee Lauder and products in Clinique's 3-Step Skin Care System, bolstered by the introduction of Liquid Facial Soap, contributed approximately $64 million to the increase. These improvements were offset by approximately $103 million of decreases in certain existing products in certain of our core brands as well as declines in our BeautyBank brands, which substantially completed their initial rollout in the prior-year period. Excluding the impact of foreign currency translation, skin care net sales increased 3%.

Makeup
Makeup net sales increased 6% or $102.7 million to $1,882.1 million reflecting growth from our makeup artist brands of approximately $132 million. New product launches helped offset challenges experienced by certain of our core brands. Sales of Repairwear Anti-Aging Makeup SPF 15 and Colour Surge Butter Shine Lipstick by Clinique, and Individualist Natural Finish Makeup by Estee Lauder contributed approximately $56 million to the growth, collectively. Partially offsetting these increases were lower sales of existing products, including approximately $51 million of Superbalanced Compact Makeup SPF 20 by Clinique, and So Ingenious and Lash XL Maximum Length Mascara by Estee Lauder as well as declines in our BeautyBank brands, which substantially completed their initial rollout in the prior-year period. Excluding the impact of foreign currency translation, makeup net sales increased 7%.

Fragrance
Net sales of fragrance products decreased 5% or $51.6 million to $947.4 million as we continue to be challenged in this product category. Lower sales of Estee Lauder Beyond Paradise, Tommy Girl and Tommy by Tommy Hilfiger and various fragrances from Clinique contributed approximately $85 million to the decrease. Also contributing to the decrease were lower sales of approximately $41 million of True Star by Tommy Hilfiger, Lauder Beyond Paradise Men and Donald Trump The Fragrance as we anniversary the initial shipments of those products in the prior-year period. Partially offsetting these decreases were higher sales of DKNY Be Delicious, Estee Lauder pleasures and DKNY Be Delicious Men of approximately $57 million, collectively. The recent launches of True Star Men by Tommy Hilfiger and Unforgivable by Sean John contributed approximately $35 million to the category. Excluding the impact of foreign currency translation, fragrance net sales decreased 3%.

Hair Care
Hair care net sales increased 14% or $27.9 million to $229.9 million, primarily due to sales growth from Bumble and bumble and Aveda products. Bumble and bumble sales benefited from sales growth due to new points of distribution, as well as sales growth in both core and treatment products. Aveda net sales increases benefited from the recent launch of Damage Remedy hair care products as well as from the recent acquisition of a distributor. Foreign currency translation had a de minimis impact on hair care net sales compared to the prior period.

Geographic Regions
Net sales in the Americas increased 2% or $41.2 million to $2,629.9 million. Net sales in the United States grew approximately $127 million reflecting growth in our makeup artist and hair care brands as well as from our internet distribution, partially offset by approximately $106 million related to weaknesses in certain of our core brands as a result of challenges from competitive pressures and business disruptions at certain key retailers, and lower sales from our BeautyBank brands, which substantially completed their initial rollout in the comparable prior-year period. We expect business disruptions at certain key retailers in the United States to continue throughout the remainder of the fiscal year and into fiscal 2007. Net sales growth in Mexico, Canada and Latin America contributed an additional $28 million to the increase.

THE ESTEE LAUDER COMPANIES INC.

In Europe, the Middle East & Africa, net sales increased 2% or $36.1 million to $1,577.9 million, reflecting higher net sales of approximately $41 million from our travel retail and distributor businesses and Russia, with both benefiting from a strong retail environment and the success of the DKNY Be Delicious franchise. These increases were partially offset by decreases in Spain and Italy of approximately $14 million, collectively. In particular, Spain was negatively impacted by a difficult retail environment and changes to our distribution policy. During the current period, we commenced operations at a new regional inventory center in Europe. However, unforeseen logistical issues related to start-up activities resulted in disruptions in shipments to certain European markets serviced from this center. These issues have since been addressed and while we believe lost sales will not be fully recovered, the inventory center is now fully operational. On a local currency basis, net sales in Europe, the Middle East & Africa increased 7%.

Net sales in Asia/Pacific increased 5% or $30.0 million to $651.4 million. Strategic growth in China combined with positive results in Korea and Hong Kong, contributed approximately $43 million to sales growth in this region. These increases were partially offset by decreases in Japan and Australia of approximately $17 million. Japan's results were negatively impacted due to the strengthening of the U.S. dollar against the Japanese yen. The decrease in Australia reflected slower sell-through in a difficult retail environment, particularly in the fragrance category. On a local currency basis, net sales in Asia/Pacific increased 6%.

We strategically stagger our new product launches by geographic market, which may account for differences in regional sales growth.

Cost of Sales

Cost of sales as a percentage of total net sales increased to 26.5% as compared with 26.0% in the prior period. This change reflected an increase in obsolescence charges of approximately 40 basis points, unfavorable changes in exchange rates and the net change in the mix of our business within our geographic regions and product categories of approximately 20 basis points, combined, and a charge related to unutilized tooling of approximately 10 basis points. Partially offsetting these increases were favorable changes in promotional activities of approximately 20 basis points.

The higher price of oil has resulted in price increases in certain oil-based chemicals, which has had a slight adverse effect on our cost of sales margin. In an ongoing effort to mitigate the impact of these increases, we are seeking potential offsetting opportunities in other categories of material purchases through our sourcing initiative in low-cost manufacturing locations worldwide.

Since certain promotional activities are a component of sales or cost of sales and the timing and level of promotions vary with our promotional calendar, we have experienced, and expect to continue to experience, fluctuations in the cost of sales percentage. In addition, future cost of sales mix may be impacted by the inclusion of new brands which have margin and product cost structures different from those of our existing brands.

Operating Expenses

Operating expenses increased to 63.8% of net sales as compared with 62.1% of net sales in the prior period. The current period operating expense margin was negatively impacted by charges related to the implementation of our cost savings initiative of approximately $53.2 million or approximately 110 basis points, costs related to stock-based compensation as a result of the adoption of SFAS No. 123(R) of approximately 60 basis points, and the estimated impact of both retailer consolidations resulting from the merger of Federated Department Stores, Inc. and The May Department Stores Company and the hurricanes that affected the southern United States of approximately 60 basis points. Partially offsetting these incremental costs were operating expense margin improvements of approximately 50 basis points resulting from net sales growth in brands with lower advertising, merchandising and sampling cost structures as well as an overall reduction in this type of spending, and approximately 40 basis points related to sales growth from our travel retail business.

Changes in advertising, sampling and merchandising spending result from the type, timing and level of activities related to product launches and rollouts, as well as the markets being emphasized.

THE ESTEE LAUDER COMPANIES INC.

Operating Results

Operating income decreased 17%, or $95.7 million, to $472.1 million. Operating margin was 9.7% of net sales in the current period as compared with 11.9% in the prior period. These results were negatively impacted by the effects of special charges related to our cost savings initiative of $53.2 million, or 1.1% of net sales. In addition to the special charges, net sales growth was more than offset by the increases in our cost of sales and operating expense margins as previously discussed.

The following discussions of Operating Results by Product Categories and Geographic Regions exclude the impact of special charges related to the implementation of our cost savings initiative. We believe the following analysis of operating results better reflects the manner in which we conduct and view our business.

Product Categories
Operating income declined 87% or $35.1 million to $5.2 million in the fragrance product category reflecting lower sales and, to a lesser extent, expenses incurred related to development of new products and brands. Skin care operating income decreased 8% or $22.6 million to $252.4 million primarily reflecting lower than anticipated net sales, coupled with spending to support new product launches. Operating income increased 5% or $12.6 million to $245.5 million in the makeup product category primarily reflecting sales growth from our makeup artist brands. Hair care operating income increased 11% or $2.0 million to $19.7 million reflecting worldwide sales growth. Operating results from all of our product categories were negatively impacted by the incremental operating expenses associated with new accounting rules for stock-based compensation.

Geographic Regions
Operating income in the Americas decreased 16% or $51.2 million to $259.2 million, primarily reflecting incremental operating expenses associated with new accounting rules for stock-based compensation of approximately $29 million. The ongoing success of our makeup artist brands and our online business contributed to higher operating results, but was more than offset by challenges in certain of our core brands, associated in part to competitive pressures and retailer consolidations. We expect business disruptions to continue throughout the remainder of the fiscal year and into fiscal 2007 at certain key retailers in the United States.

In Europe, the Middle East & Africa, operating income decreased 1% or $2.5 million to $209.3 million. This decrease was primarily due to lower results in Spain, the United Kingdom and Austria of approximately $21 million, collectively, partially offset by improvements of approximately $19 million from France, Germany, Russia and our travel retail business.

In Asia/Pacific, operating income increased 25% or $11.2 million to $56.8 million. This increase reflects improved results of approximately $16 million in Japan, China, Korea and Hong Kong, partially offset by lower results in Taiwan and Malaysia of approximately $5 million.

Interest Expense, Net

Net interest expense was $19.1 million as compared with $10.7 million in the prior period. The increase in net interest expense was primarily due to a higher level of borrowings compared with the prior period as a result of the issuance of commercial paper. The increased expense was partially offset by increased interest income related to higher investment interest rates.

Provision for Income Taxes

The provision for income taxes represents Federal, foreign, state and local income taxes. The effective rate differs from statutory rates due to the effect of state and local taxes, tax rates in foreign jurisdictions and certain nondeductible expenses. The Company's effective tax rate will change from quarter to quarter based on non-recurring and recurring factors including, but not limited to, the geographic mix of earnings, the timing and amount of foreign dividends, enacted tax legislation, state and local taxes, tax audit settlements and the interaction of various global tax strategies. The effective rate for income taxes for the nine months ended March 31, 2006 and 2005 was 37.4%. While there was no change in the overall effective rate between the two periods, the effective rate for the nine months ended March 31, 2006 included an extra 10 basis points attributable to a decrease in tax credits and an increase of 40 basis points attributable to the anticipated full-year mix of global earnings, which were offset by a decrease in state and local income tax expense of 20 basis points as well as a decrease of 30 basis points attributable to miscellaneous items.

THE ESTEE LAUDER COMPANIES INC.

The IRS has completed and closed its audits of our consolidated Federal income tax returns through fiscal 1997. The Company is presently under examination by the IRS for fiscal years 1998 through 2001. During the current quarter, we entered into discussions with the IRS regarding several issues that have been raised during their examination. The effective tax rates include our best estimates of the probable loss or favorable resolution of certain of the issues currently under discussion with the IRS. The final settlement of the remaining issues, which include transfer pricing and foreign tax credit calculations, is subject to further discussions, negotiations, review and computations. While it is probable that additional tax liabilities will result from the conclusion of the IRS examination, due to the complexity of the issues still under discussion, an estimate of the final outcome cannot be made at this time. We expect to conclude these discussions in conjunction with the finalization of the field examination portion of the audit in the fourth quarter of the current fiscal year.

Discontinued Operations

On September 30, 2005, we committed to a plan to sell the assets and operations of our reporting unit that markets and sells Stila brand products and to actively seek a buyer for the brand. Subsequent to March 31, 2006, we sold certain assets and operations of the Stila business, and pursuant to such sale, have agreed to divest ourself of continuing involvement in the Stila business, except as discussed below. As a result of the operations of this business through March 31, 2006, and in consideration of the then pending sale of certain assets and operations of this reporting unit, we recorded a charge of $75.7 million (net of $40.7 million tax benefit) to discontinued operations for the nine months ended March 31, 2006. The charge reflects the anticipated loss on the disposition of the business of $66.3 million, net of tax, for the nine months ended March 31, 2006, which represents adjustments to the fair value of assets held for sale, the costs to dispose of those assets not acquired by the purchaser and other costs anticipated in connection with the sale. The charge also includes the operating loss of $9.4 million, net of tax, for the nine months ended March 31, 2006. All statements of earnings information for the prior period has been restated for comparative purposes, including the restatement of the makeup product category and each of the geographic regions.

On April 10, 2005 (the "Effective Date"), we completed the sale of certain assets and operations of the reporting unit that marketed and sold Stila brand products to Stila Corp. (the "Purchaser"), an affiliate of Sun Capital Partners, Inc. for consideration of $23.0 million. The sale price included cash of $9.3 million, a promissory note with a notional value of $13.3 million and a fair value of $11.0 million and convertible preferred stock with an aggregate liquidation preference of $5.0 million and a fair value of $2.7 million. Stila Corp. will immediately assume responsibility for all decisions regarding the operations of the Stila business.

As additional consideration for the purchased assets, and subject to the terms and conditions of the sale agreement, the Purchaser will pay us an amount equal to two percent of the annual net sales of the acquired business during the period commencing on the Effective Date and ending August 20, 2019. We will use these proceeds to satisfy our commitment under the 1999 agreement pursuant to which we originally purchased the Stila business.

As discussed above, at March 31, 2006 we recorded a loss related to the anticipated disposition of the Stila business. In connection with this transaction, we anticipate additional future losses of approximately $6 million, net of tax, substantially related to employee separation benefits, beginning in the fourth quarter of fiscal 2006 and continuing into fiscal 2007.

In order to facilitate the transition of the Stila business to the Purchaser, we will continue to provide certain information systems, accounting and other back office services to the Purchaser. We will receive monthly service fees, which are designed to recover the estimated costs of providing these transition services. We have also agreed with the Purchaser to provide certain distribution and online services. In both cases, these services will continue for a period of up to four months from the Effective Date, subject to an extension of two months at the request of the Purchaser. In addition, we agreed to manufacture and sell to the Purchaser a limited range of products for a period of up to four months following the Effective Date and, in the case of one product, of up to two years.

THE ESTEE LAUDER COMPANIES INC.

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 March 31, 2006, we had cash and cash equivalents of $268.3 million compared with $553.3 million at June 30, 2005.

At March 31, 2006, our outstanding borrowings of $555.4 million included: (i) $233.3 million of 6% Senior Notes due January 2012 consisting of $250.0 million principal, unamortized debt discount of $0.7 million and a $16.0 million adjustment to reflect the fair value of an outstanding interest rate swap; (ii) $197.4 million of 5.75% Senior Notes due October 2033 consisting of $200.0 million principal and unamortized debt discount of $2.6 million; (iii) a 1.8 million Euro note (approximately $1.9 million at the exchange rate at March 31, 2006) payable semi-annually through February 2008 at a variable interest rate;
(iv) $7.0 million of capital lease obligations; (v) $65.0 million of outstanding short-term commercial paper payable through April 2006 at a weighted-average interest rate of 4.84%; (vi) a 3.0 billion yen short-term borrowing under a revolving credit facility (approximately $25.6 million at the exchange rate at March 31, 2006); and (vii) $25.2 million of other short-term borrowings.

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 long-term credit ratings are A+ with a stable outlook by Standard & Poor's and A1 with a stable outlook by Moody's. At March 31, 2006, we had $65.0 million of commercial paper outstanding, which is being refinanced on a periodic basis as it matures at then prevailing market interest rates. We also have an effective shelf registration statement covering the potential issuance of up to an additional $300.0 million in debt securities and $167.1 million in additional uncommitted credit facilities, of which $25.2 million was used as of March 31, 2006.

We have an unused $600.0 million senior revolving credit facility that expires on May 27, 2010. The facility may be used for general corporate purposes, including financing working capital, and also as credit support for our commercial paper program. Up to the equivalent of $250.0 million of the facility is available for multi-currency 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 the Federal funds rate plus 1/2%. The credit facility has an annual fee of $0.4 million, payable quarterly, based on our current credit ratings. As of March 31, 2006, we were in compliance with all related financial and other restrictive covenants, including limitations on indebtedness and liens.

On March 24, 2006, we entered into 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. We borrowed 3.0 billion yen under the new facility on March 28, 2006 to repay the previously outstanding 3.0 billion yen term loan that was to mature on that date. The outstanding balance at March 31, 2006 ($25.6 million at the exchange rate at March 31, 2006) is classified as short-term debt on our consolidated balance sheet.

In October 2005, we redeemed the remaining $68.4 million of the 2015 Preferred Stock that was outstanding at June 30, 2005 and paid the accrued dividends thereon.

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 the revolving credit facility.

Total debt as a percent of total capitalization was 27% at March 31, 2006 and 30% at June 30, 2005.

THE ESTEE LAUDER COMPANIES INC.

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.

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 and capital expenditures on both a near-term and long-term basis.

Cash Flows
Net cash provided by operating activities from continuing operations was $476.3 million during the nine months ended March 31, 2006 as compared with net cash provided of $295.7 million in the prior period. The improvement in cash flows provided by operating activities primarily reflected significant deferred compensation and supplemental pension payments made to retired executives in fiscal 2005. Additional increases in other accrued liabilities and noncurrent liabilities reflect employee separation benefits recorded in the current period related to our cost savings initiative. Changes in accounts receivable reflect improvements in our rate of collections as compared with the prior period and the decrease in inventory levels had a favorable impact on cash flows from operations reflecting our efforts to better manage our inventory.

Net cash used for investing activities was $219.1 million during the nine months ended March 31, 2006 compared with $169.7 million in the prior period. For both periods the use of cash primarily reflected capital expenditures, which were slightly higher during the current period. Additional cash used for investing activities in the current period reflects the earn-out payment related to the fiscal 2000 acquisition of Jo Malone Limited.

Net cash used for financing activities was $535.1 million during the nine months ended March 31, 2006 compared to net cash used for financing activities of $228.4 million in the prior period. This change from the prior period primarily reflected the acquisition of treasury stock, the net repayment of short-term commercial paper and the redemption of the remaining shares of 2015 Preferred Stock. The repayment of the 3.0 billion yen term loan in the current period was offset by the borrowings under the new 3.0 billion yen revolving credit facility we entered into in March 2006.

Dividends
On November 10, 2005, the Board of Directors declared an annual dividend of $.40 per share, or $85.5 million, on our Class A and Class B Common Stock, which was paid on December 28, 2005 to stockholders of record at the close of business on December 9, 2005. The annual common stock dividend declared during the prior period was $.40 per share, or $90.1 million, which was paid on December 28, 2004 to stockholders of record at the close of business on December 10, 2004. Dividends on the 2015 Preferred Stock were $0.5 million and $0.6 million for the nine months ended March 31, 2006 and 2005, respectively. These dividends have been characterized as interest expense in the accompanying consolidated statements of earnings for the nine months ended March 31, 2006 and 2005.

                                                                      Total Number of          Maximum Number of
                                                                    Shares Purchased as         Shares that May
                         Total Number of       Average Price          Part of Publicly         Yet Be Purchased
             Period      Shares Purchased      Paid Per Share       Announced Program(1)       Under the Program
--------------------    ------------------    -----------------    -----------------------    --------------------
          July 2005                     --                   --                         --              20,607,900
        August 2005                     --                   --                         --              20,607,900
     September 2005              1,919,700                37.04                  1,919,700              18,688,200
       October 2005              3,726,700                35.02                  3,726,700              14,961,500
      November 2005              1,893,800                33.01                  1,893,800              13,067,700
      December 2005              1,237,800                33.71                  1,237,800              11,829,900
       January 2006                     --                   --                         --              11,829,900
      February 2006              1,261,800                37.00                  1,261,800              10,568,100
         March 2006                     --                   --                         --              10,568,100
                        ------------------                         -----------------------
       Year-to-date             10,039,800                35.11                 10,039,800              10,568,100
                        ==================                         =======================

(1) The publicly announced repurchase program was last increased by 20.0 million shares on May 18, 2005. The initial program covering the repurchase of 8.0 million shares was announced in September 1998 and increased by 10.0 million shares on both May 11, 2004 and October 30, 2002.

Commitments and Contingencies
In October 2005, we redeemed the remaining $68.4 million of the 2015 Preferred Stock that was outstanding at June 30, 2005 and paid the accrued dividends thereon.

In December 2005, we made a cash payment of $36.4 million to satisfy our obligation related to an earn-out provision, which was part of our fiscal 2000 acquisition of Jo Malone Limited.

Contractual Obligations
Since June 30, 2005, we made additional commitments pursuant to employment agreements of approximately $30 million, which are expected to be paid through fiscal 2011. Furthermore, we committed to spend approximately $26 million to support the company-wide initiative to upgrade our information systems, which is expected to be paid through November 2006.

During fiscal 2006, we implemented a cost savings initiative that was designed to generate between $40 and $45 million in savings this fiscal year and approximately $75 million annually. We anticipate this multi-faceted initiative to result in one-time costs of up to $90 million during the fiscal year. As of March 31, 2006, we incurred $53.2 million in special charges associated with this initiative. These charges related primarily to employee separation costs, which will be paid through fiscal 2008.

Derivative Financial Instruments and Hedging Activities There have been no significant changes to our derivative financial instruments and hedging activities as discussed in our Annual Report on Form 10-K for the year ended June 30, 2005.

Foreign Exchange Risk Management
We enter into forward exchange contracts to hedge anticipated transactions as well as receivables and payables denominated in foreign currencies for periods consistent with our identified exposures. The purpose of the hedging activities is to minimize the effect of foreign exchange rate movements on our costs and on the cash flows that we receive from foreign subsidiaries. Almost all foreign currency contracts are denominated in currencies of major industrial countries and are with large financial institutions rated as strong investment grade by a major rating agency. We also enter into foreign currency options to hedge anticipated transactions where there is a high probability that anticipated exposures will materialize. The forward exchange contracts and foreign currency options entered into to hedge anticipated transactions have been designated as cash-flow hedges. As of March 31, 2006, these cash-flow hedges were highly effective, in all material respects.

THE ESTEE LAUDER COMPANIES INC.

As a matter of policy, we only enter into contracts with counterparties that have at least an "A" (or equivalent) credit rating. The counterparties to these contracts are major financial institutions. We do not have significant exposure to any one counterparty. Our exposure to credit loss in the event of nonperformance by any of the counterparties is limited to only the recognized, but not realized, gains attributable to the contracts. Management believes risk of loss under these hedging contracts is remote and in any event would not be material to the consolidated financial results. The contracts have varying maturities through the end of June 2007. Costs associated with entering into such contracts have not been material to our consolidated financial results. We do not utilize derivative financial instruments for trading or speculative purposes. At March 31, 2006, we had foreign currency contracts in the form of forward exchange contracts and option contracts in the amount of $864.3 million and $130.2 million, respectively. The foreign currencies included in forward exchange contracts (notional value stated in U.S. dollars) are principally the Euro ($259.2 million), Swiss franc ($108.7 million), Canadian dollar ($97.2 million), British pound ($71.5 million) and Australian dollar ($54.3 million). The foreign currencies included in the option contracts (notional value stated in U.S. dollars) are principally the Japanese yen ($32.0 million), Euro ($27.7 million), Canadian dollar ($22.8 million), Swiss franc ($14.8 million) and South Korean won ($13.4 million).

Interest Rate Risk Management
We enter into interest rate derivative contracts to manage the exposure to fluctuations of interest rates on our funded indebtedness and anticipated issuance of debt, as well as cash investments, for periods consistent with the identified exposures. All interest rate derivative contracts are with large financial institutions rated as strong investment grade by a major rating agency.

We have an interest rate swap agreement with a notional amount of $250.0 million to effectively convert fixed interest on the existing $250.0 million 6% Senior Notes to variable interest rates based on LIBOR. We designated the swap as a fair-value hedge. As of March 31, 2006, the fair-value hedge was highly effective, in all material respects.

Market Risk
Using the value-at-risk model, as discussed in our Annual Report on Form 10-K for the fiscal year ended June 30, 2005, our average value-at-risk, calculated for the most recent twelve months, is $6.8 million related to our foreign exchange contracts. As of March 31, 2006, our average value-at-risk related to our interest rate contracts for the twelve month period for which these contracts were outstanding was $8.3 million. There have been no significant changes in market risk since June 30, 2005 that would have a material effect on our calculated value-at-risk exposure, as disclosed in our Annual Report on Form 10-K for the fiscal year ended June 30, 2005.

Off-Balance Sheet Arrangements
We do not maintain any off-balance sheet arrangements, transactions, obligations or other relationships with unconsolidated entities that would be expected to have a material current or future effect upon our financial condition or results of operations.

As disclosed in our Annual Report on Form 10-K for the fiscal year ended June 30, 2005, the discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in conformity with U.S. generally accepted accounting principles. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses reported in those financial statements. These judgments can be subjective and complex, and consequently actual results could differ from those estimates and assumptions. Our most critical accounting policies relate to revenue recognition, concentration of credit risk, inventory, pension and other postretirement benefit costs, goodwill and other intangible assets, income taxes and derivatives. Since June 30, 2005, there have been no significant changes to the assumptions and estimates related to those critical accounting policies.

THE ESTEE LAUDER COMPANIES INC.

We use an expected stock-price volatility assumption that is a combination of both current and historical implied volatilities of the underlying stock which are obtained from public data sources. This approach is used as a predictor of future realized and implied volatilities and is directly relevant for valuing stock options. For stock option grants issued during the three and nine months ended March 31, 2006, we used a weighted-average expected stock-price volatility of 25% and 23%, respectively, based upon the implied volatility at the time of issuance.

With regard to the weighted-average option life assumption, we consider the exercise behavior of past grants and model the pattern of aggregate exercises. Patterns are determined on specific criteria of the aggregate pool of optionees including the reaction to vesting, realizable value, long-run exercise propensity, pent-up demand, stock run-up effect and short-time-to-maturity effect. For stock option grants issued during the three and nine months ended March 31, 2006, we used a weighted-average expected option life assumption of approximately 8 years.

While we believe the above critical estimates are based on outcomes that are reasonably likely to occur, if we were to increase or decrease the expected option life by 1 year and simultaneously increase or decrease the expected volatility by 100 basis points, recognized compensation expense would have changed approximately $0.4 million and $2.1 million in either direction for the three and nine months ended March 31, 2006, respectively.

The IRS has completed and closed its audits of our consolidated Federal income tax returns through fiscal 1997. We are presently under examination by the IRS for fiscal years 1998 through 2001. During the current period, we entered into discussions with the IRS regarding several issues that have been raised during their examination. The effective tax rates include our best estimates of the probable loss or favorable resolution of certain of the issues currently under discussion with the IRS. The final settlement of the remaining issues, which include transfer pricing and foreign tax credit calculations, is subject to further discussions, negotiations, review and computations. While it is probable that additional tax liabilities will result from the conclusion of the IRS examination, due to the complexity of the issues still under discussion, an estimate of the final outcome cannot be made at this time. We expect to conclude these discussions in conjunction with the finalization of the field examination portion of the audit in the fourth quarter of fiscal 2006.

In September 2005, the Financial Accounting Standards Board ("FASB") issued FASB Staff Position ("FSP") No. FAS 123(R)-1, "Classification and Measurement of Freestanding Financial Instruments Originally Issued in Exchange for Employee Services under FASB Statement No. 123(R)," to defer the requirement of SFAS No.
123(R), "Share-Based Payment," that a freestanding financial instrument originally subject to SFAS No. 123(R) becomes subject to the recognition and measurement requirements of other applicable GAAP when the rights conveyed by the instrument to the holder are no longer dependent on the holder being an employee of the entity. The rights under stock-based payment awards issued to our employees are all dependent on the recipient being an employee of the Company. Therefore, this FSP currently does not have an impact on our consolidated financial statements and the measurement of stock-based compensation in accordance with SFAS No. 123(R).

THE ESTEE LAUDER COMPANIES INC.

In October 2005, the FASB issued FSP No. FAS 13-1, "Accounting for Rental Costs Incurred during a Construction Period" ("FSP No. 13-1"), to give guidance to a lessee on determining whether rental costs associated with operating leases may be capitalized during a construction period. Specifically, the FSP stipulates that such costs shall be (a) recognized as rental expense, (b) included in income from continuing operations, and (c) allocated over the lease term according to the guidance in SFAS No. 13, "Accounting for Leases," and FASB Technical Bulletin No. 85-3, "Accounting for Operating Leases with Scheduled Rent Increases." The guidance in FSP No. FAS 13-1 is effective for the first reporting period beginning after December 15, 2005, with early adoption permitted for financial statements or interim financial statements that have not yet been issued. We already account for such rental costs in accordance with FSP No. 13-1; therefore the issuance of this FSP did not have an additional impact on our consolidated financial statements.

In October 2005, the FASB issued FSP No. FAS 123 (R)-2, "Practical Accommodation to the Application of Grant Date as Defined in FASB Statement No. 123(R)," to provide guidance on determining the grant date for an award as defined in SFAS No. 123(R). This FSP stipulates that assuming all other criteria in the grant date definition are met, a mutual understanding of the key terms and conditions of an award to an individual employee is presumed to exist upon the award's approval in accordance with the relevant corporate governance requirements, provided that the key terms and conditions of an award (a) cannot be negotiated by the recipient with the employer because the award is a unilateral grant, and
(b) are expected to be communicated to an individual recipient within a relatively short time period from the date of approval. We applied the principles set forth in this FSP upon our adoption of SFAS No. 123(R).

In November 2005, the FASB issued FSP Nos. FAS 115-1 and FAS 124-1, "The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments," to give guidance on determining when investments in certain debt and equity securities are considered impaired, whether that impairment is other than temporary, and on measuring such impairment loss. This FSP also includes accounting considerations subsequent to the recognition of an other-than-temporary impairment and requires certain disclosures about unrealized losses that have not been recognized as other-than-temporary impairments. FSP Nos. FAS 115-1 and FAS 124-1 applies to reporting periods beginning after December 15, 2005, although earlier application was permitted. This FSP did not have a material impact on our consolidated financial statements.

In November 2005, the FASB published FSP No. FAS 123(R)-3, "Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards," to provide an alternative transition method for accounting for the tax effects of share-based payment awards to employees. The FASB learned, subsequent to adoption of SFAS No. 123(R), that a number of constituents did not have the information necessary to comply with the transition requirements of SFAS No.
123(R), and provided an elective alternative transition method in FSP No. FAS
123(R)-3. Entities can choose to follow either the transition guidance of SFAS No. 123(R) or the alternative transition method described in FSP No. FAS
123(R)-3. The guidance in FSP No. FAS 123(R)-3 became effective upon publication. We have applied the principles originally set forth in SFAS No.
123(R). Therefore the guidance set forth in this FSP is not applicable to us.

In February 2006, the FASB issued FSP No. FAS 123(R)-4, "Classification of Options and Similar Instruments Issued as Employee Compensation That Allow for Cash Settlement upon the Occurrence of a Contingent Event," to amend guidance in SFAS No. 123(R) on classifying options and similar instruments issued as part of employee compensation arrangements. This FSP revises the requirement in SFAS No. 123(R) that share options with contingent cash settlement features be classified as liabilities and re-measured to fair value each reporting period regardless of the event's likelihood of occurrence. Under FSP No. FAS 123(R)-4, companies shall classify these instruments as equity if the occurrence of such contingent event is not probable. Any awards that require cash settlement or permit cash settlement at the direction of the holder are classified as liabilities in our consolidated financial statements. For all other awards, the discretion to allow cash settlement of our stock-based compensation awards lies with us and are thus classified as equity.

THE ESTEE LAUDER COMPANIES INC.

We and our representatives from time to time make written or oral forward-looking statements, including statements contained in this and other filings with the Securities and Exchange Commission, in our press releases and in our reports to stockholders. The words and phrases "will likely result," "expect," "believe," "planned," "may," "should," "could," "anticipate," "estimate," "project" or similar expressions are intended to identify "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. These statements include, without limitation, our expectations regarding sales, earnings or other future financial performance and liquidity, product introductions, entry into new geographic regions, information systems initiatives, new methods of sale and future operations or operating results. Although we believe that our expectations are based on reasonable assumptions within the bounds of our knowledge of our business and operations, actual results may differ materially from our expectations. Factors that could cause actual results to differ from expectations include, without limitation:

(1) increased competitive activity from companies in the skin care, makeup, fragrance and hair care businesses, some of which have greater resources than we do;

(2) our ability to develop, produce and market new products on which future operating results may depend;

(3) consolidations, restructurings, bankruptcies and reorganizations in the retail industry causing a decrease in the number of stores that sell our products, an increase in the ownership concentration within the retail industry, ownership of retailers by our competitors and ownership of competitors by our customers that are retailers;

(4) shifts in the preferences of consumers as to where and how they shop for the types of products and services we sell;

(5) social, political and economic risks to our foreign or domestic manufacturing, distribution and retail operations, including changes in foreign investment and trade policies and regulations of the host countries and of the United States;

(6) changes in the laws, regulations and policies that affect, or will affect, our business, including those relating to our products, changes in accounting standards, tax laws and regulations, trade rules and customs regulations, and the outcome and expense of legal or regulatory proceedings, and any action we may take as a result;

(7) foreign currency fluctuations affecting our results of operations and the value of our foreign assets, the relative prices at which we and our foreign competitors sell products in the same markets and our operating and manufacturing costs outside of the United States;

(8) changes in global or local conditions, including those due to natural or man-made disasters, real or perceived epidemics, or energy costs, that could affect consumer purchasing, the willingness of consumers to travel, the financial strength of our customers or suppliers, our operations, the cost and availability of capital which we may need for new equipment, facilities or acquisitions, the cost and availability of raw materials and the assumptions underlying our critical accounting estimates;

(9) shipment delays, depletion of inventory and increased production costs resulting from disruptions of operations at any of the facilities that manufacture nearly all of our supply of a particular type of product (i.e., focus factories) or at our distribution or inventory centers;

(10) real estate rates and availability, which may affect our ability to increase the number of retail locations at which we sell our products and the costs associated with our other facilities;

(11) changes in product mix to products which are less profitable;

(12) our ability to acquire, develop or implement new information and distribution technologies, on a timely basis and within our cost estimates;

THE ESTEE LAUDER COMPANIES INC.

(13) our ability to capitalize on opportunities for improved efficiency, such as publicly-announced cost savings initiatives and the success of Stila under new ownership, and to integrate acquired businesses and realize value therefrom;

(14) consequences attributable to the events that are currently taking place in the Middle East, including terrorist attacks, retaliation and the threat of further attacks or retaliation;

(15) the impact of repatriating certain of our foreign earnings to the United States in connection with The American Jobs Creation Act of 2004; and

(16) additional factors as described in our filings with the Securities and Exchange Commission, including our Annual Report on Form 10-K for the fiscal year ended June 30, 2005.

We assume no responsibility to update forward-looking statements made herein or otherwise.