LOWE'S COMPANIES, INC. The following discussion and analysis summarizes the significant factors affecting our consolidated operating results, financial condition, liquidity and capital resources during the three-year period endedJanuary 31, 2020 (our fiscal years 2019, 2018 and 2017). Unless otherwise noted, all references herein for the years 2019, 2018 and 2017 represent the fiscal years endedJanuary 31, 2020 ,February 1, 2019 andFebruary 2, 2018 , respectively. We intend for this discussion to provide the reader with information that will assist in understanding our financial statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles affect our financial statements. This discussion should be read in conjunction with our consolidated financial statements and notes to the consolidated financial statements included in this Annual Report that have been prepared in accordance with accounting principles generally accepted inthe United States of America . This discussion and analysis is presented in six sections: • Executive Overview • Operations • Financial Condition, Liquidity and Capital Resources • Off-Balance Sheet Arrangements • Contractual Obligations and Commercial Commitments • Critical Accounting Policies and Estimates
EXECUTIVE OVERVIEW
Net sales for fiscal 2019 increased 1.2% over fiscal year 2018 to$72.1 billion . The increase in total sales was driven by an increase in comparable sales, offset by a decrease in sales due to closed stores and the exit of theMexico and Orchard Supply Hardware (Orchard) businesses. Comparable sales increased 2.6% over fiscal year 2018, driven by a comparable average ticket increase of 2.1% and an increase in comparable transactions of 0.5%. Net earnings for fiscal 2019 increased 85.0% to$4.3 billion . Diluted earnings per common share increased 93.1% in fiscal year 2019 to$5.49 from$2.84 in 2018. As further discussed below, during fiscal year 2019, we completed a strategic review of the Canadian operations and finalized the closure of theMexico business, resulting in net pre-tax operating costs and charges of$265 million , which decreased diluted earnings per share by$0.25 . Adjusting 2019 and 2018 amounts for certain significant discrete items not contemplated in the business outlooks for those respective years, adjusted diluted earnings per common share increased 12.3% in fiscal year 2019 to$5.74 from$5.11 in 2018 (see the non-GAAP financial measures discussion). For 2019, cash flows from operating activities were approximately$4.3 billion , with$1.5 billion used for capital expenditures. Continuing to deliver on our commitment to return excess cash to shareholders, the Company repurchased 41.0 million shares of stock through the share repurchase program for$4.3 billion and paid$1.6 billion in dividends during the year. During the prior year, we announced our intention to exit ourMexico retail operations and our plan to sell the operating business. However, during the first quarter of 2019, after an extensive market evaluation, the decision was made to instead sell the assets of the business. This resulted in an$82 million tax benefit in the first quarter. This benefit was partially offset by$35 million of pretax operating costs during the year associated with the exit and ongoing wind-down of the business. In the third quarter of 2019, we commenced a strategic review of the Canadian operations to improve execution and deliver long-term improved profitability inCanada . As a result, during the fourth quarter, we completed the closure of 28 under-performing stores with the remaining six planned closures to be completed in early fiscal 2020. In addition, Canadian operations started a SKU rationalization project to present a more coordinated assortment of product to the customer across banners and began the reorganization of the corporate structure to more efficiently serve stores. Total pretax operating costs and charges associated with the strategic review of the Canadian operations were$230 million for fiscal year 2019. During the year, we made significant progress transforming our Company through our four key focus areas: driving merchandising excellence; transforming our supply chain; delivering operational efficiency; and intensifying customer engagement. Our Merchandise Service Teams (MST) have improved our merchandising reset execution and day-to-day bay and end-cap maintenance at the store level to deliver a better shopping experience to our customers. We made improvements to our store environment, optimizing our layout on the critically important seasonal pad at the front of our stores. We also opened two new bulk distribution centers, relocated a third bulk distribution center, and opened four new cross-dock delivery terminals. In 2019, we focused on improving our customer service and investing in our in-stock position, driving efficiency in our store operations and advancing our Pro service model. We rolled out a customer centric scheduling system that allows us to provide better department coverage and customer service, while ensuring that we are using our payroll efficiently. We have also added scheduling effectiveness tools that measure schedule efficiency and deployed new mobile devices to our store associates with 21
--------------------------------------------------------------------------------
Table of Contents
applications to help make our associates more efficient and ultimately allowed them to spend more time interacting with customers. In 2019, our Pro strategy was primarily focused on improving retail fundamentals such as job lot quantities, improved service levels, dedicated loaders, Pro department supervisors and consistent volume pricing. In addition, during the fourth quarter, we added dedicated point of sale terminals at our Pro desk to allow for more convenient, faster service. In 2019, we made significant progress in transforming our company. Although we are only one year into a multi-year transformation, we believe that we are on the right path to capitalize on demand in the home improvement market, and our planned improvements to the Lowes.com platform will allow these four strategic areas of focus to create a true omni-channel ecosystem forLowe's so we can efficiently serve our customers any way they choose to shop. 22
--------------------------------------------------------------------------------
Table of Contents
OPERATIONS
The following tables set forth the percentage relationship to net sales of each
line item of the consolidated statements of earnings, as well as the percentage
change in dollar amounts from the prior year. This table should be read in
conjunction with the following discussion and analysis and the consolidated
financial statements, including the related notes to the consolidated financial
statements.
Basis Point Increase Percentage Increase
/ (Decrease) / (Decrease) in
in Percentage of Net Dollar Amounts from
Sales from Prior Year Prior Year
2019 2018 2019 vs. 2018 2019 vs. 2018
Net sales 100.00% 100.00% N/A 1.2 %
Gross margin 31.80 32.12 (32 ) 0.2
Expenses:
Selling, general and 21.30 24.41 (311 ) (11.7 )
administrative
Depreciation and 1.75 2.07 (32 ) (14.5 )
amortization
Operating income 8.75 5.64 311 57.1
Interest - net 0.96 0.88 8 10.6
Pre-tax earnings 7.79 4.76 303 65.7
Income tax provision 1.86 1.52 34 24.3
Net earnings 5.93% 3.24% 269 85.0 %
Basis Point Increase Percentage Increase
/ (Decrease) / (Decrease) in
in Percentage of Net Dollar Amounts from
Sales from Prior Year Prior Year
2018 2017 2018 vs. 2017 2018 vs. 2017
Net sales 100.00% 100.00% N/A 3.9 %
Gross margin 32.12 32.69 (57 ) 2.1
Expenses:
Selling, general and
administrative 24.41 21.04 337 20.6
Depreciation and
amortization 2.07 2.05 2 5.2
Operating income 5.64 9.60 (396 ) (39.0 )
Interest - net 0.88 0.92 (4 ) (1.3 )
Loss on extinguishment
of debt - 0.68 (68 ) (100.0 )
Pre-tax earnings 4.76 8.00 (324 ) (38.2 )
Income tax provision 1.52 2.98 (146 ) (47.1 )
Net earnings 3.24% 5.02% (178 ) (32.9 )%
23--------------------------------------------------------------------------------
Table of Contents Other Metrics 2019 2018 2017 Comparable sales increase 1 2.6 % 2.4 % 4.0 % Total customer transactions (in millions) 921 941 953 Average ticket 2$ 78.36 $ 75.79 $ 72.00 At end of year: Number of stores 1,977 2,015 2,152 Sales floor square feet (in millions) 208 209
215
Average store size selling square feet (in thousands) 3 105 104
100
Return on average assets 4 10.8 % 6.4 % 9.5 % Return on average shareholders' equity 5 153.4 % 43.8 % 59.2 % Net earnings to average debt and equity 6 17.2 % 9.0 % 13.0 % Return on invested capital 6 19.9 % 11.2 % 16.0 %
1 A comparable location is defined as a retail location that has been open
longer than 13 months. A location that is identified for relocation is no
longer considered comparable in the month of its relocation. The relocated
location must then remain open longer than 13 months to be considered
comparable. A location we have decided to exit is no longer considered
comparable as of the beginning of the month in which we announce its exit.
Acquired locations are included in the comparable sales calculation beginning
in the first full month following the first anniversary of the date of the
acquisition. Comparable sales include online sales, which positively impacted
fiscal 2019, fiscal 2018 and fiscal 2017 by approximately 25 basis points, 80
basis points and 120 basis points, respectively.
2 Average ticket is defined as net sales divided by the total number of customer
transactions.
3 Average store size selling square feet is defined as sales floor square feet
divided by the number of stores open at the end of the period. The average
retail selling space.
4 Return on average assets is defined as net earnings divided by average total
assets for the last five quarters.
5 Return on average shareholders' equity is defined as net earnings divided by
average shareholders' equity for the last five quarters.
6 Return on invested capital is calculated using a non-GAAP financial measure.
Net earnings to average debt and equity is the most comparable GAAP ratio. See
below for additional information and reconciliations of non-GAAP measures.
24
--------------------------------------------------------------------------------
Table of Contents Non-GAAP Financial Measures Return onInvested Capital Return onInvested Capital (ROIC) is calculated using a non-GAAP financial measure. We believe ROIC is a meaningful metric for investors because it represents management's measure of how effectively the Company is using capital to generate profits. Although ROIC is a common financial metric, numerous methods exist for calculating ROIC. Accordingly, the method used by our management may differ from the methods used by other companies. We encourage you to understand the methods used by another company to calculate its ROIC before comparing to ours. We define ROIC as rolling 12 months' lease adjusted net operating profit after tax (Lease adjusted NOPAT) divided by the average of current year and prior year ending debt and equity. Lease adjusted NOPAT is a non-GAAP financial measure, and net earnings is considered to be the most comparable GAAP financial measure. The calculation of ROIC, together with a reconciliation of net earnings to Lease adjusted NOPAT, is as follows: (In millions, except percentage data) 2019 2018
2017
Calculation of Return onInvested Capital Numerator Net earnings$ 4,281 $ 2,314 $ 3,447 Plus: Interest expense - net 691 624 633 Operating lease interest 195 206 209 Loss on extinguishment of debt - -
464
Provision for income taxes 1,342 1,080
2,042
Lease adjusted net operating profit 6,509 4,224
6,795
Less:
Income tax adjustment 1 1,554 1,344
2,528
Lease adjusted net operating profit after tax$ 4,955 $ 2,880 $ 4,267 Denominator Average debt and equity 2$ 24,950 $ 25,713 $ 26,610 Net earnings to average debt and equity 17.2 % 9.0 % 13.0 % Return on invested capital 19.9 % 11.2 % 16.0 %
1 Income tax adjustment is defined as net operating profit multiplied by the
effective tax rate, which was 23.9%, 31.8%, and 37.2% for 2019, 2018, and
2017, respectively.
2 Average debt and equity is defined as average current year and prior year
ending debt, including current maturities, short-term borrowings, and
operating lease liabilities, plus the average current year and prior year
ending total equity.
Adjusted Diluted Earnings Per Share
Adjusted diluted earnings per share is considered a non-GAAP financial measure.
The Company believes this non-GAAP financial measure provides useful insight for
analysts and investors in evaluating what management considers the Company's
core financial performance. Adjusted diluted earnings per share excludes the
impact of certain discrete items not contemplated in the Company's business
outlooks for 2019 and 2018. Unless otherwise noted, the income tax effect of
these adjustments is calculated using the marginal rates for the respective
periods.
Adjusted diluted earnings per share should not be considered an alternative to,
or more meaningful indicator of, the Company's diluted earnings per common share
as prepared in accordance with GAAP. The Company's methods of determining this
non-GAAP financial measure may differ from the method used by other companies
for this or similar non-GAAP financial measures. Accordingly, these non-GAAP
measures may not be comparable to the measures used by other companies.
Fiscal 2019 Impacts
For fiscal 2019, the Company has recognized financial impacts from the following
discrete items, not contemplated in the Company's Business Outlook for 2019:
25--------------------------------------------------------------------------------
Table of Contents
• Prior to the beginning of fiscal 2019, the Company announced its intention
to exit its
business. However, in the first quarter of fiscal 2019, after an extensive
market evaluation, the decision was made to instead sell the assets of the
business. That decision resulted in an $82 million tax benefit in the
first quarter, which was partially offset by $12 million of pre-tax
operating costs associated with the exit and ongoing wind-down of the
Mexico retail operations. During the second quarter of fiscal 2019, the
Company recognized additional pre-tax operating losses of
the third quarter, the pre-tax operating losses for the
operations were insignificant. For the fourth quarter, the Company
recognized additional pre-tax operating losses of
pre-tax operating costs and charges for fiscal year 2019 were
(Mexico adjustments), and;
• During the third quarter of fiscal 2019, the Company began a strategic
review of its Canadian operations, and as a result, recognized pre-tax
charges of
the fourth quarter, the Company made the decision to close 34
under-performing stores and take additional actions to improve future
performance and profitability of its Canadian operations. As a result of
these actions, in the fourth quarter of fiscal 2019, the Company
recognized pre-tax operating costs and charges of
of inventory liquidation, accelerated depreciation and amortization,
severance, and other costs, as well as a net
tax expense related to income tax valuation allowance. Total pre-tax
operating costs and charges for fiscal year 2019 were
Canada restructuring). Fiscal 2018 Impacts During fiscal 2018, the Company recognized financial impacts from the following discrete items, not contemplated in the Company's Business Outlook for 2018: • During the fourth quarter of fiscal 2018, the Company recorded$952
million of goodwill impairment associated with its Canadian operations
(Canadian goodwill impairment);
• On
Hardware operations. As a result, the Company recognized pre-tax charges
of $230 million during the second quarter of fiscal 2018 associated with
long lived asset impairment and discontinued projects. During the third
quarter of fiscal 2018, the Company recognized pre-tax charges of $123
million associated with accelerated depreciation and amortization,
severance and lease obligations. During the fourth quarter of fiscal 2018,
the Company recognized additional pre-tax charges of $208 million primarily related to lease obligations. Total pre-tax charges for
fiscal year 2018 were
• On
stores across the
under-performing stores. As a result, the Company recognized pre-tax
charges of
with long-lived asset impairment and severance obligations. During the
fourth quarter of fiscal 2018, the company recognized additional pre-tax
charges of
obligation costs, as well as accelerated depreciation. Total pre-tax
charges for fiscal year 2018 were
charges);
• As previously discussed above, on
its plans to exit retail operations in
alternatives. During the third quarter,
impairment was recognized on certain assets in
strategic evaluation. During the fourth quarter, an additional
million of impairment was recognized. Total pre-tax charges for fiscal
year 2018 were $244 million (Mexico impairment charges);
• During the third quarter of fiscal 2018, the Company identified certain
non-core activities within its
including Alacrity Renovation Services and
during the third quarter of 2018, the Company recognized pre-tax charges
of
write-down. During the fourth quarter of fiscal 2018, the Company
recognized additional pre-tax charges of $32 million . Total pre-tax
charges for fiscal year 2018 were $46 million (Non-core activities
charges), and;
• During the fourth quarter of fiscal 2018, the Company recorded a pre-tax
charge of $13 million , associated with severance costs due to the
elimination of the Project Specialists Interiors position (Project
Specialists Interiors charge).
26--------------------------------------------------------------------------------
Table of Contents
2019 2018
Pre-Tax Pre-Tax
Earnings Tax Net Earnings Earnings Tax Net Earnings
Diluted earnings per share, as
reported $ 5.49 $ 2.84
Non-GAAP Adjustments - per share
impacts
2019 Canada restructuring 0.29 0.02 0.31 - - -
Mexico adjustments 0.05 (0.11 ) (0.06 ) - - -
Canadian goodwill impairment - - - 1.17 (0.03 ) 1.14
Orchard Supply Hardware charges - - - 0.68 (0.17 ) 0.51
U.S. & Canada charges - - - 0.33 (0.08 ) 0.25
Mexico impairment charges - - - 0.30 0.01 0.31
Non-core activities charges - - - 0.06 (0.02 ) 0.04
Project Specialists Interiors
charge - - - 0.02 - 0.02
Adjusted diluted earnings per
share $ 5.74 $ 5.11
Fiscal 2019 Compared to Fiscal 2018
Net Sales - Net sales increased 1.2% to$72.1 billion in 2019. The increase in total sales was driven primarily by 2.6% comparable sales growth and new stores (+0.2%), offset by the impact from closed stores and exit of theMexico & Orchard operations (-1.6%). The comparable sales increase of 2.6% in 2019 was driven primarily by a 2.1% increase in comparable average ticket and a 0.5% increase in comparable customer transactions. Comparable sales increases during each quarter of the fiscal year, as reported, were 3.5% in the first quarter, 2.3% in the second quarter, 2.2% in the third quarter, and 2.5% in the fourth quarter. During 2019, we experienced comparable sales increases in ten of 13 product categories. We experienced mid single-digit negative comparable sales in Lighting and Kitchens & Bath, primarily due to the exit of the Project Specialist Interiors (PSI) business in 2018. Lighting also experienced decreased volume of sales due to price increases to offset tariff pressure. Comparable sales increases were above the company average in Lawn & Garden, Décor, Tools, Paint, Appliances, Millwork, Seasonal & Outdoor Living, Hardware, Rough Plumbing & Electrical, and Lumber & Building Materials. Favorable weather driven demand was a key comparable sales driver for Lawn & Garden, Seasonal & Outdoor Living, Hardware, and Paint. Décor comparable sales were driven by strong performance in Blinds & Shades, promotional activity, and improved inventory position. Strong refrigerator and laundry performance during major holiday promotion events in Appliances drove strong comparable sales during the year. Tools benefited from the CRAFTSMAN® reset in the prior year, as well as strong performance during promotional events during the year. Geographically, all 15 U.S. regions experienced positive comparable sales with the strongest results in the West and South. During the fourth quarter of 2019, we experienced comparable sales increases in nine of 13 product categories. Comparable sales increases were above the company average in Décor, Lawn & Garden, Paint, Millwork, Lumber & Building Materials, Tools, Hardware, and Appliances. Strength in Décor was driven primarily by the Winter Reorganization promotional event, particularly in-home organization products. Unseasonably warm weather drove strong comparable sales in Lawn & Garden, Paint, and Lumber & Building Materials. We experienced low single-digit negative comparable sales in Seasonal & Outdoor Living, Kitchens & Bath, and Lighting due primarily to the exit of the PSI business in the prior year. Seasonal & Outdoor Living experienced softness in Seasonal and Outdoor Heat due to warmer than expected weather. Geographically, 14 of 15 U.S. regions experienced increases in fourth quarter comparable sales. Gross Margin - Gross margin as a percentage of sales for 2019 decreased 32 basis points compared to 2018. Gross margin was negatively impacted by approximately 35 basis points due to tariff pressure, 20 basis points from supply chain costs associated with new facilities, transportation and customer deliveries, and 10 basis points associated with increased inventory shrink. This was partially offset by a gross margin increase of approximately 40 basis points due to our prior year inventory rationalization efforts to eliminate less productive SKUs and reduce clutter in our stores. During the fourth quarter of 2019, gross margin decreased 22 basis points as a percentage of sales. Gross margin was negatively impacted by approximately 80 basis points from the impact of store closures and inventory liquidation associated with the Canadian restructuring, 25 basis points from supply chain costs associated with new facilities, transportation and 27
--------------------------------------------------------------------------------
Table of Contents
customer deliveries, and 25 basis points associated with increased inventory shrink. This was partially offset by 105 basis points due to the use of rate mitigation strategies. SG&A - SG&A expense for 2019 leveraged 311 basis points as a percentage of sales compared to 2018. This was primarily driven by 265 basis points of leverage due to prior year goodwill and long-lived asset impairments and discontinued projects associated with the Company's prior year strategic reassessment of Orchard, USHI,Canada , andMexico locations. There was an additional 45 basis points of leverage in salaries expenses, and 15 basis points of leverage in advertising due to improved advertising efficiency. These were partially offset by 10 basis points of deleverage associated with current year long-lived asset impairment, severance and other costs associated with the Company's strategic review of the Canadian operations. For the fourth quarter of 2019, SG&A expense leveraged 959 basis points as a percentage of sales compared to the fourth quarter of 2018. This was primarily driven by 960 basis points of leverage due to prior year goodwill and long-lived asset impairments and discontinued projects associated with the Company's prior year strategic reassessment of Orchard, USHI,Canada , andMexico locations, as well as 20 basis points of leverage in salaries expenses. These were partially offset by 20 basis points of deleverage associated with the current year long-lived asset impairment, severance and other costs associated with the Company's strategic review of the Canadian operations. Depreciation and Amortization - Depreciation and amortization expense leveraged 32 basis points for 2019 as a percentage of sales compared to 2018, primarily due to store closures in the prior year and assets becoming fully depreciated. Property, less accumulated depreciation, increased to$18.7 billion atJanuary 31, 2020 , compared to$18.4 billion atFebruary 1, 2019 . As ofJanuary 31, 2020 andFebruary 1, 2019 , we owned 84% and 83% of our stores, respectively, which included stores on leased land.
Interest - Net - Net interest expense is comprised of the following: (In millions)
2019 2018
Interest expense, net of amount capitalized $ 706 $ 642
Amortization of original issue discount and loan costs 12 10
Interest income (27 ) (28 )
Interest - net $ 691 $ 624
Net interest expense in 2019 deleveraged 8 basis points primarily as a result of
interest expense related to the issuance of $3.0 billion unsecured notes in
April 2019 and a $1.0 billion term loan issued in January 2020 , partially offset
by a decrease in expense associated with the adoption of ASU 2016-02, Leases
(Topic 842), in the first quarter of 2019.
Income Tax Provision - Our effective income tax rate was 23.9% in 2019 compared
to 31.8% in 2018. For 2019, the rate was favorably impacted by the tax benefit
associated with the Company's decision to sell the assets of the Mexico
business, which was offset by a valuation allowance established for the
Company's RONA operations. For 2018, the favorable impact of tax reform was
offset by the majority of the Canadian goodwill impairment not being deductible
for tax purposes, as well as negative tax impacts associated with the initial
decision to exit Mexico .
Our effective income tax rate for the fourth quarter of 2019 was negatively
impacted by the valuation allowances established for the Company's RONA
operations. The fourth quarter of 2018 was negatively impacted by the
non-deductibility of a majority of the goodwill impairment charge related to our
Canadian business, as well as the negative tax consequences of exiting our
retail operations in
Fiscal 2018 Compared to Fiscal 2017
For a comparison of our results of operations for the fiscal years endedFebruary 1, 2019 andFebruary 2, 2018 , see "Part II, Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" of our Annual Report on Form 10-K for the fiscal year endedFebruary 1, 2019 , filed with theSEC onApril 2, 2019 .
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Sources of Liquidity
Cash flows from operations, supplemented with our short-term and long-term
borrowings, have been sufficient to fund our operations while allowing us to
make strategic investments that will grow our business, and to return excess
cash to
28--------------------------------------------------------------------------------
Table of Contents
shareholders in the form of dividends and share repurchases. We believe that our sources of liquidity will continue to be adequate to fund our operations and investments to grow our business, repay our debt as it becomes due, pay dividends, and fund our share repurchases over the next 12 months. Cash Flows Provided by Operating Activities (In millions) 2019 2018 2017
Net cash provided by operating activities
Cash flows from operating activities continued to provide the primary source of our liquidity. The decrease in net cash provided by operating activities for the year endedJanuary 31, 2020 , versus the year endedFebruary 1, 2019 , was due primarily to changes in working capital, driven by accounts payable and inventory, which decreased operating cash flow for fiscal 2019 by approximately$1.2 billion , compared to an increase of approximately$430 million for fiscal 2018. In fiscal year 2019, inventory increased at the same time that accounts payable decreased. The increase in inventory was driven by strategic investments in the first half of fiscal 2019, including earlier seasonal purchases, resets, and increased job lot quantities, to increase sales. The decrease in accounts payable is due to timing of payments, partially related to the inventory build in late fiscal 2018. In fiscal 2018, the increase in accounts payable exceeded the increase in inventory driven by inventory rationalization efforts during the second half of fiscal 2018, and an acceleration of spring purchases in the fourth quarter of fiscal 2018. The increase in net cash provided by operating activities for the year endedFebruary 1, 2019 , versus the year endedFebruary 2, 2018 , was due primarily to changes in working capital, driven by accounts payable and inventory, which increased operating cash flow for 2018 by approximately$430 million , compared to a decrease of approximately$883 million for 2017. In fiscal 2018, the increase in accounts payable exceeded the increase in inventory driven by inventory rationalization efforts during the second half of fiscal 2018, and an acceleration of spring purchases in the fourth quarter of fiscal 2018. Cash Flows Used in Investing Activities (In millions) 2019 2018 2017
Net cash used in investing activities
Net cash used in investing activities primarily consist of transactions related to capital expenditures and business acquisitions.
Capital expenditures
Our capital expenditures generally consist of investments in our strategic initiatives to enhance our ability to serve customers, existing stores, and expansion plans. Capital expenditures were$1.5 billion in 2019,$1.2 billion in 2018, and$1.1 billion in 2017. The following table provides the allocation of capital expenditures for 2019, 2018, and 2017: 2019 2018
2017
Existing store investments ¹ 80 % 60 % 50 % Strategic initiatives ² 10 % 20 % 10 % New stores, new corporate facilities and international 3 10 % 20 % 40 % Total capital expenditures 100 % 100 % 100 %
1 Includes merchandising resets, facility repairs, replacements of IT and store
equipment, among other specific efforts.
2 Represents investments related to our strategic focus areas aimed at improving
customers' experience and driving improved performance.
3 Represents expenditures primarily related to land purchases, buildings, and
personal property for new store projects and new corporate facilities
projects, as well as expenditures related to our international operations.
29
--------------------------------------------------------------------------------
Table of Contents
Our 2020 capital expenditures forecast is approximately$1.6 billion . The following table provides the allocation of our fiscal 2020 capital expenditures forecast: 2020 Existing store investments 70 % Strategic initiatives 15 %
New stores, new corporate facilities and international 15 %
Cash Flows Used in Financing Activities (In millions) 2019 2018 2017
Net cash used in financing activities
Net cash used in financing activities primarily consist of transactions related to our commercial paper, debt, share repurchases, and cash dividend payments.
Short-term Borrowing Facilities (In millions) 2019 2018 2017
Net proceeds from issuance of short-term debt
$ 220 $ (415 ) $ 625 InJanuary 2020 , the Company entered into a$1 billion unsecured 364-day term loan facility (the "Term Loan"). The Company must repay the aggregate principal amount of loans outstanding under the Term Loan on the maturity date in effect at such time (currentlyDecember 31, 2020 ). Outstanding borrowings under the Term Loan were$1.0 billion , with a weighted average interest rate of 2.29%, as ofJanuary 31, 2020 . In addition, we have a$1.98 billion five year unsecured revolving second amended and restated credit agreement (the Second Amended and Restated Credit Agreement) with a syndicate of banks. The Second Amended and Restated Credit Agreement, which amended and restated the Company's amended and restated credit agreement, datedNovember 23, 2016 , has a maturity date ofSeptember 2023 . Subject to obtaining commitments from the lenders and satisfying other conditions specified in the Second Amended and Restated Credit Agreement, the Company may increase the aggregate availability by an additional$270 million . InSeptember 2019 , the Company entered into a$250 million unsecured 364-day credit agreement (the 2019 Credit Agreement) with a syndicate of banks. The Company must repay the aggregate principal amount of loans outstanding under the 2019 Credit Agreement on the termination date in effect at such time (currentlySeptember 8, 2020 ). The Company may elect to convert all of the loans outstanding under the 2019 Credit Agreement on the termination date into a term loan which the Company shall repay in full on the first anniversary date of the termination date.
In
The Second Amended and Restated Credit Agreement and the 2019 and 2018 Credit Agreements (collectively, the Credit Agreements) support our commercial paper program. The amount available to be drawn under the Second Amended and Restated Credit Agreement and the Credit Agreements is reduced by the amount of borrowings under our commercial paper program. Outstanding borrowings under the Company's commercial paper program were$941 million , with a weighted average interest rate of 2.10% as ofJanuary 31, 2020 , and$722 million , with a weighted average interest rate of 2.81% as ofFebruary 1, 2019 . There was$1.0 billion in outstanding borrowings under the Term Loan and no borrowings outstanding under the Second Amended and Restated Credit Agreement or the 2019 Credit Agreement as ofJanuary 31, 2020 . There were no outstanding borrowings under the Second Amended and Restated Credit Agreement or the 2018 Credit Agreement as ofFebruary 1, 2019 . Our commercial paper program, along with cash flows generated from operations, is typically utilized during our fourth fiscal quarter to build inventory in anticipation of the spring selling season. The following table includes additional information related to our borrowings under our commercial paper program for 2019, 2018, and 2017: 30
--------------------------------------------------------------------------------
Table of Contents
(In millions, except for interest rate data) 2019 2018
2017
Net change in commercial paper$ 220 $ (415 ) $ 625 Amount outstanding at year-end$ 941 $ 722 $ 1,137 Maximum amount outstanding at any month-end$ 1,364 $ 892 $ 1,137 Weighted-average interest rate of commercial paper outstanding 2.10 % 2.81 % 1.85 % The Term Loan, The Second Amended and Restated Credit Agreement, and the Credit Agreements contain customary representations, warranties, and covenants. We were in compliance with those covenants at January 31, 2020. See Note 9 to the consolidated financial statements included herein for additional information regarding our short-term borrowings.
Long-term Debt
The following table includes additional information related to the Company's long-term debt for 2019, 2018, and 2017: (In millions) 2019 2018
2017
Net proceeds from issuance of long-term debt
$ (1,113 ) $ (326 ) $ (2,849 ) In 2019, we issued$3.0 billion of unsecured notes to finance 2019 maturities and for other general corporate purposes, which included share repurchases, capital expenditures, strategic investments, and working capital needs. In 2019, we paid approximately$1.1 billion to retire scheduled debts at maturity.
In 2018, we paid approximately
Our ratio of debt to capital (equity plus debt) was 90.7% and 81.7% as of
See Note 10 to the consolidated financial statements included herein for additional information regarding our long-term debt.
Share Repurchases
We have an ongoing share repurchase program, authorized by the Company's Board of Directors, that is executed through purchases made from time to time either in the open market or through private off-market transactions. We also withhold shares from employees to satisfy tax withholding liabilities. Shares repurchased are retired and returned to authorized and unissued status. The following table provides, on a settlement date basis, the total number of shares repurchased, average price paid per share, and the total amount paid for share repurchases for 2019, 2018, and 2017: (In millions, except per share data) 2019 2018 2017 Total amount paid for share repurchases$ 4,313 $ 3,037 $ 3,192 Total number of shares repurchased 41.2 31.6 39.9 Average price paid per share$ 104.68 $ 96.18 $ 80.01 As ofJanuary 31, 2020 , we had$9.7 billion remaining under our share repurchase program with no expiration date. We expect to repurchase shares totaling approximately$5.0 billion in 2020. See Note 11 to the consolidated financial statements included herein for additional information regarding share repurchases. Dividends In 2019, we increased our quarterly dividend payment 15% to$0.55 per share. Our dividend payment dates are established such that dividends are paid in the quarter immediately following the quarter in which they are declared. The following table provides additional information related to our dividend payments for 2019, 2018, and 2017: (In millions, except per share data and percentage data) 2019 2018 2017 Total cash dividend payments$ 1,618 $ 1,455 $ 1,288 Dividends paid per share$ 2.06 $ 1.78 $ 1.52 Dividend payout ratio 38 % 63 % 37 % 31
--------------------------------------------------------------------------------
Table of Contents Capital Resources We expect to continue to have access to the capital markets on both short-term and long-term bases when needed for liquidity purposes by issuing commercial paper or new long-term debt. The availability and the borrowing costs of these funds could be adversely affected, however, by a downgrade of our debt ratings or a deterioration of certain financial ratios. The table below reflects our debt ratings byStandard & Poor's (S&P) and Moody's as ofMarch 23, 2020 , which we are disclosing to enhance understanding of our sources of liquidity and the effect of our ratings on our cost of funds. Our debt ratings have enabled, and should continue to enable, us to refinance our debt as it becomes due at favorable rates in capital markets. Our commercial paper and senior debt ratings may be subject to revision or withdrawal at any time by the assigning rating organization, and each rating should be evaluated independently of any other rating. Debt Ratings S&P Moody's Commercial Paper A-2 P-2 Senior Debt BBB+ Baa1 Outlook Stable Stable There are no provisions in any agreements that would require early cash settlement of existing debt or leases as a result of a downgrade in our debt rating or a decrease in our stock price. In addition, we do not believe it will be necessary to repatriate significant cash and cash equivalents and short-term investments held in foreign affiliates to fund domestic operations.
OFF-BALANCE SHEET ARRANGEMENTS
We do not have any off-balance sheet financing that has, or is reasonably likely to have, a current or future material effect on our financial condition, cash flows, results of operations, liquidity, capital expenditures or capital resources.
CONTRACTUAL OBLIGATIONS AND COMMERCIAL COMMITMENTS
The following table summarizes our significant contractual obligations atJanuary 31, 2020 : Payments Due by Period Contractual Obligations Less Than 1 (in millions) Total Year 1-3 Years 4-5 Years After 5 Years Long-term debt (principal amounts, excluding discount and debt issuance costs)$ 16,812 $ 500 $ 1,790 $ 951 $ 13,571 Long-term debt (interest payments) 10,673 667 1,250 1,163 7,593 Finance lease obligations 1, 2 864 104 212 196 352 Operating leases 1 5,662 624 1,345 1,087 2,606 Purchase obligations 3 1,174 723 440 11 - Total contractual obligations$ 35,185 $ 2,618 $ 5,037 $ 3,408 $ 24,122 Amount of Commitment Expiration by Period Commercial Commitments Less Than 1 (in millions) Total Year 1-3 Years
4-5 Years After 5 Years
Letters of Credit 4
-
1 Amounts do not include taxes, common area maintenance, insurance, or
contingent rent because these amounts have historically been insignificant.
2 Amounts include imputed interest.
3 Purchase obligations include agreements to purchase goods or services that are
enforceable, are legally binding, and specify all significant terms, including
fixed or minimum quantities to be purchased; fixed, minimum or variable price
provisions; and the approximate timing of the transaction. Our purchase
obligations include firm commitments related to certain marketing and
information technology programs, as well as purchases of merchandise
inventory.
4 Letters of credit are issued primarily for insurance and construction
contracts.
32--------------------------------------------------------------------------------
Table of Contents
CRITICAL ACCOUNTING POLICIES AND ESTIMATES
The preparation of the consolidated financial statements and notes to consolidated financial statements presented in this Annual Report requires us to make estimates that affect the reported amounts of assets, liabilities, sales and expenses, and related disclosures of contingent assets and liabilities. We base these estimates on historical results and various other assumptions believed to be reasonable, all of which form the basis for making estimates concerning the carrying values of assets and liabilities that are not readily available from other sources. Actual results may differ from these estimates.
Our significant accounting policies are described in Note 1 to the consolidated financial statements included herein. We believe that the following accounting policies affect the most significant estimates and management judgments used in preparing the consolidated financial statements.
Merchandise Inventory
Description
We record an obsolete inventory reserve for the anticipated loss associated with selling inventories below cost. This reserve is based on our current knowledge with respect to inventory levels, sales trends and historical experience. During 2019, our reserve increased approximately$27 million to$105 million as ofJanuary 31, 2020 . We also record an inventory reserve for the estimated shrinkage between physical inventories. This reserve is based primarily on actual shrinkage results from previous physical inventories. During 2019, the inventory shrinkage reserve increased approximately$22 million to$244 million as ofJanuary 31, 2020 . In addition, we receive funds from vendors in the normal course of business, principally as a result of purchase volumes, sales, early payments or promotions of vendors' products. Generally, these vendor funds do not represent the reimbursement of specific, incremental and identifiable costs that we incurred to sell the vendor's product. Many of the vendor funds associated with these purchases are earned under agreements that are negotiated on an annual basis or shorter. The funds are recorded as a reduction to the cost of inventory as they are earned. As the related inventory is sold, the amounts are recorded as a reduction to cost of sales. Funds that are determined to be reimbursements of specific, incremental and identifiable costs incurred to sell vendors' products are recorded as an offset to the related expense. Judgments and uncertainties involved in the estimate We do not believe that our merchandise inventories are subject to significant risk of obsolescence in the near term, and we have the ability to adjust purchasing practices based on anticipated sales trends and general economic conditions. However, changes in consumer purchasing patterns or a deterioration in product quality could result in the need for additional reserves. Likewise, changes in the estimated shrink reserve may be necessary, based on the timing and results of physical inventories. We also apply judgment in the determination of levels of obsolete inventory and assumptions about net realizable value. For vendor funds, we develop accrual rates based on the provisions of the agreements in place. Due to the complexity and diversity of the individual vendor agreements, we perform analyses and review historical purchase trends and volumes throughout the year, adjust accrual rates as appropriate and confirm actual amounts with select vendors to ensure the amounts earned are appropriately recorded. Amounts accrued throughout the year could be impacted if actual purchase volumes differ from projected purchase volumes, especially in the case of programs that provide for increased funding when graduated purchase volumes are met. Effect if actual results differ from assumptions We have not made any material changes in the methodology used to establish our inventory valuation or the related reserves for obsolete inventory or inventory shrinkage during the past three fiscal years. We believe that we have sufficient current and historical knowledge to record reasonable estimates for both of these inventory reserves. However, it is possible that actual results could differ from recorded reserves. A 10% change in either the amount of products considered obsolete or the weighted average estimated loss rate used in the calculation of our obsolete inventory reserve would have affected net earnings by approximately$5 million for 2019. A 10% change in the estimated shrinkage rate included in the calculation of our inventory shrinkage reserve would have affected net earnings by approximately$18 million for 2019.
We have not made any material changes in the methodology used to recognize vendor funds during the past three fiscal years. If actual results are not consistent with the assumptions and estimates used, we could be exposed to additional adjustments that could positively or negatively impact gross margin and inventory. However, substantially all receivables associated with these activities do not require subjective long-term estimates because they are collected within the following fiscal year. Adjustments to gross margin and inventory in the following fiscal year have historically not been material.
33--------------------------------------------------------------------------------
Table of Contents Long-Lived Asset Impairment Description We review the carrying amounts of locations whenever certain events or changes in circumstances indicate that the carrying amounts may not be recoverable. When evaluating locations for impairment, our asset group is at an individual location level, as that is the lowest level for which cash flows are identifiable. Cash flows for individual locations do not include an allocation of corporate overhead. We evaluate locations for triggering events relating to long-lived asset impairment on a quarterly basis to determine when a location's asset may not be recoverable. For operating locations, our primary indicator that assets may not be recoverable is consistently negative cash flow for a 12-month period for those locations that have been open in the same location for a sufficient period of time to allow for meaningful analysis of ongoing operating results. Management also monitors other factors when evaluating operating locations for impairment, including individual locations' execution of their operating plans and local market conditions, including incursion, which is the opening of either otherLowe's locations or those of a direct competitor within the same market. We also consider there to be a triggering event when there is a current expectation that it is more likely than not that a given location will be closed or otherwise disposed of significantly before the end of its previously estimated useful life. A potential impairment has occurred if projected future undiscounted cash flows expected to result from the use and eventual disposition of the location's assets are less than the carrying amount of the assets. The carrying value of a location's asset group includes inventory, property, operating and finance lease right-of-use assets and operating liabilities including inventory payables, salaries payable and operating lease liabilities. Financial and nonoperating liabilities are excluded from the carrying value of the asset group. When determining the stream of projected future cash flows associated with an individual operating location, management makes assumptions, incorporating local market conditions, about key store variables including sales growth rates, gross margin and controllable expenses, such as store payroll and operating expense, as well as asset residual values or lease rates. Operating lease payments are included in the projected future cash flows. Financing lease payments are excluded from the projected future cash flows. An impairment loss is recognized when the carrying amount of the operating location is not recoverable and exceeds its fair value. We use an income approach to determine the fair value of our individual operating locations, which requires discounting projected future cash flows. This involves making assumptions regarding both a location's future cash flows, as described above, and an appropriate discount rate to determine the present value of those future cash flows. We discount our cash flow estimates at a rate commensurate with the risk that selected market participants would assign to the cash flows. The selected market participants represent a group of other retailers with a market footprint similar in size to ours. We use a market approach to determine the fair value of our individual locations identified for closure. This involves making assumptions regarding the estimated selling prices or estimated lease rates by obtaining information from property brokers or appraisers in the specific markets being evaluated. The information includes comparable sales of similar assets and assumptions about demand in the market for purchase or lease of these assets. Judgments and uncertainties involved in the estimate Our impairment evaluations require us to apply judgment in determining whether a triggering event has occurred, including the evaluation of whether it is more likely than not that a location will be closed significantly before the end of its previously estimated useful life. Our impairment loss calculations require us to apply judgment in estimating expected future cash flows, including estimated sales, margin, and controllable expenses, assumptions about market performance for operating locations, and estimated selling prices or lease rates for locations identified for closure. We also apply judgment in estimating asset fair values, including the selection of an appropriate discount rate for fair values determined using an income approach. Effect if actual results differ from assumptions During fiscal years 2019 and 2018, the Company recorded impairment charges totaling$62 million and$331 million , respectively, within selling, general and administrative expenses in the consolidated statements of earnings. We have not made any material changes in the methodology used to estimate the future cash flows of operating locations or locations identified for closure during the past three fiscal years. If the actual results are not consistent with the assumptions and judgments we have made in determining whether it is more likely than not that a location will be closed significantly before the end of its useful life or in estimating future cash flows and determining asset fair values, our actual impairment losses could vary from our estimated impairment losses. In the event that our estimates vary from actual results, we may record additional impairment losses, which could be material to our results of operations. 34
--------------------------------------------------------------------------------
Table of ContentsSelf-Insurance Description We are self-insured for certain losses relating to workers' compensation, automobile, general and product liability, extended protection plan, and certain medical and dental claims. We have excess insurance coverage above certain retention amounts to limit exposure from single events and earnings volatility. Our self-insured retention or deductible, as applicable, is limited to$2 million per occurrence involving workers' compensation,$10 million per occurrence involving general or product liability, and$10 million per occurrence involving automobile. We do not have any excess insurance coverage for self-insured extended protection plan or medical and dental claims. Self-insurance claims filed and claims incurred but not reported are accrued based upon our estimates of the discounted ultimate cost for self-insured claims incurred using actuarial assumptions followed in the insurance industry and historical experience. During 2019, our self-insurance liability increased approximately$151 million to$1.1 billion as ofJanuary 31, 2020 . Judgments and uncertainties involved in the estimate These estimates are subject to changes in the regulatory environment, utilized discount rate, projected exposures including payroll, sales and vehicle units, as well as the frequency, lag and severity of claims. Effect if actual results differ from assumptions We have not made any material changes in the methodology used to establish our self-insurance liability during the past three fiscal years. Although we believe that we have the ability to reasonably estimate losses related to claims, it is possible that actual results could differ from recorded self-insurance liabilities. A 10% change in our self-insurance liability would have affected net earnings by approximately$83 million for 2019. A 100 basis point change in our discount rate would have affected net earnings by approximately$22 million for 2019.
© Edgar Online, source
