Lowe's 2006 Annual Report Download - page 24

20
Lowe’s 2006 Annual Report
Substantially all of the vendor funds that we receive do not meet the specic,
incremental and identiable criteria in EITF 02-16. erefore, we treat the
majority of these funds as a reduction in the cost of inventory as the
amounts are earned and recognize these funds as a reduction of cost of sales
when the inventory is sold.
Judgments and uncertainties involved in the estimate
Based on the provisions of the vendor agreements in place, we develop
vendor fund accrual rates by estimating the point at which we will have
completed our performance under the agreement and the amounts will be
earned. During the year, due to the complexity and diversity of the indi-
vidual vendor agreements, we perform analyses and review historical
trends to ensure the amounts earned are appropriately recorded. As a part
of these analyses, we validate our accrual rates based on actual purchase
trends and apply those rates to actual purchase volumes to determine
the amount of funds accrued and receivable from the vendor. Amounts
accrued throughout the year could be impacted if actual purchase vol-
umes dier from projected annual purchase volumes, especially in the
case of programs that provide for increased funding when graduated
purchase volumes are met.
Eect if actual results dier from assumptions
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 are collected within the follow-
ing scal year and therefore do not require subjective long-term estimates.
Adjustments to gross margin and inventory in the following scal year
have historically not been material.
Self-Insurance
Description
We are self-insured for certain losses relating to workers’ compensation,
automobile, property, general and product liability, and certain medical
and dental claims. Self-insurance claims led 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 2006, our self-
insurance liability increased $79 million to $650 million as of February 2,
2007, as a result of an increase in the number of stores and employees.
Judgments and uncertainties involved in the estimate
ese estimates are subject to changes in the utilized discount rate, pay-
roll, sales and vehicle units, as well as the frequency and severity of claims.
Eect if actual results dier from assumptions
Although we believe that we have the ability to adequately record estimated
losses related to claims, it is possible that actual results could dier from
recorded self-insurance liabilities. A 10% change in our self-insurance
liability would have aected net earnings by approximately $40 million
for 2006. A 1% change in our discount rate would have aected net earn-
ings by approximately $9 million for 2006.
Revenue Recognition
Description
See Note 1 to the consolidated nancial statements for a complete
discussion of our revenue recognition policies. e following accounting
estimates relating to revenue recognition require management to make
assumptions and apply judgment regarding the eects of future events that
cannot be determined with certainty.
Revenues from stored value cards, which include gi cards and
returned merchandise credits, are deferred and recognized when the
cards are redeemed. We recognize income from unredeemed stored
value cards at the point at which redemption becomes remote. Our
stored value cards have no expiration. erefore, to determine when
redemption is remote, we analyze an aging of the unredeemed cards,
based on the date of last stored value card use. e deferred revenue
associated with outstanding stored value cards increased $74 million
to $367 million as of February 2, 2007.
We sell separately-priced extended warranty contracts under a
Lowe’s-branded program for which the Company is ultimately self-insured.
We recognize revenues from extended warranty sales on a straight-line
basis over the respective contract term due to a lack of sucient historical
evidence indicating that costs of performing services under the contracts
are incurred on an other than straight-line basis as a result of the program
being in its beginning stages. Extended warranty contract terms primarily
range from one to four years from the date of purchase or the end of the
manufacturer’s warranty, as applicable. We consistently group and
evaluate extended warranty contracts based on the characteristics of the
underlying products and the coverage provided in order to monitor for
expected losses. A loss would be recognized if the expected costs of per-
forming services under the contracts exceeded the amount of unamortized
acquisition costs and related deferred revenue associated with the contracts.
Deferred revenues associated with the extended warranty contracts
increased $109 million to $315 million as of February 2, 2007. e liability
associated with unpaid extended warranty claims incurred was insigni-
cant as of February 2, 2007 and February 3, 2006.
We record a reserve for anticipated merchandise returns through a
reduction of sales and costs of sales in the period that the related sales are
recorded. We use historical return levels to estimate return rates, which
are applied to sales during the estimated average return period.
Judgments and uncertainties involved in the estimate
ere is judgment inherent in our evaluation of when the redemption
of stored value cards becomes remote, and therefore, when the related
income is recognized.
For extended warranties, there is judgment inherent in our evaluation
of expected losses as a result of our methodology for grouping and evaluating
extended warranty contracts and from the actuarial determination of the
estimated cost of the contracts. ere is also judgment inherent in our
determination of the recognition pattern of costs of performing services
under these contracts.
ere is judgment applied in our estimate of historical return levels
and in the determination of the estimated average return period.
Eect if actual results dier from assumptions
We do not anticipate that there will be a material change in the future estimates
or assumptions we use to recognize income related to unredeemed stored
value cards. However, if actual results are not consistent with our esti-
mates or assumptions, we may incur additional income or expense. A 10%
change in the estimate of unredeemed stored value cards for which
redemption is considered remote would have aected net earnings by
approximately $2 million in 2006.
We currently do not anticipate incurring any losses on our extended
warranty contracts. Although we believe that we have the ability to adequately
monitor and estimate expected losses under the extended warranty contracts,
it is possible that actual results could dier from our estimates. In addition,
if future evidence indicates that the costs of performing services under
these contracts are incurred on other than a straight-line basis, the timing
of revenue recognition under these contracts could change. A 10% change
in the amount of revenue recognized in 2006 under these contracts would
have aected net earnings by approximately $2 million.