UNITED STATES

SECURITIES AND EXCHANGE COMMISSION
WASHINGTON,
Washington, D.C.  20549

FORM 10-K

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE

SECURITIES EXCHANGE ACT OF 1934


For the fiscal year ended January 28, 2005

February 1, 2008


Commission file number:001-11421


DOLLAR GENERAL CORPORATION
(Exact Namename of Registrantregistrant as Specifiedspecified in its Chartercharter)


TENNESSEE
(State or other jurisdiction of
incorporation or organization)

61-0502302
(I.R.S. Employer
Identification Number)

No.)
 

100 MISSION RIDGE
GOODLETTSVILLE, TN  37072
(Address of principal executive offices, zip code)

 

Registrant’s telephone number, including area code:  (615) 855-4000

Securities registered pursuant to Section 12(b) of the Act:

None
 


Title of Each Class


Common Stock

Series B Junior Participating
Preferred Stock Purchase Rights

Name

Securities registered pursuant to Section 12(g) of the Exchange on
which Registered

New York Stock Exchange

New York Stock Exchange

Act:  None


Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities registeredAct.  Yes [  ]   No [X]

Indicate by check mark if the registrant is not required to file reports pursuant to Section 12(g)13 or 15(d) of the Act:  None

Act.  Yes [   ] No [X]


Indicate by check mark whether the Registrant:registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrantregistrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X][   ] No [   ]

[X]




Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant’sregistrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [   ]

[X]


Indicate by check mark whether the Registrantregistrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer[  ]   Accelerated filer[  ]
Non-accelerated Filer[X] Smaller reporting company[  ]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act Rule 12b-2)Act).  Yes [X[  ]  No [   ]

[X]


The aggregate fair market value of the votingregistrant’s common stock outstanding and held by non-affiliates as of August 3, 2007 was $663,400, all of which was owned by employees of the Registrant, computed by reference to the closing priceregistrant and not traded on the New York Stock Exchange as of July 30, 2004, is approximately $5.86 billion. The Registrant has no non-voting common stock.a public market. For purposes of this disclosure only, the Registrant has assumed that itspurpose, directors, executive officers beneficial owners ofand greater than 10% record shareholders are considered the affiliates of the Registrant’s common stock and any other person who files reports under Section 16 of the Exchange Act are the “affiliates” of the Registrant.  

registrant.


The number ofregistrant had 555,481,897 shares of common stock outstanding on April 4, 2005, was 328,645,056.

Documents Incorporated by Reference

The information required in Part III of this Form 10-K is incorporated by reference to the Registrant’s definitive proxy statement to be filed for the Annual Meeting of Shareholders to be held on May 24, 2005.

March 17, 2008.


INTRODUCTION

General



The following text

This report contains references to years 2008, 2007, 2006, 2005, 2004 2003, 2002, 2001 and 2000,2003, which represent fiscal years ending or ended January 30, 2009, February 1, 2008, February 2, 2007, February 3, 2006, January 28, 2005, and January 30, 2004, January 31, 2003, February 1, 2002 and February 2, 2001, respectively.  ThisAll of the discussion and analysis in this report should be read with, and is qualified in its entirety by, the consolidatedConsolidated Financial Statements and related notes.

Forward Looking Statements

“Forward-looking statements” within the meaning of the federal securities laws are included throughout this report, particularly under the headings “Business” and “Management’s Discussion and Analysis of Financial Condition and Results of Operation,” among others. You can identify these statements because they are not solely statements of historical fact or they use words such as “may,” “will,” “should,” “expect,” “believe,” “anticipate,” “project,” “plan,” “expect,” “estimate,” “objective,” “forecast,” “goal,” “intend,” “will likely result,” or “will continue” and similar expressions that concern our strategy, plans or intentions. For example, all statements relating to our estimated and projected earnings, costs, expenditures, cash flows and financial results, our plans and objectives for future operations, growth or initiatives, or the expected outcome or impact of pending or threatened litigation are forward-looking statements.

All forward-looking statements are subject to risks and uncertainties that may change at any time, so our actual results may differ materially from those that we expected. We derive many of these statements from our operating budgets and forecasts, which are based on many detailed assumptions that we believe are reasonable. However, it is very difficult to predict the notes thereto.

impact of known factors, and we cannot anticipate all factors that could affect our actual results. Important factors that could cause actual results to differ materially from the expectations expressed in our forward-looking statements are disclosed under “Risk Factors” in Part I, Item 1A and elsewhere in this document (including, without limitation, in conjunction with the forward-looking statements themselves and under the heading “Critical Accounting Policies and Estimates”). All written and oral forward-looking statements we make in the future are expressly qualified in their entirety by these cautionary statements as well as other cautionary statements that we make from time to time in our other SEC filings and public communications. You should evaluate all of our forward-looking statements in the context of these risks and uncertainties.


The important factors referenced above may not contain all of the material factors that are important to you. In addition, we cannot assure you that we will realize the results or developments we expect or anticipate or, even if substantially realized, that they will result in the consequences or affect us or our operations in the way we expect. The forward-looking statements included in this report are made only as of the date hereof. We undertake no obligation to publicly update or revise any forward-looking statement as a result of new information, future events or otherwise, except as otherwise required by law.

1
PART I

ITEM 1.

BUSINESS

ITEM 1. BUSINESS
General

Dollar General Corporation (the “Company” or “Dollar General”) is a leading


We are the largest discount retailer in the United States by number of quality general merchandise at everyday low prices.  Through convenientlystores, with 8,222 stores located stores,in 35 states, primarily in the Company offerssouthern, southwestern, midwestern and eastern United States, as of February 29, 2008.  We serve a broad customer base and offer a focused assortment of everyday items, including basic consumable basic merchandise including health and beauty aids, packaged foodother home, apparel and seasonal products.  A majority of our products home cleaning supplies, housewares, stationery, seasonal goods, basic clothingare priced at $10 or less and domestics.  Dollar General stores serve primarily low-, middle-approximately 30% of our products are priced at $1 or less.

We offer a compelling value proposition for our customers based on convenient store locations, easy in and fixed-income families.  

The Company wasout shopping and quality name brand and private label merchandise at highly competitive everyday low prices. We believe our combination of value and convenience distinguishes us from other discount, convenience and drugstore retailers, who typically focus on either value or convenience. Our business model is focused on strong and sustainable sales growth, attractive margins and limited maintenance capital expenditure and working capital needs, which results in significant cash flow from operations (before interest).


We were founded in 1939 as J.L. Turner and Son, Wholesale.  The CompanyWe opened itsour first dollar store in 1955, when the Company waswe were first incorporated as a Kentucky corporation under the name J.L. Turner & Son, Inc.  The CompanyWe changed itsour name to Dollar General Corporation in 1968 and reincorporated as a Tennessee corporation in 1998.  As

We have expanded rapidly in recent years, increasing our total number of Aprilstores from 5,540 as of February 1, 2005,2002, to 8,229 as of February 2, 2007, an 8.2% compounded annual growth rate (“CAGR”).  Over the Company operated 7,494same period, we grew our net sales from $5.3 billion to $9.2 billion (11.5% CAGR), driven by growth in number of stores as well as same store sales growth. In the fourth quarter of fiscal 2006, we announced our plans to slow new store growth in 2007 and to close approximately 400 stores in 30 states, primarilyorder to improve our profitability and to enable us to focus on improving the performance of existing stores. In 2007, we opened 365 new stores and closed 400 stores. We also relocated or remodeled 300 existing stores. We generated net sales in 2007 of $9.5 billion, an increase of 3.5% over 2006, including a same-store sales increase of 2.1%.

Merger with KKR

On July 6, 2007, we completed a merger (the “Merger”) in which our former shareholders received $22.00 in cash, or approximately $6.9 billion in total, for each share of our common stock held. In addition, fees and expenses related to the Merger and the related financing transactions totaling $102.6 million, principally consisting of investment banking fees, management fees, legal fees and stock compensation expense ($39.4 million), are reflected in the southern, eastern2007 results of operations. As a result of the Merger, we are a subsidiary of Buck Holdings, L.P. (“Parent”), a Delaware limited partnership controlled by investment funds affiliated with Kohlberg Kravis Roberts & Co., L.P. (“KKR” or “Sponsor”). KKR, GS Capital Partners VI
2
Fund, L.P. and midwestern United States.

affiliated funds (affiliates of Goldman, Sachs & Co.), Citi Private Equity, Wellington Management Company, LLP, CPP Investment Board (USRE II) Inc., and other equity co-investors (collectively, the “Investors”) indirectly own a substantial portion of our capital stock through their investment in Parent.


The Merger consideration was funded through the use of our available cash, cash equity contributions from the Investors, equity contributions of certain members of our management and the debt financings discussed below. Our outstanding common stock is now owned by Parent and certain members of management. Our common stock is no longer registered with the Securities and Exchange Commission (“SEC”) and is no longer traded on a national securities exchange.

We entered into the following debt financings in conjunction with the Merger:

·  
We entered into a credit agreement and related security and other agreements consisting of a $2.3 billion senior secured term loan facility, which matures on July 6, 2014 (the “Term Loan Facility”).
·  
We entered into a credit agreement and related security and other agreements consisting of a senior secured asset-based revolving credit facility of up to $1.125 billion (of which $432.3 million was drawn at closing and $132.3 million was paid down on the same day), subject to borrowing base availability, which matures July 6, 2013 (the “ABL Facility” and, with the Term Loan Facility, the “New Credit Facilities”).
· We issued $1.175 billion aggregate principal amount of 10.625% senior notes due 2015, which mature on July 15, 2015, and $725 million aggregate principal amount of 11.875%/12.625% senior subordinated toggle notes due 2017, which mature on July 15, 2017. We repurchased $25 million of the 11.875%/12.625% senior subordinated toggle notes due 2017 in the fourth quarter of fiscal 2007.
Overall Business Strategy

Dollar General’s


Our mission statement is “Serving Others.” To carry out this mission, the Company haswe have developed a business strategy of providing itsour customers with a focused assortment of fairlyeveryday low priced consumable basic merchandise in a convenient, small-store format.


Our Customers.  In general, we locate our stores and base our merchandise selection on the needs of households seeking value and convenience, with an emphasis on rural and small markets. However, much of our merchandise, intended to serve the basic consumable, household, apparel and seasonal needs of these targeted customers, also appeals to a much broader and higher income customer base.

Our Stores. The Company serves the consumable basics needs of customers primarily in the low- and middle-income brackets and those on fixed incomes.  Research performed by an outside service on behalf of the Company in 2001 indicated that approximately 55% of its customers lived in households earning less than $30,000 a year, and approximately 36% earned less than $20,000.  The Company has not engaged an outside service to update this research since 2001; however, according to AC Nielsen’s 2004 Homescan® data, in 2004 approximately 48% of the Company’s customers lived in households earning less than $30,000 a year and approximately 26% earned less than $20,000.  The Company’s merchandising and operating strategies are designed to meet the need for consumable basics of the consumers in these groups.

Our Stores.  The averagetraditional Dollar GeneralGeneral® store has, on average, approximately 6,8006,900 square feet of selling space and generally serves customers who live within five miles of the store.  Of the Company’s 7,494our 8,222 stores operating as of April 1, 2005, approximately 4,300 storesFebruary 29, 2008, more than half serve communities

3
with populations of 20,000 or less.  The Company believesWe believe that itsour target customers prefer the convenience of a small, neighborhood store.  As the discount store industry continues





to move toward larger, “super-center” type stores, which are often built outside of towns, the Company believes that Dollar General’s convenient discount store format will continue to attract customers and provide the Company with a competitive advantage.  

In 2003, the Company began testing afocused merchandise assortment at value prices. Our Dollar General Market concept.  Dollar General MarketsMarket® stores are larger than the average Dollar General store, having on average approximately 17,000 square feet of selling space, and carry, among other things,items, an expanded assortment of grocery products and perishable items.  At April 1, 2005, the CompanyAs of February 29, 2008, we operated 1957 Dollar General Market stores with an average of 17,500 square feet of selling space.  The Company expects to open at least 30 Dollar General Market stores in 2005.

stores.


Our Merchandise.  The Company is committed to offeringOur merchandising strategy combines a low-cost operating structure with a focused assortment of products, consisting of quality basic consumable, basichousehold, apparel and seasonal merchandise inat competitive everyday low prices. Our strategic combination of name brands, quality private label products and other great value brands allows us to offer our customers a number of core categories, such as healthcompelling value proposition. We believe our merchandising strategy and beauty aids, packaged food products, home cleaning supplies, housewares, stationery, seasonal goods, basic clothing and domestics.  Because the Company offers a focused assortment of consumable basic merchandise,generate frequent repeat customer purchases and encourage customers are able to shop at Dollar Generalour stores for their everyday household needs.  In 2004, the average customer purchase was $8.64.


Our Prices.  The Company distributesPrices.  We distribute quality, consumable basic merchandise at everyday low prices.  ItsOur strategy of a low-cost operating structure and a focused assortment of merchandise allows the Companyus to offer quality merchandise at highly competitive prices.  As part of this strategy, the Company emphasizeswe emphasize even-dollar price points.prices on many of our items.  In the typical Dollar General store, the majority of the products are priced at $10 or less, with approximately one-third30% of the products priced at $1 or less.


Our Cost Controls. The Company emphasizes aggressive management of itsWe aggressively manage our overhead cost structure. Additionally, the Company seeksstructure and typically seek to locate stores in neighborhoods where rental and operating costs are relatively low.  The Company attemptsOur stores typically have low fixed costs, with lean staffing of usually two to three employees in the store at any time.  In 2005 and 2006, we implemented “EZstoreTM”, our initiative designed to improve inventory flow from our distribution centers, or DCs, to consumers. EZstore has allowed us to reallocate store labor hours to more customer-focused activities, improving the work content in our stores.

We also attempt to control operating costs by implementing new technology where feasible. Examples of this strategywhen feasible, including improvements in recent years includeto our store labor scheduling and store replenishment systems in addition to other improvements to the Company’sour supply chain and warehousing systems,systems.

Recent Strategic Initiatives—Project Alpha.  In 2007, we executed strategic initiatives launched in the introductionfourth quarter of loss prevention software designed2006 aimed at improving our merchandising and real estate strategies, which we refer to identify unusual cash register transactionscollectively as “Project Alpha.” Project Alpha was based upon a comprehensive analysis of the performance of each of our stores and the implementationimpact of a newour inventory management model on our ability to effectively serve our customers.

The execution of this merchandising initiative has moved us away from our traditional inventory packaway model, where unsold seasonal, apparel and home products inventory items were stored on-site and returned to the sales floor to be sold year after year, until the items were eventually sold, damaged or discarded.  Project Alpha is an attempt to better meet our customers’ needs and to ensure an appealing, fresh merchandise planning system designedselection. In connection with this initiative, in fiscal 2007 we began taking end-of-season markdowns on current-year non-replenishable
4
merchandise. With limited and planned exceptions, we eliminated, through end-of-season and other markdowns, our seasonal, home products and basic clothing packaway merchandise and out of season current year merchandise by the end of fiscal 2007. In addition to assistallowing us to carry newer, fresher merchandise, particularly in our seasonal, apparel and home categories, we believe this strategy change has enhanced the Company’s merchants with their purchasingappearance of our stores and will continue to positively impact customer satisfaction as well as our store employees’ ability to manage stores.

Project Alpha also encompassed significant improvements to our real estate practices. We are fully integrating the functions of site selection, lease renewals, relocations, remodels and store allocation decisions.

Growth Strategy

The Company has experiencedclosings and have defined and are implementing rigorous analytical processes for decision-making in those areas. As a rapidfirst step in our initiative to revitalize our store base, we performed a comprehensive real estate review resulting in the identification of approximately 400 underperforming stores, all of which we closed by mid-2007. These closings were in addition to stores that are typically closed in the normal course of business, which over the last 10 years constituted approximately 1% to 2% of our store base per year. We believe our rate of expansionstore closings should return to historic levels in recent years,2008 and future years.  While we believe we have significant opportunities for future store growth, we have moderated our new store growth rate to enable us to focus on improving the performance of existing stores. Those efforts include increasing itsthe number of store remodels and relocations in order to improve productivity and enhance the shopping experience for our customers.


As a result of opening new stores and remodeling existing stores, as of February 29, 2008, over 1,000 stores are operating in our racetrack format, which is designed with improved merchandise adjacencies and wider, more open aisles to enhance the overall guest shopping experience. We plan to continue to enhance this new store layout to further drive sales growth and margin enhancements through improved merchandising.

Our Industry

We compete in the deep discount segment of the U.S. retail industry. Our competitors include traditional “dollar stores,” as well as other retailers offering discounted convenience items. The “dollar store” sector differentiates itself from other forms of retailing in the deep discount segment by offering consistently low prices in a convenient, small-store format. Unlike other formats that have suffered with the rise of Wal-Mart and other discount supercenters, the “dollar store” sector has grown despite the presence of the discount supercenters.  We believe it is our substantial convenience advantage, at prices comparable to those of supercenters, that allows Dollar General to compete so effectively.
We believe that there is considerable room for growth in the “dollar store” sector. According to AC Nielsen, “dollar stores” have been able to increase their penetration across all income brackets in the last 6 years. Though traditional “dollar stores” have high customer penetration, according to Information Resources, Inc. “IRI,” the sector as a whole accounts for only approximately 1.2% of total consumer product goods spending, which we believe leaves ample room for growth. Our merchandising initiatives are aimed at increasing our stores’ share of customer spending.

5
See “Our Competitive Strengths” and “Competition” below for additional information regarding our competitive situation.

Our Competitive Strengths

Market Leader in an Attractive Sector with a Growing Customer Base.  We are the largest discount retailer in the U.S. by number of stores, from 4,294with 8,222 stores in 35 states as of January 28, 2000,February 29, 2008.  We are the largest player in the U.S. small box deep discount segment, with sales in excess of 1.4 times that of our nearest competitor in 2007.  We believe we are well positioned to 7,494further increase our market share as we continue to execute our business strategy and implement our operational initiatives.  Our target customers are those seeking value and convenience.  According to Nielsen Media Research as of April 1, 2005.  In addition to growthmid-2007, approximately 64% of households shopped at least once at a discount store (up from new59% in 2001).

Consistent Sales Growth and Strong Cash Flow Generation. For 18 consecutive years, we have experienced positive annual same store openings, the Company recorded same-store sales increasesgrowth.  Approximately two-thirds of 3.2% and 4.0% in 2004 and 2003, respectively.  Same-storeour net sales increases are calculated based on the comparable calendar weeks in the prior year.  Same-store sales calculations for a given period include only those stores that were open both at the end of that period and at the beginning of the preceding fiscal year. Management will continue to seek to grow the Company’s business and believes that this future growth will come from the sale of consumable products, which are less susceptible to economic pressures (such as increased fuel costs and unemployment), with the remaining one-third comprised mainly of seasonal, basic clothing and home products which are subject to little trend or fashion risk.  We have a combinationlow cost operating model with attractive operating margins, low capital expenditures and low working capital needs, resulting in generation of new store openings, infrastructure investments and merchandising initiatives.

New Store Growthsignificant cash flow from operations (before interest).  Management believes that the Company’s convenient, small-store format is adaptable to small towns and neighborhoods throughout the country.  The majority of





the Company’s stores are located

Differentiated Value Proposition. Our ability to deliver highly competitive everyday low prices in these small towns (defined by the Company as communitiesa convenient location and shopping format provides our customers with populations of 20,000 or less).  In 2004, slightly over half of the Company’s new stores were opened in small towns while the remainder were opened outside of towns or in more densely populated areas.  The Company expects a similar mix of new store openings between small townscompelling shopping experience and distinguishes us from other areas in 2005.  New store openings in 2005 will include the Company’s existing market areadiscount retailers, as well as new geographic areas where management believes the Company has the potential to expand its store base. Opening stores in its existing market area allows the Company to take advantage of brand awarenessconvenience and to maximize its operating efficiencies.

 In 2004, the Company expanded its operating area to include Wisconsin, Arizona and New Mexico, states which management believes are competitively underserved and offer the potential for additional growth for the Company.  As of April 1, 2005, the Company had 55 stores in Wisconsin, 29 stores in Arizona and 24 stores in New Mexico. drugstore retailers.


Compelling Unit Economics.  The Company expects to continue to explore the potential for expansion into additional geographic markets as opportunities present themselves.  

In 2004, 2003 and 2002, the Company opened 722, 673 and 622 new stores, and remodeled or relocated 80, 76 and 73 stores, respectively.  The Company currently expects to open approximately 700 newtraditional Dollar General store size, design and location requires an initial investment of approximately $250,000 including inventory. The low initial investment and maintenance capital expenditures, when combined with strong average unit volumes, provide for a quick recovery of store start-up costs.  The ability of our stores and at least 30 new Dollar General Market storesto generate strong cash flows with minimal investment results in 2005.  Some of the new Dollar General Markets will be conversions of traditional stores.

Infrastructure Investments. In recent years, the Company has made significant investments in its distribution network. As of April 1, 2005, the Company operated seven distribution centers (“DCs”). The Company’s eighth DC near Jonesville, South Carolina is expected to be completed and fully operational in mid-2005.  In addition, the Company plans to select a site for and begin construction of its ninth DC during 2005.  The Company’sshort payback period.


Efficient Supply Chain.  We believe our distribution network is an integral component of the Company’sour efforts to reduce transportation expenses and effectively support the Company’sour growth.  In addition, the Company has recently expanded its DCs in South Boston, Virginia and Ardmore, Oklahoma, and has substantially completed the conversion of these DCs from single to dual sortation systems, which enables them to serve more stores .  As of April 1, 2005, each of the Company’s seven existing DCs, on average, serviced approximately 1,070 stores with an average distance per delivery of approximately 235 miles.

The Company hasrecent years, we have made significant investments in technology in recent years. In 2004, atechnological improvements and upgrades which have increased our efficiency and capacity to support our merchandising data warehouse was added, the rollout of credit/debit and/or electronic benefit transfer (“EBT”) capabilities was completed and an automatic inventory replenishment system was installed in all stores. In addition, a new stock ledger (implemented in 2005) and sales flash system were completed. Also, for the first time,operations initiatives as well as future store district managers were equipped with personal computers to enable them to access daily merchandising information. In 2003, the Company implemented an improved warehouse management system, a DC appointment scheduling system, an inventory reconciliation system, allocation system improvements, shortage analysis reporting, improvements to automated DC replenishment systems, and began the rollout of credit/debit and EBT to the stores. Technology initiatives in 2002 included the establishment of perpetual inventories in all stores, a new order processing system, new loss prevention software, systems for a new import deconsolidation function, the establishment of a business-to-



growth.


business website for supply chain efficiencies,

Experienced and systemsMotivated Management Team.  In January 2008, we hired Richard Dreiling, who has 38 years of retail experience, to enable automated store replenishment.

Merchandising Initiatives.  The Company’s merchandising initiatives are designed to promote same-store sales increases.  The Company continually evaluatesserve as our Chief Executive Officer.  Over the performance of its merchandise mix and makes adjustments when appropriate.  In recentpast two years the Company has increased its emphasis on the highly consumable category by adding items in the food, paper, household chemicals, and health and beauty aids categories. Also in recent years, the Company began offering perishable products, which includes a selection of dairy products, luncheon meats, frozen foods and ice cream. The expansion of perishable product offerings into additional stores was a significant 2004 initiative, increasing from 2,445 stores at the end of 2003 to 6,755 stores at the end of 2004.  

Prior to 2000, the Company’s strategy was generally to avoid marking items down from the everyday low retail pricewe strengthened our management team with the exceptionhiring of damaged productDavid Beré, our President and Chief Operating Officer. We also replaced a majority of our senior merchandising and real estate teams.  In connection with the Merger, we entered into agreements with certain

6
members of management pursuant to which was typically marked downthey elected to zero and disposed of.  In 2000, andinvest in subsequent years,Dollar General in additionan aggregate amount of approximately $10.4 million.

Seasonality

Our business is seasonal to continuing its practice of marking down damaged product, the Company selectively marked down slower moving and discontinued items.  Ina certain extent.  Generally, our highest sales volume occurs in the fourth quarter, of 2003, and principally at the conclusion of the holiday selling season, the Company took end-of-season markdowns materially in excess of what it had taken in prior years to help dispose of certain holiday-related items that had not sold in sufficient quantities.  In the past, the Company would have carried that inventory forward and would have attempted to adjust future inventory purchases to account for the carryover product.  In 2004, the Company continued this practice of emphasizing the in-season sale of seasonal merchandise by taking progressive, end-of-season markdowns.  The Company intends to continue this ongoing year-round strategy.  Management expects to establish the appropriate size of such markdowns by means of an ongoing cost benefit analysis that considers factors such as the potential corresponding increase in sales and a potential reduction in shrink and inventory handling and carrying costs.  

Merchandise

Dollar General stores offer a focused assortment of quality, consumable basic merchandise in a number of core categories. The Company separates its merchandise into the following four categories for internal reporting purposes: highly consumable, seasonal, home products, and basic clothing.

The percentage of total sales of each of the four categories tracked by the Company for the preceding three years is as follows:

 

2004

 

2003

 

2002

Highly consumable

63.0

%

 

61.2

%

 

60.2

%

Seasonal

16.5

%

 

16.8

%

 

16.3

%

Home products

11.5

%

 

12.5

%

 

13.3

%

Basic clothing

9.0

%

 

9.5

%

 

10.2

%






Of the four categories, the seasonal category typically records the highest gross profit rate and the highly consumable category typically records the lowest gross profit rate.  

The Company purchases its merchandise from a wide variety of suppliers. Approximately 10% of the Company’s purchases in 2004 were made from Procter and Gamble.  No other supplier accounted for more than 3% of the Company’s purchases in 2004.  The Company directly imported approximately 15% of the Company’s retail receipts in 2004.

The Company generally does not run weekly advertising circulars but does advertise to support new store openings primarily with targeted circulars promoting those openings and in-store signage.  Advertising expenses are less than 1% of sales.

The Company maintains approximately 4,470 core stock-keeping units (“SKUs”) per store. The Company’s average customer purchase in 2004 was $8.64. The average number of items in each customer purchase was 5.8, and the average price of each purchased item was $1.50.

The Company’s business is modestly seasonal in nature.  The only extended seasonal increase in business that the Company experiences occurs during the Christmas selling season.  Duringwhich includes the Christmas selling season, and the Company carrieslowest occurs in the first quarter.  In addition, our quarterly results can be affected by the timing of new store openings and store closings, the amount of sales contributed by new and existing stores, as well as the timing of certain holidays. We purchase substantial amounts of inventory in the third quarter and incur higher shipping costs and higher payroll costs in anticipation of the increased sales activity during the fourth quarter.  In addition, we carry merchandise during our fourth quarter that it doeswe do not carry during the rest of the year, such as gift sets, trim-a-tree,holiday decorations, certain baking items, and a broader assortment of toys and candy.


The following table reflects the seasonality of net sales, gross profit, and net income (loss) by quarter for each of the quarters of the current fiscal year as well as each of the quarters of the two most recent fiscal years. All of the quarters reflected below are comprised of 13 weeks with the exception of the fourth quarter generatedof our fiscal year ended February 3, 2006, which was comprised of 14 weeks.

(in millions) 
1st
Quarter
  
2nd
Quarter
  
3rd
Quarter
  
4th
Quarter
 
             
Year Ended February 1, 2008(a)            
Net sales $2,275.3  $2,347.6  $2,312.8  $2,559.6 
Gross profit(b)  633.1   623.2   646.8   740.4 
Net income (loss)(b)  34.9   (70.1)  (33.0)  55.4 
                 
Year Ended February 2, 2007                
Net sales  2,151.4   2,251.1   2,213.4   2,554.0 
Gross profit(b)  584.3   611.5   526.4   646.0 
Net income (loss)(b)  47.7   45.5   (5.3)  50.1 
                 
Year Ended February 3, 2006                
Net sales  1,977.8   2,066.0   2,057.9   2,480.5 
Gross profit  563.3   591.5   579.0   730.9 
Net income   64.9   75.6   64.4   145.3 
(a)
For comparison purposes, the 2nd quarter includes the results of operations for Buck Acquisition Corp. for the period prior to the Merger from March 6, 2007 (its formation) through July 7, 2007 (reflecting the change in fair value of interest rate swaps), and the 2nd quarter reflects the combination of pre-Merger and post-Merger results of Dollar General Corporation for the period from May 5, 2007 through August 3, 2007. We believe this presentation provides a more meaningful understanding of the underlying business.
(b)
Results for the 3rd and 4th quarters of 2006 and all quarters of 2007 reflect the impact of Recent Strategic Initiatives as discussed in further detail in “Management’s Discussion
and Analysis of Financial Condition and Results of Operations.”

7
Merchandise

We separate our merchandise into the following respective percentagesfour categories for reporting purposes: highly consumable, seasonal, home products, and basic clothing. Highly consumable consists of packaged food, candy, snacks and refrigerated products, health and beauty aids, home cleaning supplies and pet supplies; seasonal consists of seasonal and other holiday-related items, toys, stationery and hardware; and home products consists of housewares and domestics. The percentage of net sales of each of our four categories of merchandise for the period indicated below was as follows:

  2007  2006  2005 
Highly consumable  66.5%  65.7%  65.3%
Seasonal  15.9%  16.4%  15.7%
Home products  9.2%  10.0%  10.6%
Basic clothing  8.4%  7.9%  8.4%

Our home products and seasonal categories typically account for the highest gross profit margin, and the highly consumable category typically accounts for the lowest gross profit margin.

We currently maintain approximately 5,400 core stock-keeping units, or SKUs, per store and an additional 3,000 non-core SKUs that get rotated in and out of the Company’s annual revenues and net income: 2004 – 29% and 39%, 2003 – 29% and 34%, and 2002 – 29% and 40%.  

store over the course of a year.  In 2007, we reduced the number of non-core SKUs.


We purchase our merchandise from a wide variety of suppliers. Approximately 12% of our purchases in 2007 were from The Procter & Gamble Company.  Our next largest supplier accounted for approximately 6% of our purchases in 2007.  We directly imported approximately 9% of our purchases at cost (15% at retail) in 2007.

The Dollar General Store


The typicalaverage Dollar General store has approximately 6,900 square feet of selling space and is typically operated by a manager, an assistant manager and two or more sales clerks.  Approximately 54%47% of the Company’sour stores are located in strip shopping centers, 44%51% are in freestanding buildings and 2% are in downtown buildings. The CompanyWe attempt to locate primarily in small towns or in neighborhoods of more densely populated areas where occupancy expenses are relatively low.

We generally hashave not encountered difficulty locating suitable store sites in the past, and management does not currently anticipate experiencing material difficulty in finding future suitable locations at favorable rents.

The Company’slocations.


8
Our recent store growth is summarized in the following table:

Year

Stores at
Beginning
of Year

Stores
Opened

Stores
Closed

Net
Store
Increase

Stores at
End of Year

2002

5,540

622

49

 

573

6,113

2003

6,113

673

86

 

587

6,700

2004

6,700

722

102

 

620

7,320




Year
Stores at
Beginning
of Year
Stores
Opened
Stores
Closed
Net
Store
Increase/(Decrease)
Stores at
End of Year
20057,320734125(a)6097,929
20067,929537237(b)3008,229
20078,229365400(b) (35)8,194
(a)Includes 41 stores closed as a result of hurricane damage.
(b)Includes 128 stores in 2006 and 275 stores in 2007 closed as a result of certain recent strategic initiatives.
Employees


Employees

As of April 1, 2005, the CompanyFebruary 29, 2008, we employed approximately 63,20071,500 full-time and part-time employees, including divisional and regional managers, district managers, store managers, and DC and administrative personnel, compared with approximately 57,800 employees on February 27, 2004.personnel.  Management believes the Company’sour relationship with itsour employees is generally good.

good, and we currently are not a party to any collective bargaining agreements.


Competition

The Company


We operate in the discount retail merchandise business, which is engaged in a highly competitive business with respect to price, store location, merchandise quality, assortment and presentation, in-stock consistency, and customer service.  The Company competesWe compete with discount stores and with many other retailers, including mass merchandise, grocery, drug, convenience, variety and other specialty stores. Some of the nation’s largestThese other retail companies operate stores in many of the areas where the Company operates.  The Company’swe operate and many of them engage in extensive advertising and marketing efforts. Our direct competitors in the dollar store retail category include Family Dollar, Dollar Tree, Fred’s, 99 Cents Only and various local, independent operators. Competitors from other retail categories include Wal-Mart Walgreens, CVS, Rite Aid, Walgreens, Eckerd, Wal-MartTarget and Kmart.  SomeCostco, among others. Certain of the Company’sour competitors from outside the dollar store segment are better capitalizedhave greater financial, distribution, marketing and other resources than the Company.

we do.


The dollar store category differentiates itself from other forms of retailing by offering consistently low prices in a convenient, small-store format. The Company believesWe believe that itsour prices are competitive because of itsdue in part to our low cost operating structure and the relatively limited assortment of products offered. Labor and marketing expenses areHistorically, we have minimized labor by offering fewer price points relyingand a reliance on simple merchandise presentation, and the limited use of circulars.  The Company attemptspresentation. We maintain strong purchasing power due to locate primarily in second-tier locations, either in small towns orour leadership position in the neighborhoods of more densely populated areas where occupancy expenses are relatively low.  The Company believes that its limiteddollar store retail category and our focused assortment of products allows it to focus its purchasing efforts on fewer SKUs than other retailers, which helps keep its cost of goods relatively low.

merchandise.


Trademarks

The Company, through its affiliate,


Through our subsidiary, Dollar General Intellectual Property, L.P.Merchandising, Inc., haswe own marks that are registered with the United States Patent and Trademark Office, including the trademarks Dollar General®, Dollar General Market®, Clover Valley®, American Value®, DG Guarantee® and the Dollar General price point designs, along with certain other trademarks. The Company attemptsWe attempt to obtain registration of itsour trademarks whenever possiblepracticable and to pursue vigorously any infringement of those marks.

  Our trademark registrations have various expiration dates; however, assuming that the trademark registrations are properly renewed, they have a perpetual duration.



9
Available Information

The Company’s website


Our Web site address iswww.dollargeneral.com.  The Company makes www.dollargeneral.com. We make available through this address, without charge, itsour annual report on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K and amendments to those reports filed or furnished pursuant to Section 13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after they are electronically filed or furnished to the SecuritiesSEC.
ITEM 1A.RISK FACTORS
Investing in our securities involves a degree of risk. Persons buying our securities should carefully consider the risks described below and Exchange Commission.



the other information contained in this report and other filings that we make from time to time with the SEC, including our consolidated financial statements and accompanying notes. Any of the following risks could materially and adversely affect our business, financial condition or results of operations. In addition, the risks described below are not the only risks facing us. Additional risks and uncertainties not currently known to us or those we currently view to be immaterial also may materially and adversely affect our business, financial condition or results of operations. In any such case, the trading price of our securities could decline or we may not be able to make payments of principal and interest on our outstanding notes, and you may lose all or part of your original investment.

The fact that we have substantial debt could adversely affect our ability to raise additional capital to fund our operations, limit our ability to react to changes in the economy or our industry, expose us to interest rate risk to the extent of our variable rate debt and prevent us from meeting our obligations under our outstanding debt securities.

ITEM 2.

PROPERTIES

We have substantial debt which could have important consequences, including:

·  making it more difficult for us to make payments on our outstanding debt;
·  increasing our vulnerability to general economic and industry conditions;
·  
requiring a substantial portion of our cash flow from operations to be dedicated to the payment of principal and interest on our indebtedness, therefore reducing our ability
to use our cash flow to fund our operations, capital expenditures and future business opportunities;
·  exposing us to the risk of interest rate fluctuations as certain of our borrowings bear interest based on market interest rates;
·  limiting our ability to obtain additional financing for working capital, capital expenditures, debt service requirements, acquisitions and general corporate or other purposes; and
·  limiting our ability to adjust to changing market conditions and placing us at a competitive disadvantage compared to our competitors who are less highly leveraged.

10
In addition, the borrowings under our New Credit Facilities bear interest at variable rates and other debt we incur also could be variable-rate debt.  If market interest rates increase, variable-rate debt will create higher debt service requirements, which could adversely affect our cash flow.  While we have and may in the future enter into agreements limiting our exposure to higher interest rates, any such agreements may not offer complete protection from this risk.  We and our subsidiaries may be able to incur substantial additional indebtedness in the future, subject to the restrictions contained in our New Credit Facilities and the indentures governing our debt securities.  If new indebtedness is added to our current debt levels, the related risks that we now face could intensify.

Our debt agreements contain restrictions that limit our flexibility in operating our business.

Our New Credit Facilities and the indentures governing our debt securities contain various covenants that limit our ability to engage in specified types of transactions.  These covenants limit our and our restricted subsidiaries’ ability to, among other things:

·  incur additional indebtedness, issue disqualified stock or issue certain preferred stock;
·  pay dividends and make certain distributions, investments and other restricted payments;
·  create certain liens or encumbrances;
·  sell assets;
·  enter into transactions with our affiliates;
·  limit the ability of restricted subsidiaries to make payments to us;
·  merge, consolidate, sell or otherwise dispose of all or substantially all of our assets; and
·  designate our subsidiaries as unrestricted subsidiaries.

A breach of any of these covenants could result in a default under the agreement governing such indebtedness.  Upon our failure to maintain compliance with these covenants, the lenders could elect to declare all amounts outstanding thereunder to be immediately due and payable and terminate all commitments to extend further credit thereunder.  If the lenders under such indebtedness accelerate the repayment of borrowings, we cannot assure you that we will have sufficient assets to repay those borrowings, as well as our other indebtedness, including our outstanding debt securities.  We have pledged a significant portion of our assets as collateral under our New Credit Facilities.  If we were unable to repay those amounts, the lenders under our New Credit Facilities could proceed against the collateral granted to them to secure that indebtedness. Additional borrowings under the ABL Facility will, if excess availability under
11
that facility is less than a certain amount, be subject to the satisfaction of a specified financial ratio.  Our ability to meet this financial ratio can be affected by events beyond our control, and we cannot assure you that we will meet this ratio and other covenants.

General economic factors may adversely affect our financial performance.

General economic conditions in one or more of the markets we serve may adversely affect our financial performance. A general slowdown in the economy, higher interest rates, higher than expected fuel and other energy costs, inflation, higher levels of unemployment, higher consumer debt levels, higher tax rates and other changes in tax laws, tightening of the credit markets, and other economic factors could adversely affect consumer demand for the products we sell, change our sales mix of products to one with a lower average gross profit and result in slower inventory turnover and greater markdowns on inventory. Higher interest rates, higher commodities rates, higher fuel and other energy costs, transportation costs, inflation, higher costs of labor, insurance and healthcare, foreign exchange rate fluctuations, higher tax rates and other changes in tax laws, changes in other laws and regulations and other economic factors increase our cost of sales and selling, general and administrative expenses, and otherwise adversely affect the operations and operating results of our stores.

Our plans depend significantly on initiatives designed to improve the efficiencies, costs and effectiveness of our operations, and failure to achieve or sustain these plans could affect our performance adversely.

We have had, and expect to continue to have, initiatives (such as those relating to marketing, merchandising, promotions, sourcing, shrink, private label, store operations and real estate) in various stages of testing, evaluation, and implementation, upon which we expect to rely to improve our results of operations and financial condition. These initiatives are inherently risky and uncertain, even when tested successfully, in their application to our business in general. It is possible that successful testing can result partially from resources and attention that cannot be duplicated in broader implementation. Testing and general implementation also can be affected by other risk factors described herein that reduce the results expected. Successful systemwide implementation relies on consistency of training, stability of workforce, ease of execution, and the absence of offsetting factors that can influence results adversely. Failure to achieve successful implementation of our initiatives or the cost of these initiatives exceeding management’s estimates could adversely affect our results of operations and financial condition.

Because our business is seasonal to a certain extent, with the highest volume of net sales during the fourth quarter, adverse events during the fourth quarter could materially affect our financial statements as a whole.

We generally recognize our highest volume of net sales during the Christmas selling season, which occurs in the fourth quarter of our fiscal year. In anticipation of this holiday, we purchase substantial amounts of seasonal inventory and hire many temporary employees. A seasonal merchandise inventory imbalance could result if for any reason our net sales during the Christmas selling season were to fall below either seasonal norms or expectations. If for any reason our fourth quarter results were substantially below expectations, our financial
12
performance and operating results could be adversely affected by unanticipated markdowns, especially in seasonal merchandise. Lower than anticipated sales in the Christmas selling season would also negatively affect our ability to absorb the increased seasonal labor costs.

We face intense competition that could limit our growth opportunities and adversely impact our financial performance.

The retail business is highly competitive. We operate in the discount retail merchandise business, which is highly competitive with respect to price, store location, merchandise quality, assortment and presentation, in-stock consistency, and customer service. This competitive environment subjects us to the risk of adverse impact to our financial performance because of the lower prices, and thus the lower margins, required to maintain our competitive position. Also, companies operating in the discount retail merchandise sector (due to customer demographics and other factors) may have limited ability to increase prices in response to increased costs (including vendor price increases). This limitation may adversely affect our margins and financial performance. We compete for customers, employees, store sites, products and services and in other important aspects of our business with many other local, regional and national retailers. We compete with retailers operating discount, mass merchandise, grocery, drug, convenience, variety and other specialty stores. Certain of our competitors have greater financial, distribution, marketing and other resources than we do. These other competitors compete in a variety of ways, including aggressive promotional activities, merchandise selection and availability, services offered to customers, location, store hours, in-store amenities and price. If we fail to respond effectively to competitive pressures and changes in the retail markets, it could adversely affect our financial performance. See “Business—Our Industry, —Competitive Strengths, and —Competition” for additional discussion of our competitive situation.

Competition for customers has intensified in recent years as larger competitors have moved into, or increased their presence in, our geographic markets. We remain vulnerable to the marketing power and high level of consumer recognition of these larger competitors and to the risk that these competitors or others could venture into the “dollar store” industry in a significant way. Generally, we expect an increase in competition.

Natural disasters, unusually adverse weather conditions, pandemic outbreaks, boycotts and geo-political events could adversely affect our financial performance.
The occurrence of one or more natural disasters, such as hurricanes and earthquakes, unusually adverse weather conditions, pandemic outbreaks, boycotts and geo-political events, such as civil unrest in countries in which our suppliers are located and acts of terrorism, or similar disruptions could adversely affect our operations and financial performance. These events could result in physical damage to one or more of our properties, increases in fuel (or other energy) prices, the temporary or permanent closure of one or more of our stores or distribution centers, delays in opening new stores, the temporary lack of an adequate work force in a market, the temporary or long-term disruption in the supply of products from some local and overseas suppliers, the temporary disruption in the transport of goods from overseas, delay in the delivery of goods to our distribution centers or stores, the temporary reduction in the availability of products in our stores and disruption to our information systems. These events also can have
13
indirect consequences such as increases in the costs of insurance following a destructive hurricane season. These factors could otherwise disrupt and adversely affect our operations and financial performance.

Risks associated with the domestic and foreign suppliers from whom our products are sourced could adversely affect our financial performance.
The products we sell are sourced from a wide variety of domestic and international suppliers. Approximately 12% of our purchases in 2007 were from The Procter & Gamble Company. Our next largest supplier accounted for approximately 6% of our purchases in 2007. We directly imported approximately 9% of our purchases at cost in 2007, but many of our domestic vendors directly import their products or components of their products. Political and economic instability in the countries in which foreign suppliers are located, the financial instability of suppliers, suppliers’ failure to meet our supplier standards, labor problems experienced by our suppliers, the availability of raw materials to suppliers, merchandise quality or safety issues, currency exchange rates, transport availability and cost, inflation, and other factors relating to the suppliers and the countries in which they are located or from which they import are beyond our control. In addition, the United States’ foreign trade policies, tariffs and other impositions on imported goods, trade sanctions imposed on certain countries, the limitation on the importation of certain types of goods or of goods containing certain materials from other countries and other factors relating to foreign trade are beyond our control. Disruptions due to labor stoppages, strikes or slowdowns, or other disruptions, involving our vendors or the transportation and handling industries also may negatively affect our ability to receive merchandise and thus may negatively affect sales. These and other factors affecting our suppliers and our access to products could adversely affect our financial performance. In addition, our ability to obtain indemnification from foreign suppliers may be hindered by the manufacturers’ lack of understanding of U.S. product liability or other laws, which may make it more likely that we may be required to respond to claims or complaints from customers as if we were the manufacturer of the products. As we increase our imports of merchandise from foreign vendors, the risks associated with foreign imports will increase.

We are dependent on attracting and retaining qualified employees while also controlling labor costs.

Our future performance depends on our ability to attract, retain and motivate qualified employees. Many of these employees are in entry-level or part-time positions with historically high rates of turnover. Availability of personnel varies widely from location to location. Our ability to meet our labor needs generally, including our ability to find qualified personnel to fill positions that become vacant at our existing stores and distribution centers, while controlling our labor costs, is subject to numerous external factors, including the level of competition for such personnel in a given market, the availability of a sufficient number of qualified persons in the work force of the markets in which we are located, unemployment levels within those markets, prevailing wage rates and changes in minimum wage laws, changing demographics, health and other insurance costs and changes in employment legislation. Increased turnover also can have significant indirect costs, including more recruiting and training needs, store disruptions due to management changeover and potential delays in new store openings or adverse customer
14
reactions to inadequate customer service levels due to personnel shortages. Competition for qualified employees exerts upward pressure on wages paid to attract such personnel. In addition, to the extent a significant portion of our employee base unionizes, or attempts to unionize, our labor costs could increase. Our ability to pass along those costs is constrained.

Also, our stores are decentralized and are managed through a network of geographically dispersed management personnel. Our inability to effectively and efficiently operate our stores, including the ability to control losses resulting from inventory and cash shrinkage, may negatively affect our sales and/or operating margins.

Our planned future growth will be impeded, which would adversely affect sales, if we cannot open new stores on schedule or if we close a number of stores materially in excess of anticipated levels.

Our growth is dependent on both increases in sales in existing stores and the ability to open new stores. Our ability to timely open new stores and to expand into additional market areas depends in part on the following factors: the availability of attractive store locations; the absence of occupancy delays; the ability to negotiate favorable lease terms; the ability to hire and train new personnel, especially store managers; the ability to identify customer demand in different geographic areas; general economic conditions; and the availability of sufficient funds for expansion. In addition, many of these factors affect our ability to successfully relocate stores. Many of these factors are beyond our control. In addition, our substantial debt, particularly combined with the recent tightening of the credit markets, has made it more difficult for our real estate developers to obtain loans for our build-to-suit stores and to locate investors for those properties after they have been developed. If this trend continues, it could materially adversely impact our ability to open build-to-suit stores in desirable locations.

Delays or failures in opening new stores, or achieving lower than expected sales in new stores, or drawing a greater than expected proportion of sales in new stores from existing stores, could materially adversely affect our growth. In addition, we may not anticipate all of the challenges imposed by the expansion of our operations and, as a result, may not meet our targets for opening new stores or expanding profitably.

Some of our new stores may be located in areas where we have little or no meaningful experience. Those markets may have different competitive conditions, market conditions, consumer tastes and discretionary spending patterns than our existing markets, which may cause our new stores to be less successful than stores in our existing markets.

Some of our new stores will be located in areas where we have existing units. Although we have experience in these markets, increasing the number of locations in these markets may cause us to over-saturate markets and temporarily or permanently divert customers and sales from our existing stores, thereby adversely affecting our overall financial performance.
15
We are dependent upon the smooth functioning of our distribution network, the capacity of our distribution centers, and the timely receipt of inventory.
We rely upon the ability to replenish depleted inventory through deliveries to our distribution centers from vendors and from the distribution centers to our stores by various means of transportation, including shipments by sea and truck. Labor shortages in the transportation industry and/or labor inefficiencies associated with certain “driver hours of service” regulations adopted by the Federal Motor Carriers Safety Administration could negatively affect transportation costs. In addition, long-term disruptions to the national and international transportation infrastructure that lead to delays or interruptions of service would adversely affect our business.

The efficient operation of our business is heavily dependent upon our information systems.

We depend on a variety of information technology systems for the efficient functioning of our business. We rely on certain software vendors to maintain and periodically upgrade many of these systems so that they can continue to support our business. The software programs supporting many of our systems were licensed to us by independent software developers. The inability of these developers or us to continue to maintain and upgrade these information systems and software programs would disrupt or reduce the efficiency of our operations if we were unable to convert to alternate systems in an efficient and timely manner. In addition, costs and potential problems and interruptions associated with the implementation of new or upgraded systems and technology or with maintenance or adequate support of existing systems could also disrupt or reduce the efficiency of our operations. We also rely heavily on our information technology staff. If we cannot meet our staffing needs in this area, we may not be able to fulfill our technology initiatives while continuing to provide maintenance on existing systems.

We are subject to governmental regulations, procedures and requirements. A significant change in, or noncompliance with, these regulations could have a material adverse effect on our financial performance.

Our business is subject to numerous federal, state and local regulations. Changes in these regulations, particularly those governing the sale of products, may require extensive system and operating changes that may be difficult to implement and could increase our cost of doing business. Untimely compliance or noncompliance with applicable regulations or untimely or incomplete execution of a required product recall can result in the imposition of penalties, including loss of licenses or significant fines or monetary penalties, in addition to reputational damage.

Our current insurance program may expose us to unexpected costs and negatively affect our financial performance.

Historically, our insurance coverage has reflected deductibles, self-insured retentions, limits of liability and similar provisions that we believe are prudent based on the dispersion of our operations. However, there are types of losses we may incur but against which we cannot be insured or which we believe are not economically reasonable to insure, such as losses due to acts of war, employee and certain other crime and some natural disasters. If we incur these losses, our business could suffer. Certain material events may result in sizable losses for the insurance industry and adversely impact the availability of adequate insurance coverage or result in
16
excessive premium increases. To offset negative insurance market trends, we may elect to self-insure, accept higher deductibles or reduce the amount of coverage in response to these market changes. In addition, we self-insure a significant portion of expected losses under our workers’ compensation, automobile liability, general liability and group health insurance programs. Unanticipated changes in any applicable actuarial assumptions and management estimates underlying our recorded liabilities for these losses, including expected increases in medical and indemnity costs, could result in materially different amounts of expense than expected under these programs, which could have a material adverse effect on our financial condition and results of operations. Although we continue to maintain property insurance for catastrophic events, we are effectively self-insured for losses up to the amount of our deductibles. If we experience a greater number of these losses than we anticipate, our financial performance could be adversely affected.

Litigation may adversely affect our business, financial condition and results of operations.

Our business is subject to the risk of litigation by employees, consumers, suppliers, shareholders, government agencies, or others through private actions, class actions, administrative proceedings, regulatory actions or other litigation. The outcome of litigation, particularly class action lawsuits and regulatory actions, is difficult to assess or quantify. Plaintiffs in these types of lawsuits may seek recovery of very large or indeterminate amounts, and the magnitude of the potential loss relating to these lawsuits may remain unknown for substantial periods of time. In addition, certain of these lawsuits, if decided adversely to us or settled by us, may result in liability material to our financial statements as a whole or may negatively affect our operating results if changes to our business operation are required. The cost to defend future litigation may be significant. There also may be adverse publicity associated with litigation that could negatively affect customer perception of our business, regardless of whether the allegations are valid or whether we are ultimately found liable. As a result, litigation may adversely affect our business, financial condition and results of operations. See Part I, Item 3 “Legal Proceedings” for further details regarding certain of these pending matters.

In addition, from time to time, third parties may claim that our trademarks or product offerings infringe upon their proprietary rights. Any such claim, whether or not it has merit, could be time-consuming and distracting for executive management, result in costly litigation, cause changes to our private label offerings or delays in introducing new private label offerings, or require us to enter into royalty or licensing agreements. As a result, any such claim could have a material adverse effect on our business, results of operations and financial condition.

The Investors control us and may have conflicts of interest with us now or in the future.

The Investors indirectly own, through their investment in Parent, a substantial portion of our common stock.  As a result, the Investors have control over our decisions to enter into any corporate transaction and have the ability to prevent any transaction that requires the approval of shareholders regardless of whether others believe that any such transactions are in our own best interests.  For example, the Investors could cause us to make acquisitions that increase the amount of indebtedness that is secured or that is senior to our outstanding debt securities or
17
to sell assets, which may impair our ability to make payments under our outstanding debt securities.

Additionally, the Investors are in the business of making investments in companies and may from time to time acquire and hold interests in businesses that compete directly or indirectly with us.  The Investors may also pursue acquisition opportunities that may be complementary to our business and, as a result, those acquisition opportunities may not be available to us.  So long as the Investors, or other funds controlled by or associated with the Investors, continue to indirectly own a significant amount of the outstanding shares of our common stock, even if such amount is less than 50%, the Investors will continue to be able to strongly influence or effectively control our decisions.
ITEM 2.PROPERTIES
As of April 1, 2005, the CompanyFebruary 29, 2008, we operated 7,4948,222 retail stores located in 3035 states as follows:

State

Number of Stores

 

State

Number of Stores

Alabama

396

  

Missouri

302

 

Arizona

29

  

Nebraska

84

 

Arkansas

207

  

New Jersey

24

 

Delaware

24

  

New Mexico

24

 

Florida

425

  

New York

200

 

Georgia

429

  

North Carolina

420

 

Illinois

297

  

Ohio

388

 

Indiana

274

  

Oklahoma

252

 

Iowa

164

  

Pennsylvania

388

 

Kansas

147

  

South Carolina

274

 

Kentucky

269

  

Tennessee

367

 

Louisiana

294

  

Texas

905

 

Maryland

65

  

Virginia

250

 

Michigan

175

  

West Virginia

140

 

Mississippi

226

  

Wisconsin

55

 


StateNumber of Stores StateNumber of Stores
Alabama446  Nebraska80 
Arizona51  New Jersey22 
Arkansas224  New Mexico42 
Colorado19  New York223 
Delaware24  North Carolina467 
Florida415  Ohio465 
Georgia464  Oklahoma271 
Illinois306  Pennsylvania393 
Indiana302  South Carolina316 
Iowa170  South Dakota12 
Kansas144  Tennessee403 
Kentucky300  Texas969 
Louisiana326  Utah9 
Maryland57  Vermont3 
Michigan238  Virginia243 
Minnesota16  West Virginia149 
Mississippi256  Wisconsin88 
Missouri309     

Most of the Company’sour stores are located in leased premises.  Individual store leases vary as to their terms, rental provisions and expiration dates.  In 2004, the Company’s aggregate store rental expense was approximately $5.72 per square foot of selling space. The majority of the Company’sour leases are relatively low-cost, short-term leases (usually with initial or primary terms of three to five years) often with multiple renewal options when available. The Companyoptions. We also hashave stores subject to build-to-suit arrangements with landlords, which typically carry a primary lease term of between 7 and 10 years with multiple renewal options. In recent years, an increasing percentage of the Company’sour new stores have been subject to build-to-suit arrangements. In 2005, the Company expects2007, approximately 50070% of itsour new stores to be subject towere build-to-suit arrangemen ts.

arrangements.

18
As of April 1, 2005, the Company had seven DCs serving Dollar General stores,February 29, 2008, we operated nine distribution centers, as described in the following table:

Location

Year
Opened

Approximate Square
Footage

 

Approximate Number of Stores Served

Scottsville, Kentucky

1959

720,000

  

907

 

Ardmore, Oklahoma

1994

1,310,000

  

1,109

 

South Boston, Virginia

1997

1,250,000

  

1,166

 

Indianola, Mississippi

1998

820,000

  

767

 

Fulton, Missouri

1999

1,150,000

  

1,256

 

Alachua, Florida

2000

980,000

  

901

 

Zanesville, Ohio

2001

1,170,000

  

1,388

 

Location
Year
Opened
Approximate Square
Footage
 
Approximate Number
of Stores Served
Scottsville, KY1959720,000  948 
Ardmore, OK19941,310,000  1,147 
South Boston, VA19971,250,000  779 
Indianola, MS1998820,000  885 
Fulton, MO19991,150,000  1,093 
Alachua, FL2000980,000  735 
Zanesville, OH20011,170,000  1,113 
Jonesville, SC20051,120,000  728 
Marion, IN20061,110,000  794 

The Company owns

We lease the DCsdistribution centers located in Kentucky, Florida,Oklahoma, Mississippi and OhioMissouri and leasesown the other four DCs.  Insix distribution centers. Approximately 7.25 acres of the land on which our Kentucky distribution center is located is subject to a moveground lease. We lease additional temporary warehouse space as necessary to further enhance the Company’ssupport our distribution network, the Company is constructing a 1.1 million square-foot DC near Jonesville, South Carolina on a 177-acre site.  Located approximately 15 miles south of Spartanburg, the facility is expected to employ more than 600 people when it reaches full capacity.  The Company anticipates the facility to be fully operational in mid-2005.




needs.


The Company’s

Our executive offices are located in approximately 302,000 square feet of ownedleased space in Goodlettsville, Tennessee.

ITEM 3.

LEGAL PROCEEDINGS

Restatement-Related Proceedings

As previously disclosed

ITEM 3.  LEGAL PROCEEDINGS
The information contained in Note 7 to the consolidated financial statements under the heading “Legal proceedings” contained in Part II, Item 8 of this report is incorporated herein by this reference.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of shareholders during the fourth quarter of 2007.

PART II

ITEM 5.MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

Market and Dividend Information.  Our outstanding common stock is privately held, and there is no established public trading market for our common stock. There were approximately 145 shareholders of record of our common stock as of March 17, 2008.

Our Board of Directors declared a quarterly dividend in the Company’s periodic reports filedamount of $0.05 per share:

·  payable on or before April 20, 2006 to common shareholders of record on April 6, 2006;
·  payable on or before July 20, 2006 to common shareholders of record on July 6, 2006;

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·  payable on or before October 19, 2006 to common shareholders of record on October 5, 2006;
·  payable on or before January 18, 2007 to common shareholders of record on January 4, 2007; and
·  payable on or before April 19, 2007 to common shareholders of record on April 5, 2007.

Our Board of Directors did not declare a dividend thereafter.  See Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Liquidity and Capital Resources” for a description of the restrictions on our ability to pay dividends.

Unregistered Sales of Equity Securities.  In connection with the Merger, our officer-level employees were offered the opportunity to roll over portions of their equity and/or stock options and to purchase additional equity of Dollar General.  In connection with such opportunity, on July 6, 2007 these individuals purchased a total of 635,207 shares of common stock having an aggregate value of approximately $3,176,035 and exchanged a total of 2,225,175 stock options outstanding prior to the Merger for 1,920,543 vested options to purchase shares of common stock (the “Rollover Options”) in the surviving company (the “Rollover”). The Rollover Options remain outstanding in accordance with the terms of the governing stock incentive plan and grant agreements pursuant to which the holder originally received the stock option grants. However, immediately after the Merger, the exercise price and number of shares underlying the Rollover Options were adjusted as a result of the Merger and the exercise price for all of the options was adjusted to $1.25 per option.

We subsequently offered certain other employees a similar investment opportunity to participate in our common equity.  As a result, on September 20, 2007 and October 5, 2007, we sold 15,000 shares and 558,000 shares, respectively, of our common stock to those employees for a purchase price of $5 per share.

In connection with the investment discussed above and the Merger, our Board of Directors adopted a new stock incentive plan pursuant to which certain of our officer-level and other employees also were granted, on July 6, 2007, September 20, 2007 and October 5, 2007, respectively, new non-qualified stock options to purchase 13,110,000 shares, 130,000 shares and 4,150,000 shares of our common stock at a per share exercise price of $5, which represented the fair market value of one share of our common stock on the grant date.  Effective January 21, 2008, our Board also granted to our CEO, Mr. Dreiling, non-qualified stock options to purchase 2.5 million shares of our common stock pursuant to the terms of the new stock incentive plan. All of these new options expire no later than 10 years following the grant date.  In addition, half of the options will vest ratably on each of the five anniversaries of July 6, 2007 solely based upon continued employment over that time period, while the other half of the options will vest based both upon continued employment and upon the achievement of predetermined performance annual or cumulative financial-based targets over time which coincide with our fiscal year. The options also have certain accelerated vesting provisions upon a change in control or initial public offering, as defined in the new incentive plan.

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Effective January 21, 2008, our Board also granted to Mr. Dreiling 890,000 shares of restricted common stock pursuant to the terms of the new stock incentive plan. The restricted stock will vest on the last day of our 2011 fiscal year if Mr. Dreiling remains employed by us through that date. The restricted stock also has certain accelerated vesting provisions upon a change in control, initial public offering, termination without cause or due to death or disability, or resignation for good reason, all as defined in Mr. Dreiling’s employment agreement.

The share issuances, the Rollover Options and the new option and restricted stock grants described above were effected without registration in reliance on (1) the exemptions afforded by Section 4(2) of the Securities Act of 1933, as amended (the “Securities Act”), because the sales did not involve any public offering, (2) Rule 701 promulgated under the Securities Act for shares that were sold under a written compensatory benefit plan or contract for the participation of our employees, directors, officers, consultants and advisors, and (3) Regulation S promulgated under the Securities Act relating to offerings of securities outside of the United States.
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ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected consolidated financial information of Dollar General Corporation as of the dates and for the periods indicated.  The selected historical statement of operations data and statement of cash flows data for the fiscal years ended February 1, 2008, February 2, 2007 and February 3, 2006, and balance sheet data as of February 1, 2008 and February 2, 2007 have been derived from our historical audited consolidated financial statements included elsewhere in this report. The selected historical statement of operations data and statement of cash flows data for the fiscal years ended January 28, 2005 and January 30, 2004 and balance sheet data as of February 3, 2006, January 28, 2005, and January 30, 2004 presented in this table have been derived from audited consolidated financial statements not included in this report.

As a result of the Merger, purchase accounting, and a new basis of accounting beginning on July 7, 2007, the 2007 financial reporting periods presented below include the 22-week Predecessor period of the Company from February 3, 2007 to July 6, 2007 and the 30-week Successor period, reflecting the merger of the Company and Buck Acquisition Corp. (“Buck”) from July 7, 2007 to February 1, 2008.  Buck’s results of operations for the period from March 6, 2007 to July 6, 2007 (prior to the Merger on July 6, 2007) are also included in the consolidated financial statements for the periods described above, where applicable, as a result of certain derivative financial instruments entered into by Buck prior to the Merger as further described below.  Other than these financial instruments, Buck had no assets, liabilities, or operations prior to the Merger. The fiscal years presented from 2003 to 2006 reflect the Predecessor.

Due to the significance of the Merger and related transactions that occurred in 2007, the 2007 Successor financial information may not be comparable to that of previous periods presented in the accompanying table.

The information set forth below should be read in conjunction with, and is qualified by reference to, the Consolidated Financial Statements and related notes included in Part II, Item 8 of this report and the Management’s Discussion and Analysis of Financial Condition and Results of Operations included in Part II, Item 7 of this report.
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(Amounts in millions, excluding number of stores and net sales per square foot)

   
Predecessor
 
     
  
Successor
     
Fiscal Year Ended
 
  
July 7, 2007 through
February 1,
2008 (1)
  
February 3, 2007
through
July 6, 2007
  
February 2,
2007 (2)
  
February 3,
2006 (3)
  
January 28,
2005
  
January 30,
2004
 
Statement of Operations Data:                  
Net sales $5,571.5  $3,923.8  $9,169.8  $8,582.2  $7,660.9  $6,872.0 
Cost of goods sold  3,999.6   2,852.2   6,801.6   6,117.4   5,397.7   4,853.9 
Gross profit  1,571.9   1,071.6   2,368.2   2,464.8   2,263.2   2,018.1 
Selling, general and administrative (4)  1,324.5   960.9   2,119.9   1,903.0   1,706.2   1,510.1 
Transaction and related costs  1.2   101.4   -   -   -   - 
Operating profit  246.1   9.2   248.3   561.9   557.0   508.0 
Interest income  (3.8)  (5.0)  (7.0)  (9.0)  (6.6)  (4.1)
Interest expense  252.9   10.3   34.9   26.2   28.8   35.6 
Loss on interest rate swaps  2.4   -   -   -   -   - 
Loss on debt retirement, net  1.2   -   -   -   -   - 
Income (loss) before taxes  (6.6)  4.0   220.4   544.6   534.8   476.5 
Income tax expense (benefit)  (1.8)  12.0   82.4   194.5   190.6   177.5 
Net income (loss) $(4.8) $(8.0) $137.9  $350.2  $344.2  $299.0 
                         
Statement of Cash Flows Data:                        
Net cash provided by (used in):                        
Operating activities $239.6  $201.9  $405.4  $555.5  $391.5  $514.1 
Investing activities  (6,848.4)  (66.9)  (282.0)  (264.4)  (259.2)  (256.7)
Financing activities  6,709.0   25.3   (134.7)  (323.3)  (245.4)  (43.3)
Total capital expenditures  (83.6)  (56.2)  (261.5)  (284.1)  (288.3)  (140.1)
Other Financial and Operating Data:                        
Same store sales growth  1.9%  2.6%  3.3%  2.2%  3.2%  4.0%
Number of stores (at period end)  8,194   8,205   8,229   7,929   7,320   6,700 
Selling square feet (in thousands at period end)  57,376   57,379   57,299   54,753   50,015   45,354 
Net sales per square foot (5) $165.4  $163.9  $162.6  $159.8  $159.6  $157.5 
Highly consumable sales  66.4%  66.7%  65.7%  65.3%  63.0%  61.2%
Seasonal sales  16.3%  15.4%  16.4%  15.7%  16.5%  16.8%
Home product sales  9.1%  9.2%  10.0%  10.6%  11.5%  12.5%
Basic clothing sales  8.2%  8.7%  7.9%  8.4%  9.0%  9.5%
Rent expense $214.5  $150.2  $343.9  $312.3  $268.8  $232.0 
Balance Sheet Data (at period end):                        
Cash and cash equivalents and short-term investments $119.8      $219.2  $209.5  $275.8  $414.6 
Total assets  8,656.4       3,040.5   2,980.3   2,841.0   2,621.1 
Total debt  4,282.0       270.0   278.7   271.3   282.0 
Total shareholders’ equity  2,703.9       1,745.7   1,720.8   1,684.5   1,554.3 
(1)Includes the results of Buck for the period prior to the Merger with and into Dollar General Corporation from March 6, 2007 (its formation) through July 6, 2007 and the post-Merger results of Dollar General Corporation for the period from July 7, 2007 through February 1, 2008.
(2)Includes the effects of certain strategic merchandising and real estate initiatives as further described in “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”
(3)The fiscal year ended February 3, 2006 was comprised of 53 weeks.
(4)Penalty expenses of $10 million in fiscal 2003 are included in SG&A.
(5)For the fiscal year ended February 3, 2006, net sales per square foot was calculated based on 52 weeks’ sales.
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ITEM 7.MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

General

Accounting Periods.  The following text contains references to years 2008, 2007, 2006 and 2005, which represent fiscal years ending or ended January 30, 2009, February 1, 2008, February 2, 2007 and February 3, 2006, respectively. Our fiscal year ends on the Friday closest to January 31. Each of fiscal years 2007 and 2006 were and fiscal year 2008 will be 52-week accounting periods, while fiscal 2005 was a 53-week accounting period, which affects the comparability of certain amounts in the Consolidated Financial Statements and financial ratios between 2005 and the other fiscal years reflected herein.  As discussed below, we completed a merger transaction on July 6, 2007.  The 2007 52-week period presented includes the 22-week Predecessor period of Dollar General Corporation through July 6, 2007 reflecting the historical basis of accounting, and a 30-week Successor period, reflecting the impact of the business combination and associated purchase price allocation of the merger of Dollar General Corporation and Buck Acquisition Corp. (“Buck”), from July 7, 2007 to February 1, 2008.  For comparison purposes, the discussion of results of operations below is generally based on the mathematical combination of the Successor and Predecessor periods for the 52-week fiscal year ended February 1, 2008 compared to the Predecessor 2006 fiscal year ended February 2, 2007, which we believe provides a meaningful understanding of the underlying business.  Transactions relating to or resulting from the Merger are discussed separately.  The combined results do not reflect the actual results we would have achieved absent the Merger and should not be considered indicative of future results of operations.  This discussion and analysis should be read with, and is qualified in its entirety by, the Consolidated Financial Statements and the notes thereto. It also should be read in conjunction with the Forward-Looking Statements/Risk Factors disclosures set forth in the Introduction and in Item 1A of this report.

Purpose of Discussion. We intend for this discussion to provide the reader with information that will assist in understanding our company and the critical economic factors that affect our company. In addition, we hope to help the reader understand 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.

Merger with KKR

On July 6, 2007, we completed a merger (the “Merger”) in which our former shareholders received $22.00 in cash, or approximately $6.9 billion in total, for each share of our common stock held. As a result of the Merger, we are a subsidiary of Buck Holdings, L.P. (“Parent”), a Delaware limited partnership controlled by investment funds affiliated with Kohlberg Kravis Roberts & Co., L.P. (“KKR” or “Sponsor”). KKR, GS Capital Partners VI Fund, L.P. and affiliated funds (affiliates of Goldman, Sachs & Co.), Citi Private Equity, Wellington Management Company, LLP, CPP Investment Board (USRE II) Inc., and other equity co-investors (collectively, the “Investors”) indirectly own a substantial portion of our capital stock through their investment in Parent.

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The Merger consideration was funded through the use of our available cash, cash equity contributions from the Investors, equity contributions of certain members of our management and the debt financings discussed below. Our outstanding common stock is now owned by Parent and certain members of management. Our common stock is no longer registered with the Securities and Exchange Commission (the “SEC”(“SEC”) and is no longer traded on a national securities exchange.

We entered into the following debt financings in conjunction with the Merger:

·  We entered into a credit agreement and related security and other agreements consisting of a $2.3 billion senior secured term loan facility, which matures on July 6, 2014 (the “Term Loan Facility”).
·  We entered into a credit agreement and related security and other agreements consisting of a senior secured asset-based revolving credit facility of up to $1.125 billion (of which $432.3 million was drawn at closing and $132.3 million was paid down on the same day), subject to borrowing base availability, which matures July 6, 2013 (the “ABL Facility” and, with the Term Loan Facility, the “New Credit Facilities”).
·  We issued $1.175 billion aggregate principal amount of 10.625% senior notes due 2015, which mature on July 15, 2015, and $725 million aggregate principal amount of 11.875%/12.625% senior subordinated toggle notes due 2017, which mature on July 15, 2017.  During the fourth quarter of fiscal 2007, we repurchased $25 million of the 11.875%/12.625% senior subordinated toggle notes due 2017.

Executive Overview

We are the largest discount retailer in the United States by number of stores, with approximately 8,200 stores located in 35 states, primarily in the southern, southwestern, midwestern and eastern United States. We serve a broad customer base and offer a focused assortment of everyday items, including basic consumable merchandise and other home, apparel and seasonal products. A majority of our products are priced at $10 or less and approximately 30% of our products are priced at $1 or less. We seek to offer a compelling value proposition for our customers based on convenient store locations, easy in and out shopping and quality merchandise at highly competitive prices. We believe our combination of value and convenience distinguishes us from other discount, convenience and drugstore retailers, who typically focus on either value or convenience.

The nature of our business is seasonal to a certain extent.  Primarily because of sales of holiday-related merchandise, sales in the fourth quarter have historically been higher than sales achieved in each of the first three quarters of the fiscal year.  Expenses and, to a greater extent, operating income, vary by quarter.  Results of a period shorter than a full year may not be indicative of results expected for the entire year.  Furthermore, the seasonal nature of our business may affect comparisons between periods.

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In November 2006, we completed a strategic review of our inventory and real estate strategies and announced significant changes to existing company practices, which we refer to as “Project Alpha.” At that time, we announced our decision to close 403 stores which did not meet our recently developed store criteria, in addition to stores closed in the ordinary course of business, and to slow our new store growth rate. We made this decision to allow ourselves to focus on our merchandising efforts and improvements to our execution in the stores. At that time, we also announced the decision to eliminate, with limited exceptions, our “packaway” inventory strategy, which was our historical practice of storing unsold merchandise at the end of a season and carrying it over to the following year. All of the 403 stores identified for closing were closed by the end of July 2007, and all of our packaway inventory was eliminated by the end of the 2007 fiscal year. We believe that the elimination of packaway inventory, coupled with the completion in 2006 of the implementation of our EZstoreTM process (simplifying the way we stock new merchandise in our stores), contributed to our ability to show significant improvements in the Company restated its auditedshopability and manageability of our stores in 2007.  We believe these initiatives also led to our successful reduction of store employee turnover in 2007, including significant improvement at the critical store manager and district manager levels.

In addition to the initiatives noted above, during 2007 we worked closely with KKR to refine our strategic initiatives and set goals to improve our operational and financial statementsperformance. During this transition, we slowed our store growth, as planned, and we defined very specific operational and financial benchmarks to monitor and measure our progress against our goals. Specifically, in 2007, we focused on and made good progress on improving our merchandising and category management processes, refining our real estate processes and improving our distribution and transportation logistics. In addition, we accelerated our efforts to refine our pricing strategy, increase direct foreign sourcing and expand our private label offering. All of these initiatives are ongoing and we continue to expect them to positively impact our gross profit, sales productivity and capital efficiency in 2008 and beyond.

It is important for you to read our more detailed discussion of financial and operating results below under “Results of Operations.” Basis points or "bps" amounts referred to below are equal to 0.01 percent as a percentage of sales.  Some of the more significant highlights of the 2007 fiscal year are as follows:

·  Total sales increased 3.5%, including a 2.1% increase in same-store sales compared with the prior year. The remaining sales increase resulted from new stores, partially offset by the impact of closed stores.
·  Gross profit, as a percentage of sales, increased to 27.8% compared to 25.8% in 2006. This increase was the result of improved purchase markups, decreased markdowns, and leverage on distribution costs impacted by improved logistics.  The 2006 gross profit rate was significantly impacted by merchandise markdowns as a result of our inventory liquidation and store closing activities.
·  SG&A, as a percentage of sales, increased to 24.1% compared to 23.1%. Several items of significance affected this comparison, including: the addition of leasehold intangibles amortization (non-cash) of 25 bps; an excess of Project Alpha-related
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SG&A expenses in 2007 over 2006 of 21 bps; an excess of 2007 incentive compensation resulting from meeting certain financial targets over 2006 discretionary bonuses of 18 bps;  the impact of hurricane-related insurance proceeds received in 2006 of 14 bps; an accrued loss relating to the restructuring of certain distribution center leases as a result of the Merger of 13 bps; and other SG&A relating to or resulting from the Merger.
·  Other items affecting our 2007 results of operations, relating to or resulting from the Merger, as more fully described below, include transaction and related costs of $102.6 million and a significant increase in interest expense.
·  As a result, we incurred a net loss for the 2007 combined periods of $12.8 million compared to net income for 2006 of $137.9 million. Cash flow from operating activities increased to $441.6 million in 2007 from $405.4 million in 2006.
·  We opened 365 new stores, closed 400 stores (including 275 remaining from Project Alpha) and relocated or remodeled 300 stores. As of February 1, 2008, we operated 8,194 stores.
·  We also reduced total inventories by $143.7 million, or 10.0%.

We made significant progress on our merchandising and operating initiatives in 2007, including clearing our stores of packaway inventories and closing our low-performing stores, giving us a strong foundation for further enhancements in 2008. These changes also contributed to a decrease in employee turnover and a dramatic improvement in the overall appearance of our stores. We moved forward with our pricing and private label initiatives and enhanced our merchandising analysis tools giving us a better platform for decision-making. We accomplished these goals while making a significant transition in the financial structure of the Company.

2008 Priorities. In 2008, under the leadership of our new CEO, we plan to continue to deliver value to our customers through our ability to deliver highly competitive prices in a convenient shopping format. Our stores provide our customers with a compelling shopping experience, low everyday prices on name brand and other quality items in a convenient, easy-to-shop format. We plan to continue to improve on this value/convenience model by implementing merchandising and operational improvements.

We are focused on further improving financial performance through:

·  Productive sales growth, including emphasis on increasing shopper frequency, size of basket and productivity per square foot.
·  Improving our gross margins through: decreasing inventory shrink, refining our pricing strategy, optimizing our merchandise offering, expanding and improving our private label offering and improving and expanding our foreign sourcing;

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·  Improving our operational processes, for example, through information technology and work management and leveraging those improvements to reduce costs.
·  Strengthening and expanding our culture of serving others.

In addition, we plan to open approximately 200 new stores and to remodel or relocate approximately 400 stores.

Key Financial Metrics. We have identified the following as our most critical financial metrics for 2008:

·  Same-store sales growth / sales per square foot
·  Gross profit, as a percentage of sales
·  Inventory turnover
·  Cash flow
·  Earnings before interest, taxes and depreciation and amortization (“EBITDA”)

Readers should refer to the detailed discussion of our operating results below for additional comments on financial performance in the current year periods as compared with the prior year periods.
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Results of Operations

The following discussion of our financial performance is based on the Consolidated Financial Statements set forth herein. The following table contains results of operations data for the 2007, 2006 and 2005 fiscal years, 1999 and 1998,the dollar and certain unaudited financial informationpercentage variances among those years.
           
2007 vs. 2006
   
2006 vs. 2005
 
 
(amounts in millions)
 2007 (a)  2006 (b)  2005 (c)   
$
change
   
%
 change
   
$
change
  
%
change
 
                      
                      
Net sales by category:                     
Highly consumable $6,316.8  $6,022.0  $5,606.5  $294.8   4.9% $415.5   7.4%
% of net sales  66.53%  65.67%  65.33%                
Seasonal  1,513.2   1,510.0   1,348.8   3.2   0.2   161.2   12.0 
% of net sales  15.94%  16.47%  15.72%                
Home products  869.8   914.4   907.8   (44.6)  (4.9)  6.5   0.7 
% of net sales  9.16%  9.97%  10.58%                
Basic clothing  795.4   723.5   719.2   72.0   9.9   4.3   0.6 
% of net sales  8.38%  7.89%  8.38%                
Net sales $9,495.2  $9,169.8  $8,582.2  $325.4   3.5% $587.6   6.8%
Cost of goods sold  6,851.8   6,801.6   6,117.4   50.2   0.7   684.2   11.2 
% of net sales  72.16%  74.17%  71.28%                
Gross profit  2,643.5   2,368.2   2,464.8   275.3   11.6   (96.6)  (3.9)
% of net sales  27.84%  25.83%  28.72%                
Selling, general and administrative expenses  2,285.4   2,119.9   1,903.0   165.5   7.8   217.0   11.4 
% of net sales  24.07%  23.12%  22.17%                
Transaction and related costs  102.6   -   -   102.6   100.0   -   - 
% of net sales  1.08%  -   -           -   - 
Operating profit  255.4   248.3   561.9   7.2   2.9   (313.6)  (55.8)
% of net sales  2.69%  2.71%  6.55%                
Interest income  (8.8)  (7.0)  (9.0)  (1.8)  26.3   2.0   (22.2)
% of net sales  (0.09)%  (0.08)%  (0.10)%                
Interest expense  263.2   34.9   26.2   228.3   653.8   8.7   33.1 
% of net sales  2.78%  0.38%  0.31%                
Loss on interest rate swaps, net  2.4   -   -   2.4   100.0   -   - 
% of net sales  0.03%  -   -                 
Loss on debt retirements, net  1.2   -   -   1.2   100.0   -   - 
% of net sales  0.01%  -   -                 
Income (loss) before income taxes  (2.6)  220.4   544.6   (222.9)  (101.1)  (324.3)  (59.5)
% of net sales  (0.03)%  2.40%  6.35%                
Income taxes  10.2   82.4   194.5   (72.2)  (87.6)  (112.1)  (57.6)
% of net sales  0.11%  0.90%  2.27%                
Net income (loss) $(12.8) $137.9  $350.2  $(150.7)  (109.3)% $(212.2)  (60.6)%
(a)The amounts in the 2007 column represent the mathematical combination of the Predecessor through July 6, 2007 and Successor from July 7, 2007 through February 1, 2008 as included in the consolidated financial statements. These results also include the operations of Buck for the period prior to the Merger from March 6, 2007 (Buck’s date of formation) through July 6, 2007 (reflecting the change in fair value of interest rate swaps.) This presentation does not comply with generally accepted accounting principles, but we believe this combination provides a meaningful method of comparison.
(b)Includes the impacts of certain strategic initiatives as more fully described in the “Executive Overview” above.
(c)The fiscal year ended February 3, 2006 was comprised of 53 weeks.
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Net Sales.  Net sales increased $325.4 million, or 3.5%, in 2007, primarily representing a same-store sales increase of 2.1% for fiscal2007 compared to 2006.  Same-store sales include stores that have been open for 13 months and remain open at the end of the reporting period. The increase in same-store sales accounted for $185.6 million of the increase in sales. Sales resulting from new store growth, including 365 new stores in 2007, were partially offset by the impact of store closings in 2007 and 2006. Increased sales of highly consumables accounted for $294.8 million of our total sales increase, resulting from successful changes over the past year 2000,to our consumables merchandising mix. Sales of seasonal merchandise and apparel increased slightly and were partially offset by meansa decrease in home products sales. To some extent, sales in these more discretionary categories were impacted by our efforts to eliminate our packaway strategy by the end of its Form 10-K2007 and to reduce overall inventory levels. In addition, we believe sales of seasonal merchandise, apparel and home products were negatively affected by continued economic pressures on our customers, particularly in the fourth quarter. The increase in same-store sales represents an increase in average customer purchase, offset by a slight decrease in customer traffic.

Increases in 2006 net sales resulted primarily from opening additional stores, including 300 net new stores in 2006, and a same-store sales increase of 3.3% for 2006 compared to 2005. The increase in same-store sales accounted for $265.4 million of the fiscal year ended February 2, 2001, which was filed on January 14, 2002 (the “2001 Restatement”).

The SEC conducted an investigation intoincrease in sales, while new stores were the circumstances giving riseprimary contributors to the 2001 Restatement and, on January 8, 2004, the Company received noticeremaining $322.2 million sales increase during 2006. The increase in same-store sales is primarily attributable to an increase in average customer purchase. We also believe that the SEC staffstrategic merchandising and real estate initiatives discussed above in the “Executive Overview” had a positive impact on net sales in the fourth quarter. By merchandise category, our sales increase in 2006 compared to 2005 was considering recommendingprimarily attributable to the highly consumable category, which increased by $415.5 million, or 7.4%. An increase in sales of seasonal merchandise of $161.2 million, or 12.0%, also contributed to overall sales growth. We believe that our increased sales in 2006 were supported by additions to our product offerings and increased promotional activities, including the SEC bringuse of advertising circulars and clearance activities.


As discussed above, we monitor our sales internally by the following four major categories: highly consumable, seasonal, home products and basic clothing. The highly consumable category has a civil injunctive action againstlower gross profit rate than the Company for alleged violationsother three categories and has grown significantly over the past several years. We expect the move away from our packaway inventory strategy to have a positive impact on sales in our non-consumable merchandise categories. Because of the federal securities lawsimpact of sales mix on gross profit, we continually review our merchandise mix and strive to adjust it when appropriate. Maintaining an appropriate sales mix is an integral part of achieving our gross profit and sales goals.

Gross Profit.  The gross profit rate increased by 201 basis points in 2007 as compared with 2006 due to a number of factors, including: an increase in purchase markups, resulting primarily from a change in mix of items and higher vendor rebates; lower markdowns, including markdowns from retail and below cost markdowns (as discussed below, markdowns in 2006 included significant markdowns and below cost adjustments relating to the initial launch of Project Alpha); and improved leverage on distribution and transportation costs driven by
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logistics efficiencies.  Offsetting the factors listed above was an increase in our shrink rate in 2007 as compared to 2006.

The gross profit rate decline in 2006 as compared with 2005 was due primarily to a significant increase in markdown activity as a percentage of sales, including below-cost markdowns, as a result of our inventory liquidation and store closing initiatives. While we believe these initiatives had a positive impact on sales, they had a negative impact on our gross profit rate in 2006. In total, our gross profit rate declined by 289 basis points to 25.8% in 2006 compared to 28.7% in 2005. Significantly impacting our gross profit rate, as a result of the related effect on cost of goods sold, were total markdowns of $279.1 million at cost taken during 2006, compared with total markdowns of $106.5 million at cost taken in 2005. The 2006 markdowns reflect $179.9 million at cost taken during the fourth quarter of 2006 compared to $39.0 million markdowns at cost taken during the fourth quarter of 2005. Other factors included, but were not limited to: a decrease in the markups on purchases, primarily attributable to purchases of highly consumable products (including nationally branded products, which generally have lower average markups); and an increase in our shrink rate.

Selling, General and Administrative (“SG&A”) Expense.  SG&A expense increased $165.5 million, or 7.8%, in 2007 from the prior year, and increased as a percentage of sales to 24.1% in 2007 from 23.1% in 2006. SG&A in 2007 includes: $23.4 million related to amortization of leasehold intangibles capitalized in connection with circumstancesthe revaluation of assets at the date of the Merger; $27.2 million of accrued administrative employee incentive compensation expense resulting from meeting certain financial targets (compared to $9.6 million of discretionary bonuses in 2006); approximately $54 million of expenses relating to the 2001 Restatement.  closing of stores and the elimination of our packaway inventory strategy (compared to approximately $33 million in 2006) and an accrued loss of approximately $12.0 million relating to the probable restructuring of certain distribution center leases. In addition, SG&A in 2007 includes approximately $4.8 million of KKR-related consulting and monitoring fees. SG&A expense in 2006 was partially offset by insurance proceeds of $13.0 million received during the year related to losses incurred due to Hurricane Katrina.

The Company subsequently reachedincrease in SG&A expense as a percentage of sales in 2006 as compared with 2005 was due to a number of factors, including increases in the following expense categories:  impairment charges on leasehold improvements and store fixtures totaling $9.4 million, including $8.0 million related to the planned closings of approximately 400 underperforming stores, 128 of which closed in 2006 and the remainder of which closed in 2007, lease contract terminations totaling $5.7 million related to these stores; higher store occupancy costs (increased 12.1%) due to higher average monthly rentals associated with our leased store locations; higher debit and credit card fees (increased 40.6%) due to the increased customer usage of debit cards and the acceptance of VISA credit and check cards at all locations; higher administrative labor costs (increased 29.9%) primarily related to additions to our executive team, particularly in merchandising and real estate, and the expensing of stock options; higher advertising costs (increased 198.3%) related primarily to the distribution of several advertising circulars in the year and to promotional activities related to the inventory clearance and store closing activities discussed above; and higher incentive compensation primarily related to the $9.6 million discretionary bonus authorized by the Board of Directors for the 2006 fiscal year.  These
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increases were partially offset by insurance proceeds of $13.0 million received during the period related to losses incurred due to Hurricane Katrina, and depreciation and amortization expenses that remained relatively constant in fiscal 2006 as compared to fiscal 2005.

Transaction and Related Costs. The $102.6 million of expenses recorded in 2007 reflect $63.2 million of expenses related to the Merger, such as investment banking and legal fees as well as $39.4 million of compensation expense related to stock options, restricted stock and restricted stock units which were fully vested immediately prior to the Merger.

Interest Income.  Interest income in 2007 consists primarily of interest on short-term investments. The increase in 2007 from 2006 resulted from higher levels of cash and short term investments on hand, primarily in the first half of the year. The decrease in 2006 compared to 2005 was due primarily to the acquisition of the entity which held legal title to the South Boston distribution center in June 2006 and the related elimination of the note receivable which represented debt issued by this entity from which we formerly leased the South Boston distribution center.

Interest Expense. Interest expense increased by $228.3 million in 2007 as compared to 2006 due to interest on long-term obligations incurred to finance the Merger. See further discussion under “Liquidity and Capital Resources” below.  We had outstanding variable-rate debt of $787.0 million, after taking into consideration the impact of interest rate swaps, as of February 1, 2008. The remainder of our outstanding indebtedness at February 1, 2008 was fixed rate debt.

The increase in interest expense in 2006 was primarily attributable to increased interest expense of $6.5 million under a revolving credit agreement primarily due to increased borrowings, an agreementincrease in principletax-related interest of $4.1 million, offset by a reduction in interest expense associated with the SEC staff to settleelimination of a financing obligation on the matter.  Under the termsSouth Boston distribution center.

Loss on Interest Rate Swaps. During 2007, we recorded an unrealized loss of the agreement in principle, the Company, without admitting or denying the allegations in a complaint to be filed by the SEC, will consent$4.1 million related to the entrychange in the fair value of a permanent civil injunction against future violationsinterest swaps prior to the designation of such swaps as cash flow hedges in October 2007. This loss is offset by earnings of $1.7 million under the antifraud, books and records, reporting and internal controlcontractual provisions of the swap agreements.

Loss on Debt Retirements, Net. During 2007, we recorded $6.2 million of expenses related to consent fees and other costs associated with a tender offer for certain notes payable maturing in June 2010 (“2010 Notes”). Approximately 99% of the 2010 Notes were retired as a result of the tender offer. The costs related to the tender of the 2010 Notes were partially offset by a $4.9 million gain resulting from the repurchase of $25.0 million of our 11.875%/12.625% Senior Subordinated Notes, due July 15, 2017.

Income Taxes.  The effective income tax rates for the Successor period ended February 1, 2008, and the Predecessor periods ended July 6, 2007, 2006 and 2005 were a benefit of 26.9% and expense of 300.2%, 37.4% and 35.7%, respectively.

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The income tax rate for the Successor period ended February 1, 2008 is a benefit of 26.9%.  This benefit is less than the expected U.S. statutory rate of 35% due to the incurrence of state income taxes in several of the group’s subsidiaries that file their state income tax returns on a separate entity basis and the election to include, effective February 3, 2007, income tax related interest and penalties in the amount reported as income tax expense.
The income tax rate for the Predecessor period ended July 6, 2007 is an expense of 300.2%.  This expense is higher than the expected U.S. statutory rate of 35% due principally to the non-deductibility of certain acquisition related expenses.
The 2006 income tax rate was higher than the 2005 rate by 1.7%.  Factors contributing to this increase include additional expense related to the adoption of a new tax system in the State of Texas; a reduction in the contingent income tax reserve due to the resolution of contingent liabilities that is less than the decrease that occurred in 2005; an increase in the deferred tax valuation allowance; and an increase related to a non-recurring benefit recognized in 2005 related to an internal restructuring.  Offsetting these rate increases was a reduction in the income tax rate related to federal securities lawsincome tax credits.  Due to the reduction in our 2006 income before tax, a small increase in the amount of federal income tax credits earned yielded a much larger percentage reduction in the income tax rate for 2006 versus 2005.
Effects of Inflation

We believe that inflation and/or deflation had a minimal impact on our overall operations during 2007, 2006 and related SEC rules2005.

Liquidity and Capital Resources

Current Financial Condition / Recent Developments. During the past three years, we have generated an aggregate of approximately $1.4 billion in cash flows from operating activities. During that period, we expanded the number of stores we operate by approximately 12% (874 stores) and incurred approximately $685 million in capital expenditures. As noted above, we made certain strategic decisions which slowed our growth in 2007.

At February 1, 2008, we had total outstanding debt (including the current portion of long-term obligations) of $4.282 billion.  We also had an additional $769.2 million available for borrowing under our new senior secured asset-based revolving credit facility at that date.  Our liquidity needs are significant, primarily due to our debt service and other obligations.

Management believes our cash flow from operations and existing cash balances, combined with availability under the New Credit Facilities (described below), will provide sufficient liquidity to fund our current obligations, projected working capital requirements and capital spending for a period that includes the next twelve months.
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New Credit Facilities

Overview. On July 6, 2007, in connection with the Merger, we entered into two senior secured credit agreements, each with Goldman Sachs Credit Partners L.P., Citicorp Global Markets Inc., Lehman Brothers Inc. and Wachovia Capital Markets, LLC, each as joint lead arranger and joint bookrunner.  The CIT Group/Business Credit, Inc. is administrative agent under the senior secured credit agreement for the asset-based revolving credit facility and Citicorp North America, Inc. is administrative agent under the senior secured credit agreement for the term loan facility.

The New Credit Facilities provide financing of $3.425 billion, consisting of:

·  $2.3 billion in a senior secured term loan facility; and
·  a senior secured asset-based revolving credit facility of up to $1.125 billion (of which up to $350.0 million is available for letters of credit), subject to borrowing base availability.

The term loan credit facility consists of two tranches, one of which is a “first-loss” tranche, which, in certain circumstances, is subordinated in right of payment to the other tranche of the term loan credit facility.
We are the borrower under the term loan credit facility, the primary borrower under the asset-based credit facility and, in addition, certain subsidiaries of ours are designated as borrowers under this facility.  The asset-based credit facility includes borrowing capacity available for letters of credit and for short-term borrowings referred to as swingline loans.

The New Credit Facilities provide that we have the right at any time to request up to $325.0 million of incremental commitments under one or more incremental term loan facilities and/or asset-based revolving credit facilities. The lenders under these facilities are not under any obligation to provide any such incremental commitments and any such addition of or increase in commitments will be subject to our not exceeding certain senior secured leverage ratios and certain other customary conditions precedent.  Our ability to obtain extensions of credit under these incremental commitments will also be subject to the same conditions as extensions of credit under the New Credit Facilities.

The amount from time to time available under the senior secured asset-based credit facility (including in respect of letters of credit) shall not exceed the sum of the tranche A borrowing base and the tranche A-1 borrowing base. The tranche A borrowing base equals the sum of (i) 85% of the net orderly liquidation value of all our eligible inventory and that of each guarantor thereunder and (ii) 90% of all our accounts receivable and credit/debit card receivables and that of each guarantor thereunder, in each case, subject to a reserve equal to the principal amount of the 2010 Notes that remain outstanding at any time and other customary reserves and eligibility criteria. An additional 10% to 12% of the net orderly liquidation value of all our eligible inventory and that of each guarantor thereunder is made available to us in the form of a “last out” tranche in respect of which we may borrow up to a maximum amount of $125.0
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million. Borrowings under the asset-based credit facility will be incurred first under the last out tranche, and no borrowings will be permitted under any other tranche until the last out tranche is fully utilized. Repayments of the senior secured asset-based revolving credit facility will be applied to the last out tranche only after all other tranches have been fully paid down.

Interest Rate and Fees. Borrowings under the New Credit Facilities bear interest at a rate equal to an applicable margin plus, at our option, either (a) LIBOR or (b) a base rate (which is usually equal to the prime rate).  The applicable margin for borrowings is (i) under the term loan facility, 2.75% with respect to LIBOR borrowings and 1.75% with respect to base-rate borrowings and (ii) as of February 1, 2008 under the asset-based revolving credit facility (except in the last out tranche described above), 1.50% with respect to LIBOR borrowings and 0.50% with respect to base-rate borrowings and for any last out borrowings, 2.25% with respect to LIBOR borrowings and 1.25% with respect to base-rate borrowings.  The applicable margins for borrowings under the asset-based revolving credit facility (except in the case of last out borrowings) are subject to adjustment each quarter based on average daily excess availability under the asset-based revolving credit facility.

In addition to paying interest on outstanding principal under the New Credit Facilities, we are required to pay a $10 million no n-deductible civil penalty.commitment fee to the lenders under the asset-based revolving credit facility in respect of the unutilized commitments thereunder. At February 1, 2008 the commitment fee rate was 0.375% per annum. The Company is not entitled to seek reimbursement from its insurerscommitment fee rate will be reduced (except with regard to this settlement.

The Company has been informedthe last out tranche) to 0.25% per annum at any time that the SEC approvedunutilized commitments under the asset-based credit facility are equal to or less than 50% of the aggregate commitments under the asset-based revolving credit facility. We must also pay customary letter of credit fees.


Prepayments. The senior secured credit agreement for the term loan facility requires us to prepay outstanding term loans, subject to certain exceptions, with:

·  50% of our annual excess cash flow (as defined in the credit agreement) commencing with the fiscal year ending on or about January 31, 2008 (which percentage will be reduced to 25% and 0% if we achieve and maintain a total net leverage ratio of 6.0 to 1.0 and 5.0 to 1.0, respectively);
·  100% of the net cash proceeds of all non-ordinary course asset sales or other dispositions of property in excess of $25.0 million in the aggregate and subject to our right to reinvest the proceeds; and
·  100% of the net cash proceeds of any incurrence of debt, other than proceeds from debt permitted under the senior secured credit agreement.

The mandatory prepayments discussed above will be applied to the term loan facility as directed by the senior secured credit agreement.
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In addition, the senior secured credit agreement for the asset-based revolving credit facility requires us to prepay the asset-based revolving credit facility, subject to certain exceptions, with:

·  100% of the net cash proceeds of all non-ordinary course asset sales or other dispositions of revolving facility collateral (as defined below) in excess of $1.0 million in the aggregate and subject to our right to reinvest the proceeds; and
·  to the extent such extensions of credit exceed the then current borrowing base (as defined in the senior secured credit agreement for the asset-based revolving credit facility).

We may be obligated to pay a prepayment premium on the amount repaid under the term loan facility if the term loans are voluntarily repaid in whole or in part before July 6, 2009. We may voluntarily repay outstanding loans under the asset-based revolving credit facility at any time without premium or penalty, other than customary “breakage” costs with respect to LIBOR loans.
An event of default under the senior secured credit agreements will occur upon a change of control as defined in the senior secured credit agreements governing our New Credit Facilities.  Upon an event of default, indebtedness under the New Credit Facilities may be accelerated, in which case we will be required to repay all outstanding loans plus accrued and intendsunpaid interest and all other amounts outstanding under the New Credit Facilities.
Letters of Credit. $350.0 million of our asset-based revolving credit facility is available for letters of credit.

Amortization. Beginning September 30, 2009, we are required to file its Complaintrepay installments on the loans under the term loan credit facility in equal quarterly principal amounts in an aggregate amount per annum equal to 1% of the total funded principal amount at July 6, 2007, with the balance payable on July 6, 2014. There is no amortization under the asset-based revolving credit facility. The entire principal amounts (if any) outstanding under the asset-based revolving credit facility are due and payable in full at maturity, on July 6, 2013, on which day the commitments thereunder will terminate.

Guarantee and Security. All obligations under the New Credit Facilities are unconditionally guaranteed by substantially all of our existing and future domestic subsidiaries (excluding certain immaterial subsidiaries and certain subsidiaries designated by us under our senior secured credit agreements as “unrestricted subsidiaries”), referred to, collectively, as U.S. Guarantors.

All obligations and related guarantees under the term loan credit facility are secured by:

·  a second-priority security interest in all existing and after-acquired inventory, accounts receivable, and other assets arising from such inventory and accounts receivable, of the Company and each U.S. Guarantor (the “Revolving Facility Collateral”), subject to certain exceptions;
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·  a first priority security interest in, and mortgages on, substantially all of our and each U.S. Guarantor’s tangible and intangible assets (other than the Revolving Facility Collateral); and
·  a first-priority pledge of 100% of the capital stock held by the Company, or any of our domestic subsidiaries that are directly owned by us or one of the U.S. Guarantors and 65% of the voting capital stock of each of our existing and future foreign subsidiaries that are directly owned by us or one of the U.S. Guarantors.
All obligations and related guarantees under the asset-based credit facility are secured by the Revolving Facility Collateral, subject to certain exceptions.
Certain Covenants and Events of Default. The senior secured credit agreements contain a number of covenants that, among other things, restrict, subject to certain exceptions, our ability to:
·  incur additional indebtedness;
·  sell assets;
·  pay dividends and distributions or repurchase our capital stock;
·  make investments or acquisitions;

·  repay or repurchase subordinated indebtedness (including the senior subordinated notes discussed below) and the senior notes discussed below;
·  amend material agreements governing our subordinated indebtedness (including the senior subordinated notes discussed below) or our senior notes discussed below; and
·  change our lines of business.
The senior secured credit agreements also contain certain customary affirmative covenants and events of default.

At February 1, 2008, we had $102.5 million of borrowings, $28.8 million of commercial letters of credit, and $69.2 million of standby letters of credit outstanding under our asset-based revolving credit facility.

Senior Notes due 2015 and Senior Subordinated Toggle Notes due 2017

On July 6, 2007, we issued $1,175.0 million aggregate principal amount of 10.625% senior notes due 2015 (the “senior notes”) which mature on July 15, 2015 pursuant to an
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indenture, dated as of July 6, 2007 (the “senior indenture”), and $725 million aggregate principal amount of 11.875%/12.625% senior subordinated toggle notes due 2017 (the “senior subordinated notes”), which mature on July 15, 2017, pursuant to an indenture, dated as of July 6, 2007 (the “senior subordinated indenture”). The senior notes and the proposed Final Judgmentsenior subordinated notes are collectively referred to herein as the “notes.” The senior indenture and Consentthe senior subordinated indenture are collectively referred to herein as the “indentures.”
Interest on the notes is payable on January 15 and UndertakingsJuly 15 of Dollar General Corporation witheach year, commencing January 15, 2008. Interest on the United States District Courtsenior notes will be payable in cash. Cash interest on the senior subordinated notes will accrue at a rate of 11.875% per annum, and PIK interest (as that term is defined below) will accrue at a rate of 12.625% per annum. The initial interest payment on the senior subordinated notes will be payable in cash. For any interest period thereafter through July 15, 2011, we may elect to pay interest on the senior subordinated notes (i) in cash, (ii) by increasing the principal amount of the senior subordinated notes or issuing new senior subordinated notes (“PIK interest”) or (iii) by paying interest on half of the principal amount of the senior subordinated notes in cash interest and half in PIK interest. After July 15, 2011, all interest on the senior subordinated notes will be payable in cash.
The notes are fully and unconditionally guaranteed by each of the existing and future direct or indirect wholly owned domestic subsidiaries that guarantee the obligations under our New Credit Facilities.
We may redeem some or all of the notes at any time at redemption prices described or set forth in the indentures. We repurchased $25.0 million of the 11.875%/12.625% senior subordinated toggle notes in the fourth quarter of 2007.
Change of Control. Upon the occurrence of a change of control, which is defined in the indentures, each holder of the notes has the right to require us to repurchase some or all of such holder’s notes at a purchase price in cash equal to 101% of the principal amount thereof, plus accrued and unpaid interest, if any, to the repurchase date.

Covenants. The indentures contain covenants limiting, among other things, our ability and the ability of our restricted subsidiaries to (subject to certain exceptions):

·  incur additional debt, issue disqualified stock or issue certain preferred stock;
·  pay dividends on or make certain distributions and other restricted payments;
·  create certain liens or encumbrances;
·  sell assets;
·  enter into transactions with affiliates;
·  make payments to us;
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·  consolidate, merge, sell or otherwise dispose of all or substantially all of our assets; and
·  designate our subsidiaries as unrestricted subsidiaries.
Events of Default. The indentures also provide for events of default which, if any of them occurs, would permit or require the Middle Districtprincipal of Tennessee. Theand accrued interest on the notes to become or to be declared due and payable.

Registration Rights Agreement. On July 6, 2007, we entered into a registration rights agreement and order are subject to final approval by the Court. The Company accrued $10 million with respect to the penaltynotes.  In the registration rights agreement, we agreed to use commercially reasonable efforts to register with the SEC new senior notes having substantially identical terms as the senior notes and new senior subordinated notes having substantially identical terms as the senior subordinated notes.  We filed this registration statement with the SEC, and it was declared effective, in itsthe fourth quarter of fiscal 2007.  We subsequently commenced the offer to exchange the new senior notes and the new senior subordinated notes for each of the outstanding senior notes and the outstanding senior subordinated notes, respectively. The exchange offer expired on March 17, 2008.  All of the outstanding senior notes and senior subordinated notes were tendered in the exchange offer.
Adjusted EBITDA

Under the New Credit Facilities and the indentures, certain limitations and restrictions could occur if we are not able to satisfy and remain in compliance with specified financial statementsratios. Management believes the most significant of such ratios is the senior secured incurrence test under the New Credit Facilities.  This test measures the ratio of the senior secured debt to Adjusted EBITDA. This ratio would need to be no greater than 4.25 to 1 to avoid such limitations and restrictions. As of February 1, 2008, this ratio was 3.4 to 1. Senior secured debt is defined as our total debt secured by liens or similar encumbrances less cash and cash equivalents.  EBITDA is defined as income (loss) from continuing operations before cumulative effect of change in accounting principle plus interest and other financing costs, net, provision for income taxes, and depreciation and amortization. Adjusted EBITDA is defined as EBITDA, further adjusted to give effect to adjustments required in calculating this covenant ratio under our New Credit Facilities. EBITDA and Adjusted EBITDA are not presentations made in accordance with GAAP, are not measures of financial performance or condition, liquidity or profitability, and should not be considered as an alternative to (1) net income, operating income or any other performance measures determined in accordance with GAAP or (2) operating cash flows determined in accordance with GAAP. Additionally, EBITDA and Adjusted EBITDA are not intended to be measures of free cash flow for management’s discretionary use, as they do not consider certain cash requirements such as interest payments, tax payments and debt service requirements and replacements of fixed assets.

Our presentation of EBITDA and Adjusted EBITDA has limitations as an analytical tool, and should not be considered in isolation or as a substitute for analysis of our results as reported under GAAP. Because not all companies use identical calculations, these presentations of EBITDA and Adjusted EBITDA may not be comparable to other similarly titled measures of
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other companies. We believe that the year ended January 30, 2004,presentation of EBITDA and Adjusted EBITDA is appropriate to provide additional information about the calculation of this accrual remains outstandingfinancial ratio in the New Credit Facilities. Adjusted EBITDA is a material component of this ratio. Specifically, non-compliance with the senior secured indebtedness ratio contained in our New Credit Facilities could prohibit us from being able to incur additional secured indebtedness, other than the additional funding provided for under the senior secured credit agreement and pursuant to specified exceptions, to make investments, to incur liens and to make certain restricted payments.
The calculation of Adjusted EBITDA under the New Credit Facilities is as follows:

 
(In millions)
 
Year Ended February 1,
2008
 
    
Net income (loss) $(12.8)
Add (subtract):    
Interest income  (8.8)
Interest expense  263.2 
Depreciation and amortization  226.4 
Income taxes  10.2 
EBITDA  478.2 
     
Adjustments:    
Transaction and related costs  102.6 
Loss on debt retirements, net  1.2 
Loss on interest rate swaps  2.4 
Contingent loss on distribution center leases  12.0 
Impact of markdowns related to inventory clearance activities, including LCM adjustments, net of purchase accounting adjustments  5.7 
SG&A related to store closing and inventory clearance activities  54.0 
Operating losses (cash) of stores to be closed  10.5 
Monitoring and consulting fees to affiliates  4.8 
Stock option and restricted stock unit expense  6.5 
Indirect merger-related costs  4.6 
Other  1.0 
Total Adjustments  205.3 
     
Adjusted EBITDA $683.5 

Other Considerations

Our inventory balance represented approximately 44% of our total assets exclusive of goodwill and other intangible assets as of January 28, 2005.February 1, 2008. Our proficiency in managing our inventory balances can have a significant impact on our cash flows from operations during a given fiscal year. We have made more efficient inventory management a strategic priority, as more fully discussed in the “Executive Overview” above.
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During 2006 and 2005, the Predecessor’s Board of Directors authorized the repurchase of up to $500 million and 10 million shares, respectively, of the Predecessor’s outstanding common stock. These authorizations allowed purchases in the open market or in privately negotiated transactions from time to time, subject to market conditions. During 2006, we purchased approximately 4.5 million shares pursuant to the 2005 authorization at a total cost of $79.9 million. During 2005, we purchased approximately 15.0 million shares pursuant to the 2005 and a prior authorization at a total cost of $297.6 million.
We may seek, from time to time, to retire the notes (as defined above) through cash purchases on the open market, in privately negotiated transactions or otherwise. Such repurchases, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. The amounts involved may be material.

The following table summarizes our significant contractual obligations and commercial commitments as of February 1, 2008 (in thousands):

 Payments Due by Period
Contractual obligationsTotal < 1 yr 1-3 yrs 3-5 yrs> 5 yrs
Long-term debt obligations$4,293,718 $-  $36,223  $46,000 $4,211,495
Capital lease obligations 10,268  3,246   1,957   526  4,539
Interest (a) 2,817,237  382,587   762,872   756,070  915,708
Self-insurance liabilities (b) 203,600  68,613   89,815   26,612  18,560
Operating leases (c) 1,614,215  335,457   524,363   357,418  396,977
Monitoring agreement (d) 24,903  5,250   10,763   8,890  -
Subtotal
$8,963,941 $795,153  $1,425,993  $1,195,516 $5,547,279
                 
 Commitments Expiring by Period
Commercial commitments (e)
 Total  < 1 yr   1-3 yrs   3-5 yrs  > 5 yrs
Letters of credit$28,778 $28,778  $-  $- $-
Purchase obligations (f) 385,366  384,892   474   -  -
Subtotal
$414,144 $413,670  $474  $- $-
Total contractual obligations and commercial commitments$9,378,085 $1,208,823  $1,426,467  $1,195,516 $5,547,279

(a)Represents obligations for interest payments on long-term debt and capital lease obligations, and includes projected interest on variable rate long-term debt, based upon 2007 year end rates.
(b)We retain a significant portion of the risk for our workers’ compensation, employee health insurance, general liability, property loss and automobile insurance. As these obligations do not have scheduled maturities, these amounts represent undiscounted estimates based upon actuarial assumptions. Reserves for workers’ compensation and general liability which existed as of the Merger date were discounted in order to arrive at estimated fair value.  All other amounts are reflected on an undiscounted basis in our consolidated balance sheets.
(c) Operating lease obligations are inclusive of amounts included in deferred rent and closed store obligations in our consolidated balance sheets.
(d)We entered into a monitoring agreement, dated July 6, 2007, with affiliates of certain of our Investors pursuant to which those entities will provide management and advisory services.  Such agreement has no contractual term and for purposes of this schedule is presumed to be outstanding for a period of five years.
(e)Commercial commitments include information technology license and support agreements, supplies, fixtures, letters of credit for import merchandise, and other inventory purchase obligations.
(f)Purchase obligations include legally binding agreements for software licenses and support, supplies, fixtures, and merchandise purchases excluding such purchases subject to letters of credit.

In 2007 and 2006, our South Carolina-based wholly owned captive insurance subsidiary, Ashley River Insurance Company can give no assurances that(“ARIC”), had cash and cash equivalents and investments balances held pursuant to South Carolina regulatory requirements to maintain a specified percentage of ARIC’s liability and equity balances (primarily insurance liabilities) in the Court will approve this agreementform of certain specified types of assets and, order.  If the agreement and orderas such, these investments are not approved,available for general corporate purposes. At February 1, 2008, these cash and cash equivalents balances and investments balances were $11.9 million and $51.5 million, respectively.
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During 2005, we incurred significant losses caused by Hurricane Katrina, primarily inventory and fixed assets, in the Companyform of store fixtures and leasehold improvements. We reached final settlement of our related insurance claim in 2006 and received proceeds totaling $21.0 million due to these losses, including $13.0 million in 2006 and $8.0 million in 2005, and have utilized a portion of these proceeds to replace lost assets. Insurance proceeds related to fixed assets are included in cash flows from investing activities and proceeds related to inventory losses and business interruption are included in cash flows from operating activities.

Legal actions, claims and tax contingencies. As described in Note 7 to the Consolidated Financial Statements, we are involved in a number of legal actions and claims, some of which could be subject to different or additional penalties, both monetary and non-monetary, whichpotentially result in material cash payments.  Adverse developments in those actions could materially and adversely affect our liquidity.  As discussed in Note 5 we also have certain income tax-related contingencies as more fully described below under “Critical Accounting Policies and Estimates.” Future negative developments could have a material adverse effect on our liquidity.

Considerations regarding distribution center leases. The Merger and certain of the related financing transactions may be interpreted as giving rise to certain trigger events (which may include events of default) under our three distribution center leases. In that event, our additional cost of acquiring the underlying land and building assets could approximate $112 million.  At this time, we do not believe such issues would result in the purchase of these distribution centers; however, the payments associated with such an outcome would have a negative impact on our liquidity. To minimize the uncertainty associated with such possible interpretations, we are negotiating the restructuring of these leases and the related underlying debt. We have concluded that a probable loss exists in connection with the restructurings and have recorded associated SG&A expenses in the Successor financial statements for the period ended February 1, 2008 totaling $12.0 million. The ultimate resolution of these negotiations may result in changes in the amounts of such losses, which changes may be material.

Credit ratings.  On June 12, 2007 Standard & Poor’s revised our long-term debt rating to B, and left our long-term debt ratings on negative watch.  Moody’s revised our long-term debt rating to B3 with a stable outlook.  These current ratings are considered non-investment grade.  Our current credit ratings, as well as future rating agency actions, could (1) negatively impact our ability to obtain financings to finance our operations on satisfactory terms; (2) have the effect of increasing our financing costs; and (3) have the effect of increasing our insurance premiums and collateral requirements necessary for our self-insured programs.

Cash flows

The discussion of the cash flows from operating, investing and financing activities included below for 2007 is generally based on the combination of the Predecessor and Successor for the 52-week period ended February 1, 2008, which we believe provides a more meaningful understanding of our liquidity and capital resources for the time period presented.
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Cash flows from operating activities.  Cash flows from operating activities for 2007 compared to 2006 increased by $36.2 million, notwithstanding a decline in net income (loss) of $150.8 million, as described in detail under “Results of Operations” above, and which is partially attributable to $102.6 million of Transaction and related costs in 2007. Other significant components of the change in cash flows from operating activities in 2007 as compared to 2006 were changes in inventory balances, which decreased by approximately 10% during 2007 compared to a decrease of approximately 3% during 2006. Inventory levels in the seasonal category declined by $84.5 million, or 24%, in 2007 compared to a $6.7 million, or 2%, increase in 2006. The highly consumable category declined by $42.4 million, or 6%, in 2007 compared to a $63.2 million, or 10%, increase in 2006. The home products category increased by $3.5 million, or 2%, in 2007 as compared to a $52.5 million, or 25%, decline in 2006. The basic clothing category decreased by $20.3 million, or 9%, in 2007 as compared to a $59.5 million, or 21%, decrease in 2006. In addition to inventory changes the decline in net income was a principal factor in the reduction in income taxes paid in 2007 as compared to 2006. Also offsetting the decline in net income were changes in accrued expenses in 2007 as compared to 2006, which increased primarily due to income tax related reserves, accrued interest, incentive compensation accrual, the accrued loss in connection with the ongoing negotiations to restructure our distribution center leases, and accruals for lease liabilities on closed stores.

Cash flows from operating activities for 2006 compared to 2005 declined by $150.1 million. The most significant component of the decline in cash flows from operating activities in 2006 as compared to 2005 was the reduction in net income, as described in detail under “Results of Operations” above. Partially offsetting this decline are certain noncash charges included in net income, including below-cost markdowns on inventory balances and property and equipment impairment charges totaling $78.1 million, and a $13.8 million increase in noncash depreciation and amortization charges in 2006 as compared to 2005. In addition, the reduction in 2006 year end inventory balances reflect the effect of below-cost markdowns and our efforts to sell through excess inventories, as compared with increases in 2005 and 2004.  Seasonal inventory levels increased by 2% in 2006 as compared to a 10% increase in 2005, home products inventory levels declined by 25% in 2006 as compared to a 2% increase in 2005, while basic clothing inventory levels declined by 21% in 2006 as compared to a 5% decline in 2005. Total merchandise inventories at the end of 2006 were $1.43 billion compared to $1.47 billion at the end of 2005, a 2.9% decrease overall, and a 6.4% decrease on a per store basis, reflecting both our focus on liquidating packaway merchandise and the effect of below-cost markdowns.

Cash flows from investing activities. The Merger, as discussed in more detail above, required cash payments of approximately $6.7 billion, net of cash acquired of $350 million. Significant components of property and equipment purchases in 2007 included the following approximate amounts: $60 million for improvements, upgrades, remodels and relocations of existing stores; $45 million for new stores; and $30 million for distribution and transportation-related capital expenditures. During 2007, we opened 365 new stores and remodeled or relocated 300 stores.
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During 2007 we purchased a secured promissory note for $37.0 million which represents debt issued by a third-party entity from which we lease our distribution center in Ardmore, Oklahoma. Purchases and sales of short-term investments in 2007, which equaled net sales of $22.1 million, primarily reflect our investment activities in our captive insurance subsidiary, and all purchases of long-term investments are related to the captive insurance subsidiary.

Cash flows used in investing activities totaling $282.0 million in 2006 were primarily related to capital expenditures and, to a lesser degree, purchases of long-term investments. Significant components of our property and equipment purchases in 2006 included the following approximate amounts: $66 million for distribution and transportation-related capital expenditures (including approximately $30 million related to our distribution center in Marion, Indiana which opened in 2006); $66 million for new stores; $50 million for the EZstoreTM project; and $38 million for capital projects in existing stores. During 2006 we opened 537 new stores and remodeled or relocated 64 stores.

Purchases and sales of short-term investments in 2006, which equaled net sales of $1.9 million, reflect our investment activities in tax-exempt auction rate securities as well as investing activities of our captive insurance subsidiary. Purchases of long-term investments are related to the captive insurance subsidiary.

Significant components of our purchases of property and equipment in 2005 included the following approximate amounts: $102 million for distribution and transportation-related capital expenditures; $96 million for new stores; $47 million related to the EZstoreTM project; $18 million for certain fixtures in existing stores; and $15 million for various systems-related capital projects. During 2005, we opened 734 new stores and relocated or remodeled 82 stores. Distribution and transportation expenditures in 2005 included costs associated with the construction of our new distribution centers in South Carolina and Indiana.

Net sales of short-term investments in 2005 of $34.1 million primarily reflect our investment activities in tax-exempt auction rate securities. Purchases of long-term investments are related to our captive insurance subsidiary.

Capital expenditures during 2008 are projected to be approximately $200 to $220 million.  We anticipate funding 2008 capital requirements with cash flows from operations and our revolving credit facility, if necessary. Significant components of the 2008 capital plan include growth initiatives as well as continued investment in our existing store base, plans for remodeling and relocating approximately 400 stores, additional investments in our supply chain, and leasehold improvements and fixtures and equipment for approximately 200 new stores. We plan to undertake these expenditures in order to improve our infrastructure and enhance our cash generated from operating activities.
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Cash flows from financing activities.  To finance the Merger, we issued long-term debt of approximately $4.2 billion and issued common stock in the amount of approximately $2.8 billion. We incurred costs associated with the issuance of Merger-related long-term debt of $87.4 million. As discussed above, we completed a cash tender offer for our 2010 Notes. Approximately 99% of the 2010 Notes were validly tendered resulting in repayments of long-term debt and related consent fees in the amount of $215.6 million. Borrowings, net of repayments, under our new asset-based revolving credit facility in 2007 totaled $102.5 million.
Cash flows used in financing activities during 2006 included the repurchase of approximately 4.5 million shares of our common stock at a total cost of $79.9 million, cash dividends paid of $62.5 million, or $0.20 per share, on our outstanding common stock, and $14.1 million to reduce our outstanding capital lease and financing obligations. These uses of cash were partially offset by proceeds from the exercise of stock options during 2006 of $19.9 million.

During 2005, we repurchased approximately 15.0 million shares of our common stock at a total cost of $297.6 million, paid cash dividends of $56.2 million, or $0.175 per share, on our outstanding common stock, and expended $14.3 million to reduce our outstanding capital lease and financing obligations. Also in 2005, we received proceeds of $14.5 million from the issuance of a tax increment financing in conjunction with the construction of our new distribution center in Indiana and proceeds from the exercise of stock options of $29.4 million.

The borrowings and repayments under the revolving credit agreements in 2007, 2006 and 2005 were primarily a result of activity associated with periodic cash needs.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect reported amounts and related disclosures.  In addition to the estimates presented below, there are other items within our financial statements that require estimation, but are not deemed critical as defined below. We believe these estimates are reasonable and appropriate. However, if actual experience differs from the assumptions and other considerations used, the resulting changes could have a material effect on the financial statements taken as a whole.

Management believes the following policies and estimates are critical because they involve significant judgments, assumptions, and estimates. Management has discussed the development and selection of the critical accounting estimates with the Audit Committee of our Board of Directors, and the Audit Committee has reviewed the disclosures presented below relating to those policies and estimates.
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Merchandise Inventories. Merchandise inventories are stated at the lower of cost or market with cost determined using the retail last-in, first-out (“LIFO”) method. Under our retail inventory method (“RIM”), the calculation of gross profit and the resulting valuation of inventories at cost are computed by applying a calculated cost-to-retail inventory ratio to the retail value of sales. The RIM is an averaging method that has been widely used in the retail industry due to its practicality. Also, it is recognized that the use of the RIM will result in valuing inventories at the lower of cost or market (“LCM”) if markdowns are currently taken as a reduction of the retail value of inventories.

Inherent in the RIM calculation are certain significant management judgments and estimates including, among others, initial markups, markdowns, and shrinkage, which significantly impact the gross profit calculation as well as the ending inventory valuation at cost. These significant estimates, coupled with the fact that the RIM is an averaging process, can, under certain circumstances, produce distorted cost figures. Factors that can lead to distortion in the calculation of the inventory balance include:

·  applying the RIM to a group of products that is not fairly uniform in terms of its cost and selling price relationship and turnover;
·  applying the RIM to transactions over a period of time that include different rates of gross profit, such as those relating to seasonal merchandise;
·  inaccurate estimates of inventory shrinkage between the date of the last physical inventory at a store and the financial statement date; and
·  inaccurate estimates of LCM and/or LIFO reserves.

Factors that reduce potential distortion include the use of historical experience in estimating the shrink provision (see discussion below) and recent improvements in the LIFO analysis whereby all SKUs are considered in the index formulation. As part of this process we also perform an inventory-aging analysis for determining obsolete inventory. Our policy is to write down inventory to an LCM value based on various management assumptions including estimated markdowns and sales required to liquidate such aged inventory in future periods. Inventory is reviewed on a quarterly basis and adjusted as appropriate to reflect write-downs determined to be necessary.

Factors such as slower inventory turnover due to changes in competitors’ tactics, consumer preferences, consumer spending and unseasonable weather patterns, among other factors, could cause excess inventory requiring greater than estimated markdowns to entice consumer purchases, resulting in an unfavorable impact on our consolidated financial statements. Sales shortfalls due to the above factors could cause reduced purchases from vendors and associated vendor allowances that would also result in an unfavorable impact on our consolidated financial statements.

We calculate our shrink provision based on actual physical inventory results during the fiscal period and an accrual for estimated shrink occurring subsequent to a physical inventory through the end of the fiscal reporting period. This accrual is calculated as a percentage of sales at each retail store, at a department level, and is determined by dividing the book-to-physical inventory adjustments recorded during the previous twelve months by the related sales for the same period for each store. To the extent that subsequent physical inventories yield different results than this estimated accrual, our effective shrink rate for a given reporting period will include the impact of adjusting the estimated results to the actual results. Although we perform physical inventories in virtually all of our stores on an annual basis, the same stores do not necessarily get counted in the same reporting periods from year to year, which could impact comparability in a given reporting period.
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Goodwill and Indefinite-Lived Intangible Assets. Under SFAS 142, “Goodwill and Other Intangible Assets”, we are required to test goodwill and intangible assets with indefinite lives for impairment annually, or more frequently if impairment indicators occur. Significant judgments required in this testing process may include projecting future cash flows, determining appropriate discount rates and other assumptions. Projections are based on management’s best estimate given recent financial performance, market trends, strategic plans and other available information. Changes in these estimates and assumptions could materially affect the determination of fair value or impairment. Future indicators of impairment could result in an asset impairment charge.

Purchase Accounting. The Merger was accounted for as a reverse acquisition in accordance with the purchase accounting provisions of SFAS 141, “Business Combinations,” under which our assets and liabilities have been accounted for at their estimated fair values as of the date of the Merger. The aggregate purchase price was allocated to the tangible and intangible assets acquired and liabilities assumed, based upon an assessment of their relative fair values as of the date of the Merger. These estimates of fair values, the allocation of the purchase price and other factors related to the accounting for the Merger are subject to significant judgments and the use of estimates.

Property and Equipment. Property and equipment are recorded at cost. We group our assets into relatively homogeneous classes and generally provide for depreciation on a straight-line basis over the estimated average useful life of each asset class, except for leasehold improvements, which are amortized over the shorter of the applicable lease term or the estimated useful life of the asset. Certain store and warehouse fixtures, when fully depreciated, are removed from the cost and related accumulated depreciation and amortization accounts. The valuation and classification of these assets and the assignment of useful depreciable lives involves significant judgments and the use of estimates.

Impairment of Long-lived Assets. We review the carrying value of all long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. In accordance with Statement of Financial Accounting Standards (“SFAS”) 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” we review for impairment stores open more than two years for which current cash flows from operations are negative. Impairment results when the carrying value of the assets exceeds the undiscounted future cash flows over the life of the lease. Our estimate of undiscounted future cash flows over the lease term is based upon historical operations of the stores and estimates of future store profitability which encompasses many factors that are subject to variability and are difficult to predict. If a long-lived asset is found to be impaired, the amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The fair value is estimated based primarily upon future cash flows (discounted at our credit adjusted risk-free rate) or other reasonable estimates of fair market value.
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Insurance Liabilities. We retain a significant portion of the risk for our workers’ compensation, employee health insurance, general liability, property loss and automobile coverage. These costs are significant primarily due to the large employee base and number of stores. At the date of the Merger this liability was discounted in accordance with purchase accounting standards. Subsequent to the Merger, provisions are made to this insurance liability on an undiscounted basis based on actual claim data and estimates of incurred but not reported claims developed using actuarial methodologies based on historical claim trends. If future claim trends deviate from recent historical patterns, we may be required to record additional expenses or expense reductions, which could be material to our future financial results.

Contingent Liabilities – Income Taxes Income tax reserves are determined using the methodology established by the Financial Accounting Standards Board (“FASB”) Interpretation 48, Accounting for Uncertainty in Income Taxes – An Interpretation of FASB Statement 109 (“FIN 48”).  FIN 48, which we adopted on February 3, 2007, requires companies to assess each income tax position taken using a two step process.  A determination is first made as to whether it is more likely than not that the position will be sustained, based upon the technical merits, upon examination by the taxing authorities.  If the tax position is expected to meet the more likely than not criteria, the benefit recorded for the tax position equals the largest amount that is greater than 50% likely to be realized upon ultimate settlement of the respective tax position.  Uncertain tax positions require determinations and estimated liabilities to be made based on provisions of the tax law which may be subject to change or varying interpretation.  If our determinations and estimates prove to be inaccurate, the resulting adjustments could be material to our future financial results.

Contingent Liabilities - Legal Matters. We are subject to legal, regulatory and other proceedings and claims. We establish liabilities as appropriate for these claims and proceedings based upon the probability and estimability of losses and to fairly present, in conjunction with the disclosures of these matters in our financial statements and SEC filings, management’s view of our exposure. We review outstanding claims and proceedings with external counsel to assess probability and estimates of loss. We re-evaluate these assessments on a quarterly basis or as new and significant information becomes available to determine whether a liability should be established or if any existing liability should be adjusted. The actual cost of resolving a claim or proceeding ultimately may be substantially different than the amount of the recorded liability. In addition, because it is not permissible under GAAP to establish a litigation liability until the loss is both probable and estimable, in some cases there may be insufficient time to establish a liability prior to the actual incurrence of the loss (upon verdict and judgment at trial, for example, or in the case of a quickly negotiated settlement). See Note 7 to the Consolidated Financial Statements.

Lease Accounting and Excess Facilities. The majority of our stores are subject to short-term leases (usually with initial or primary terms of 3 to 5 years) with multiple renewal options
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when available. We also have stores subject to build-to-suit arrangements with landlords, which typically carry a primary lease term of 10 years with multiple renewal options. Approximately half of our stores have provisions for contingent rentals based upon a percentage of defined sales volume. We recognize contingent rental expense when the achievement of specified sales targets is considered probable. We recognize rent expense over the term of the lease. We record minimum rental expense on a straight-line basis over the base, non-cancelable lease term commencing on the date that we take physical possession of the property from the landlord, which normally includes a period prior to store opening to make necessary leasehold improvements and install store fixtures. When a lease contains a predetermined fixed escalation of the minimum rent, we recognize the related rent expense on a straight-line basis and record the difference between the recognized rental expense and the amounts payable under the lease as deferred rent. We also receive tenant allowances, which we record as deferred incentive rent and amortize as a reduction to rent expense over the term of the lease. We reflect as a liability any difference between the calculated expense and the amounts actually paid. Improvements of leased properties are amortized over the shorter of the life of the applicable lease term or the estimated useful life of the asset.

For store closures (excluding those associated with a business combination) where a lease obligation still exists, we record the estimated future liability associated with the rental obligation on the date the store is closed in accordance with SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities.” Based on an overall analysis of store performance and expected trends, management periodically evaluates the need to close underperforming stores. Liabilities are established at the point of closure for the present value of any remaining operating lease obligations, net of estimated sublease income, and at the communication date for severance and other exit costs, as prescribed by SFAS 146. Key assumptions in calculating the liability include the timeframe expected to terminate lease agreements, estimates related to the sublease potential of closed locations, and estimation of other related exit costs. If actual timing and potential termination costs or realization of sublease income differ from our estimates, the resulting liabilities could vary from recorded amounts. These liabilities are reviewed periodically and adjusted when necessary.

Share-Based Payments. Our share-based stock option awards are valued on an individual grant basis using the Black-Scholes-Merton closed form option pricing model. The application of this valuation model involves assumptions that are judgmental and highly sensitive in the valuation of stock options, which affects compensation expense related to these options. These assumptions include the term that the options are expected to be outstanding, an estimate of the volatility of our stock price (which is based on a peer group of publicly traded companies), applicable interest rates and the dividend yield of our stock. Other factors involving judgments that affect the expensing of share-based payments include estimated forfeiture rates of share-based awards. If our estimates differ materially from actual experience, we may be required to record additional expense or reductions of expense, which could be material to our future financial results.
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Adoption of Accounting Standard

We adopted the provisions of FIN 48 effective February 3, 2007.  The adoption resulted in an $8.9 million decrease in retained earnings and a reclassification of certain amounts between deferred income taxes and other noncurrent liabilities to conform to the balance sheet presentation requirements of FIN 48.  As of the date of adoption, the total reserve for uncertain tax benefits was $77.9 million.  This reserve excludes the federal income tax benefit for the uncertain tax positions related to state income taxes which is now included in deferred tax assets.  As a result of the adoption of FIN 48, the reserve for interest expense related to income taxes was increased to $15.3 million and a reserve for potential penalties of $1.9 million related to uncertain income tax positions was recorded.  As of the date of adoption, approximately $27.1 million of the reserve for uncertain tax positions would impact our effective income tax rate if we were to recognize the tax benefit for these positions.  After the Merger and the related application of purchase accounting, no portion of the reserve for uncertain tax positions that existed as of the date of adoption would impact our effective tax rate but would, if subsequently recognized, reduce the amount of goodwill recorded in relation to the Merger.

Subsequent to the adoption of FIN 48, we elected to record income tax related interest and penalties as a component of the provision for income tax expense.

Accounting Pronouncements

In March 2008, the FASB issued Statement of Financial Accounting Standards ("SFAS") No. 161, “Disclosures about Derivative Instruments and Hedging Activities”, an amendment of FASB Statement No. 133. SFAS 161 applies to all derivative instruments and nonderivative instruments that are designated and qualify as hedging instruments pursuant to paragraphs 37 and 42 of SFAS 133 and related hedged items accounted for under SFAS 133. SFAS 161 requires entities to provide greater transparency through additional disclosures about how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations, and how derivative instruments and related hedged items affect an entity’s financial position, results of operations, and cash flows. SFAS 161 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2008.  We currently plan to adopt SFAS 161 during our 2009 fiscal year.  No determination has yet been made regarding the potential impact of this standard on our financial statements.

In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations”. The new standard establishes the requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest (formerly minority interest) in an acquiree; provides updated requirements for recognition and measurement of goodwill acquired in the business combination or a gain from a bargain purchase; and provides updated disclosure requirements to enable users of financial statements to evaluate the nature and financial effects of the business combination. This Statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008. Early adoption is not allowed.  This standard is not expected to impact our financial statements unless a qualifying transaction is consummated subsequent to the effective date.
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In February 2007 the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities-Including an amendment of FASB Statement No. 115” (SFAS 159). SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value. It provides entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. SFAS 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007. We currently plan to adopt SFAS 159 during our 2008 fiscal year.  We are in the process of evaluating the potential impact of this standard on our consolidated financial statements.

In September 2006, the FASB issued SFAS 157, “Fair Value Measurements.” SFAS 157 provides guidance for using fair value to measure assets and liabilities. The standard also requires expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings. The standard applies whenever other standards require (or permit) assets or liabilities to be measured at fair value. The standard does not expand the use of fair value in any new circumstances. SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years. For non-financial assets and liabilities, the effective date has been delayed to fiscal years beginning after November 15, 2008. We currently expect to adopt SFAS 157 during our 2008 and 2009 fiscal years. We are in the process of evaluating the potential impact of this standard on our consolidated financial statements.
ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Financial Risk Management

We are exposed to market risk primarily from adverse changes in interest rates. To minimize this risk, we may periodically use financial instruments, including derivatives. As a matter of policy, we do not buy or sell financial instruments for speculative or trading purposes and all derivative financial instrument transactions must be authorized and executed pursuant to approval by the Board of Directors. All financial instrument positions taken by us are intended to be used to reduce risk by hedging an underlying economic exposure. Because of high correlation between the derivative financial instrument and the underlying exposure being hedged, fluctuations in the value of the financial instruments are generally offset by reciprocal changes in the value of the underlying economic exposure. The financial instruments we use are straightforward instruments with liquid markets.

Interest Rate Risk

We manage our interest rate risk through the strategic use of fixed and variable interest rate debt and, from time to time, derivative financial instruments. Our principal interest rate exposure relates to outstanding amounts under our New Credit Facilities. Our New Credit Facilities provide for variable rate borrowings of up to $3,425.0 million including availability of $1,125.0 million under our senior secured asset-based revolving credit facility, subject to the borrowing base.  In order to mitigate a portion of the variable rate interest exposure under the New Credit Facilities, we entered into interest rate swaps with affiliates of Goldman, Sachs & Co., Lehman Brothers Inc. and Wachovia Capital Markets, LLC. Pursuant to the swaps, which became effective on July 31, 2007, we swapped three month LIBOR rates for fixed interest rates which will result in the payment of a fixed rate of 7.68% on a notional amount of $2,000.0 million which will amortize on a quarterly basis until maturity at July 31, 2012. At February 1, 2008, the notional amount was $1,630.0 million.
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A change in interest rates on variable rate debt impacts our pre-tax earnings and cash flows; whereas a change in interest rates on fixed rate debt impacts the economic fair value of debt but not our pre-tax earnings and cash flows.  Our derivatives qualify for hedge accounting as cash flow hedges.  Therefore, changes in market fluctuations related to the effective portion of these cash flow hedges do not impact our pre-tax earnings until the accrued interest is recognized on the derivatives and the associated hedged debt.  Based on our outstanding debt as of February 1, 2008 and assuming that our mix of debt instruments, derivative instruments and other variables remain the same, the annualized effect of a one percentage point change in variable interest rates would have a pretax impact on our earnings and cash flows of approximately $7.9 million.

The interest rate swaps are accounted for in accordance with SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”, as amended and interpreted (collectively, “SFAS 133”).  SFAS 133 establishes accounting and reporting standards for derivative instruments and hedging activities. SFAS 133 requires that all derivatives be recognized as either assets or liabilities at fair value. Beginning October 12, 2007, we are accounting for the swaps described above as cash flow hedges and record the effective portion of changes in fair value of the swaps within accumulated other comprehensive income.

Subsequent to the 2007 fiscal year end, we entered into a $350.0 million step-down interest rate swap which became effective February 28, 2008 in order to mitigate an additional portion of the variable rate interest exposure under the New Credit Facilities.  We entered into the swap with Wachovia Capital Markets and we swapped one month LIBOR rates for fixed interest rates, which will result in the payment of a fixed rate of 5.58% on a notional amount of $350.0 million for the first year and $150.0 million for the second year.
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ITEM 8.  FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of
Dollar General Corporation

We have audited the accompanying consolidated balance sheets of Dollar General Corporation and subsidiaries as of February 1, 2008 (Successor) and February 2, 2007 (Predecessor), and the related consolidated statements of operations, shareholders' equity, and cash flows for the periods from March 6, 2007 to February 1, 2008 (Successor), February 3, 2007 to July 6, 2007 (Predecessor) and for the years ended February 2, 2007 and February 3, 2006 (Predecessor).  These financial statements are the responsibility of the Company's management.  Our responsibility is to express an opinion on these financial statements based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. We were not engaged to perform an audit of the Company's internal control over financial reporting. Our audits included consideration of internal control over financial reporting as a basis for designing audit procedures  that are appropriate in the circumstances, but not for the purpose of expressing an opinion on the effectiveness of the Company's internal control over financial reporting.  Accordingly, we express no such opinion. An audit also includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.

In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Dollar General Corporation and subsidiaries at February 1, 2008 (Successor) and February 2, 2007 (Predecessor), and the consolidated results of their operations and their cash flows for the periods from March 6, 2007 to February 1, 2008 (Successor), February 3, 2007 to July 6, 2007 (Predecessor) and for the years ended February 2, 2007 and February 3, 2006 (Predecessor), in conformity with U.S. generally accepted accounting principles.

As discussed in Notes 1 and 9 to the consolidated financial statements, effective February 4, 2006, the Company changed its method of accounting for stock-based compensation in connection with the adoption of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment”.

As discussed in Notes 1 and 5 to the consolidated financial statements, effective February 3, 2007, the Company changed its method of accounting for uncertain tax positions in connection with the adoption of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes”.
                                                                        /s/ Ernst & Young LLP

Nashville, Tennessee
March 25, 2008
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CONSOLIDATED BALANCE SHEETS
(In thousands except per share amounts)
  Successor  Predecessor 
  
February 1,
2008
  
February 2,
2007
 
       
ASSETS      
Current assets:      
Cash and cash equivalents $100,209  $189,288 
Short-term investments  19,611   29,950 
Merchandise inventories  1,288,661   1,432,336 
Income taxes receivable  32,501   9,833 
Deferred income taxes  17,297   24,321 
Prepaid expenses and other current assets  59,465   57,020 
Total current assets  1,517,744   1,742,748 
Net property and equipment  1,274,245   1,236,874 
Goodwill  4,344,930   2,337 
Intangible assets, net  1,370,557   86 
Other assets, net  148,955   58,469 
Total assets $8,656,431  $3,040,514 
         
LIABILITIES AND SHAREHOLDERS’ EQUITY        
Current liabilities:        
Current portion of long-term obligations $3,246  $8,080 
Accounts payable  551,040   555,274 
Accrued expenses and other  300,956   253,558 
Income taxes payable  2,999   15,959 
Total current liabilities  858,241   832,871 
Long-term obligations  4,278,756   261,958 
Deferred income taxes  486,725   41,597 
Other liabilities  319,714   158,341 
Commitments and contingencies        
Redeemable common stock  9,122   - 
Shareholders’ equity:        
Preferred stock, Shares authorized: 1,000,000  -     
Series B junior participating preferred stock, stated
value $0.50 per share; Shares authorized:
10,000; Issued: None
      - 
Common stock; $0.50 par value, 1,000,000 shares authorized,
555,482 shares issued and outstanding at February 1, 2008 and
500,000 shares authorized, 312,436 shares issued and
outstanding at February 2, 2007, respectively.
  277,741   156,218 
Additional paid-in capital  2,480,062   486,145 
Retained earnings (accumulated deficit)  (4,818)  1,103,951 
Accumulated other comprehensive loss  (49,112)  (987)
Other shareholders’ equity  -   420 
Total shareholders’ equity  2,703,873   1,745,747 
Total liabilities and shareholders’ equity $8,656,431  $3,040,514 
The accompanying notes are an integral part of the consolidated financial statements.
54
CONSOLIDATED STATEMENTS OF OPERATIONS
(In thousands)
  Successor  Predecessor 
        For the years ended 
   
July 7, 2007
through
February 1, 2008 (a)
  
February 3, 2007 through
July 6, 2007
   
February 2,
2007
  
February 3,
2006
 
  (30 weeks)  (22 weeks)  (52 weeks)  (53 weeks) 
             
             
Net sales $5,571,493  $3,923,753  $9,169,822  $8,582,237 
                 
Cost of goods sold  3,999,599   2,852,178   6,801,617   6,117,413 
                 
Gross profit ��1,571,894   1,071,575   2,368,205   2,464,824 
                 
Selling, general and administrative  1,324,508   960,930   2,119,929   1,902,957 
                 
Transaction and related costs  1,242   101,397   -   - 
                 
Operating profit  246,144   9,248   248,276   561,867 
                 
Interest income  (3,799)  (5,046)  (7,002)  (9,001)
                 
Interest expense  252,897   10,299   34,915   26,226 
                 
Loss on interest rate swaps  2,390   -   -   - 
                 
Loss on debt retirement, net  1,249   -   -   - 
                 
Income (loss) before income taxes  (6,593)  3,995   220,363   544,642 
                 
Income tax expense (benefit)  (1,775)  11,993   82,420   194,487 
                 
Net income (loss) $(4,818) $(7,998) $137,943  $350,155 
(a)Includes the results of operations of Buck Acquisition Corp. for the period prior to its merger with and into Dollar General Corporation from March 6, 2007 (its formation) through July 6, 2007 (reflecting the change in fair value of interest rate swaps), and the post-merger results of Dollar General Corporation for the period from July 7, 2007 through February 1, 2008.  See Notes 1 and 2.

The accompanying notes are an integral part of the consolidated financial statements.
55

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY
(In thousands except per share amounts)
  
Common
Stock
Shares
  
Common
Stock
  
Additional
Paid-in
Capital
  
Retained
Earnings
  
Accumulated
Other
Comprehensive
Loss
  
Other
Shareholders’
Equity
  Total 
Predecessor Balances, January 28, 2005  328,172  $164,086  $421,600  $1,102,457  $(973) $(2,705) $1,684,465 
Comprehensive income:                            
Net income  -   -   -   350,155   -   -   350,155 
Reclassification of net loss on derivatives  -   -   -   -   179   -   179 
Comprehensive income                          350,334 
Cash dividends, $0.175 per common share  -   -   -   (56,183)  -   -   (56,183)
Issuance of common stock under stock incentive plans  2,249   1,125   28,280   -   -   -   29,405 
Tax benefit from stock option exercises  -   -   6,457   -   -   -   6,457 
Repurchases of common stock  (14,977)  (7,489)  -   (290,113)  -   -   (297,602)
Sales of common stock by employee deferred compensation trust, net (42 shares)  -   -   95   -   -   788   883 
Issuance of restricted stock and restricted stock units, net  249   125   5,151   -   -   (5,276)  - 
Amortization of unearned compensation on restricted stock and restricted stock units  -   -   -   -   -   2,394   2,394 
Acceleration of vesting of stock options (see Note 9)  -   -   938   -   -   -   938 
Other equity transactions  (14)  (7)  (138)  (151)  -   -   (296)
Predecessor Balances, February 3, 2006  315,679  $157,840  $462,383  $1,106,165  $(794) $(4,799) $1,720,795 
Comprehensive income:                            
Net income  -   -   -   137,943   -   -   137,943 
Reclassification of net loss on derivatives  -   -   -   -   188   -   188 
Comprehensive income                          138,131 
Cash dividends, $0.20 per common share  -   -   -   (62,472)  -   -   (62,472)
Issuance of common stock under stock incentive plans  1,573   786   19,108   -   -   -   19,894 
Tax benefit from share-based payments  -   -   2,513   -   -   -   2,513 
Repurchases of common stock  (4,483)  (2,242)  -   (77,705)  -   -   (79,947)
Purchases of common stock by employee deferred compensation trust, net (3 shares)  -   -   (2)  -   -   40   38 
Reversal of unearned compensation upon adoption of SFAS 123(R) (see Note 9)  (364)  (182)  (4,997)  -   -   5,179   - 
Share-based compensation expense  -   -   7,578   -   -   -   7,578 
Vesting of restricted stock and restricted stock units  149   75   (75)  -   -   -   - 
Transition adjustment upon adoption of SFAS 158  -   -   -   -   (381)  -   (381)
Other equity transactions  (118)  (59)  (363)  20   -   -   (402)
Predecessor Balances, February 2, 2007  312,436  $156,218  $486,145  $1,103,951  $(987) $420  $1,745,747 
Adoption of FIN 48  -   -   -   (8,917)  -   -   (8,917)
Predecessor Balances as adjusted, February 2, 2007  312,436   156,218   486,145   1,095,034   (987)  420   1,736,830 
Comprehensive income:                            
Net loss  -   -   -   (7,998)  -   -   (7,998)
Reclassification of net loss on derivatives  -   -   -   -   76   -   76 
Comprehensive loss  -   -   -   -   -   -   (7,922)
Cash dividends, $0.05 per common share  -   -   -   (15,710)  -   -   (15,710)
Issuance of common stock under stock incentive plans  2,496   1,248   40,294   -   -   -   41,542 
Tax benefit from stock option exercises  -   -   3,927   -   -   -   3,927 
Share-based compensation expense  -   -   45,458   -   -   -   45,458 
Vesting of restricted stock and restricted stock units  126   63   (63)  -   -   -   - 
Other equity transactions  (28)  (13)  (580)  (48)  -   7   (634)
Elimination of Predecessor equity in connection with Merger (see Notes 1 and 2)  (315,030)  (157,516)  (575,181)  (1,071,278)  911   (427)  (1,803,491)
Predecessor Balances subsequent to Merger $-  $-  $-  $-  $-  $-  $- 
56
   
Common
Stock
Shares 
   
Common
Stock 
   
Additional
Paid-in
Capital 
   
Retained
Earnings 
   
Accumulated
Other
Comprehensive
Loss 
   
Other
Shareholders’
Equity 
   
Total 
 
Successor capital contribution, net  554,035   277,018   2,476,958   -   -   -   2,753,976 
Comprehensive loss:                            
Net loss  -   -   -   (4,818)  -   -   (4,818)
Unrealized net loss on hedged transactions  -   -   -   -   (49,112)  -   (49,112)
Comprehensive loss                          (53,930)
Issuance of common stock under stock incentive plans  574   287   (287)  -   -   -   - 
Issuance of restricted common stock under stock incentive plans  890   445   (445)  -   -   -   - 
Repurchases of common stock  (17)   (9)   9   -   -   -   - 
Share-based compensation expense  -   -   3,827   -   -   -   3,827 
Successor Balances, February 1, 2008  555,482  $277,741  $2,480,062  $(4,818) $(49,112)  -  $2,703,873 
The accompanying notes are an integral part of the consolidated financial statements.
57
CONSOLIDATED STATEMENTS OF CASH FLOWS
(In thousands)
  Successor  Predecessor 
  
July 7, 2007
through
February 1, 2008 (a)
  
February 3, 2007
through
July 6, 2007
  Year Ended February 2, 2007  Year Ended February 3, 2006 
  (30 weeks)  (22 weeks)  (52 weeks)  (53 weeks) 
             
Cash flows from operating activities:            
Net income (loss) $(4,818) $(7,998) $137,943  $350,155 
Adjustments to reconcile net income (loss) to net cash provided by operating activities:                
Depreciation and amortization  150,213   83,917   200,608   186,824 
Deferred income taxes  19,551   (20,874)  (38,218)  8,244 
Tax benefit from stock option exercises  -   (3,927)  (2,513)  6,457 
Loss on debt retirement, net  1,249   -   -   - 
Noncash share-based compensation  3,827   45,433   7,578   3,332 
Noncash unrealized loss on interest rate swap  3,705   -   -   - 
Noncash inventory adjustments and asset impairments  -   -   78,115   - 
Change in operating assets and liabilities:                
Merchandise inventories  79,469   16,424   (28,057)  (97,877)
Prepaid expenses and other current assets  3,739   (6,184)  (5,411)  (10,630)
Accounts payable  (41,395)  34,794   53,544   87,230 
Accrued expenses and other liabilities  16,061   52,995   38,353   40,376 
Income taxes  7,348   2,809   (35,165)  (26,017)
Other  655   4,557   (1,420)  7,391 
Net cash provided by operating activities  239,604   201,946   405,357   555,485 
Cash flows from investing activities:                
Merger, net of cash acquired  (6,738,391)  -   -   - 
Purchases of property and equipment  (83,641)  (56,153)  (261,515)  (284,112)
Purchases of short-term investments  (3,800)  (5,100)  (49,675)  (132,775)
Sales of short-term investments  21,445   9,505   51,525   166,850 
Purchases of long-term investments  (7,473)  (15,754)  (25,756)  (16,995)
Purchases of promissory notes  (37,047)  -   -   - 
Insurance proceeds related to property and equipment  -   -   1,807   1,210 
Proceeds from sale of property and equipment  533   620   1,650   1,419 
Net cash used in investing activities  (6,848,374)  (66,882)  (281,964)  (264,403)
Cash flows from financing activities:                
Issuance of common stock  2,759,540   -   -   - 
Borrowings under revolving credit facility  1,522,100   -   2,012,700   232,200 
Repayments of borrowings under revolving credit facility  (1,419,600)  -   (2,012,700)  (232,200)
Issuance of long-term obligations  4,176,817   -   -   14,495 
Repayments of long-term obligations  (241,945)  (4,500)  (14,118)  (14,310)
Debt issuance costs  (87,392)  -   -   - 
Payment of cash dividends  -   (15,710)  (62,472)  (56,183)
Proceeds from exercise of stock options  -   41,546   19,894   29,405 
Repurchases of common stock  (541)  -   (79,947)  (297,602)
Tax benefit of stock options  -   3,927   2,513   - 
Other financing activities  -   -   (584)  892 
Net cash provided by (used in) financing activities  6,708,979   25,263   (134,714)  (323,303)
Net increase (decrease) in cash and cash equivalents  100,209   160,327   (11,321)  (32,221)
Cash and cash equivalents, beginning of period  -   189,288   200,609   232,830 
Cash and cash equivalents, end of period $100,209  $349,615  $189,288  $200,609 
Supplemental cash flow information:                
Cash paid (received) for:                
Interest $226,738  $11,246  $24,180  $25,747 
Income taxes
 $(30,574) $26,012  $155,825  $205,802 
Supplemental schedule of noncash investing and financing activities:                
Purchases of property and equipment awaiting processing for payment, included in Accounts payable $20,449  $13,544  $18,094  $24,750 
Exchange of shares and stock options in business combination $7,685  $-  $-  $- 
Purchases of property and equipment under capital lease obligations $592  $1,036  $5,366  $7,197 
Elimination of financing obligations (See Note 7) $-  $-  $46,608  $- 
Elimination of promissory notes receivable (See Note 7) $-  $-  $46,608  $- 
(a)Includes the cash flows of Buck Acquisition Corp. for the period prior to its merger with and into Dollar General Corporation from March 6, 2007 (its formation) through July 6, 2007 (which were zero), and the post-merger results of Dollar General Corporation for the period from July 7, 2007 through February 1, 2008.  See Notes 1 and 2.
The accompanying notes are an integral part of the consolidated financial statements.
58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1.Basis of presentation and accounting policies
Basis of presentation

These notes contain references to the years 2008, 2007, 2006, and 2005, which represent fiscal years ending or ended January 30, 2009, February 1, 2008, February 2, 2007, and February 3, 2006, respectively. Fiscal 2008 will be, and each of fiscal years 2007 and 2006 were, a 52-week accounting period while fiscal 2005 was a 53-week accounting period. The Company’s fiscal year ends on the Friday closest to January 31. The consolidated financial statements include all subsidiaries of the Company, except for its not-for-profit subsidiary the assets and revenues of which are not material.  Intercompany transactions have been eliminated.

Dollar General Corporation (the “Company”) was acquired on July 6, 2007 through a Merger (as defined and discussed in greater detail in Note 2 below) accounted for as a reverse acquisition.  Although the Company continued as the same legal entity after the Merger, the accompanying consolidated financial statements are presented for the “Predecessor” and “Successor” relating to the periods preceding and succeeding the Merger, respectively.  As a result of the Company applying purchase accounting and a new basis of accounting beginning on July 7, 2007, the financial reporting periods presented are as follows:

·  The 2007 periods presented include the 22-week Predecessor period of the Company from February 3, 2007 to July 6, 2007 and the 30-week Successor period, reflecting the merger of the Company and Buck Acquisition Corp. (“Buck”) from July 7, 2007 to February 1, 2008.
·  Buck’s results of operations for the period from March 6, 2007 to July 6, 2007 (prior to the Merger on July 6, 2007) are also included in the consolidated financial statements for the Successor period described above as a result of certain derivative financial instruments entered into by Buck prior to the Merger, as further described below.  Other than these financial instruments, Buck had no assets, liabilities, or operations prior to the Merger.
·  The 2006 and 2005 periods presented reflect the Predecessor.  The consolidated financial statements for the Predecessor periods have been prepared using the Company’s historical basis of accounting.  As a result of purchase accounting, the pre-Merger and post-Merger consolidated financial statements are not comparable.

The Company leases three of its distribution centers (“DCs”) from lessors, which meet the definition of a Variable Interest Entity (“VIE”) as described by Financial Accounting Standards Board (“FASB”) Interpretation 46, “Consolidation of Variable Interest Entities” (“FIN 46”), as revised. One of these DCs has been recorded as a financing obligation whereby the property and equipment, along with the related lease obligations, are reflected in the consolidated balance sheets.  The land and buildings of the other two DCs have been recorded as operating leases in accordance with Statement of Financial Accounting Standards (“SFAS”) 13,
59
“Accounting for Leases.”  The Company is not the primary beneficiary of these VIEs and, accordingly, has not included these entities in its consolidated financial statements.

Business description

The Company sells general merchandise on a retail basis through 8,194 stores (as of February 1, 2008) located primarily in the southern, southwestern, midwestern and eastern United States.  The Company has DCs in Scottsville, Kentucky; Ardmore, Oklahoma; South Boston, Virginia; Indianola, Mississippi; Fulton, Missouri; Alachua, Florida; Zanesville, Ohio; Jonesville, South Carolina and Marion, Indiana.

The Company purchases its merchandise from a wide variety of suppliers. Approximately 12% of the Company’s purchases in 2007 were made from The Procter & Gamble Company. The Company’s next largest supplier accounted for approximately 6% of the Company’s purchases in 2007.

Cash and cash equivalents

Cash and cash equivalents include highly liquid investments with insignificant interest rate risk and original maturities of three months or less when purchased.  Such investments primarily consist of money market funds, certificates of deposit (which may include foreign time deposits), and commercial paper.  The carrying amounts of these items are a reasonable estimate of their fair value due to the short maturity of these investments. The Company held foreign time deposits of $5.2 million as of February 1, 2008.

Payments due from banks for third-party credit card, debit card and electronic benefit transactions classified as cash and cash equivalents totaled approximately $13.9 million and $11.6 million at February 1, 2008 and February 2, 2007, respectively.

The Company’s cash management system provides for daily investment of available balances and the funding of outstanding checks when presented for payment.  Outstanding but unpresented checks totaling approximately $107.9 million and $122.3 million at February 1, 2008 and February 2, 2007, respectively, have been included in Accounts payable in the consolidated balance sheets.  Upon presentation for payment, these checks are funded through available cash balances or the Company’s credit facilities.

The Company has certain cash and cash equivalents balances that, along with certain other assets, are being held as required by certain insurance-related regulatory requirements and are therefore not available for general corporate purposes, as further described below under “Investments in debt and equity securities.”

Investments in debt and equity securities

The Company accounts for its investment in debt and marketable equity securities in accordance with SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities,” and accordingly, classifies them as held-to-maturity, available-for-sale, or trading.  Debt
60
securities categorized as held-to-maturity are stated at amortized cost.  Debt and equity securities categorized as available-for-sale are stated at fair value, with any unrealized gains and losses, net of deferred income taxes, reported as a component of Accumulated other comprehensive loss.  Trading securities (primarily mutual funds held pursuant to deferred compensation and supplemental retirement plans, as further discussed in Note 8) are stated at fair value, with changes in fair value recorded in income as a component of Selling, general and administrative (“SG&A”) expense.

In general, the Company invests excess cash in shorter-dated, highly liquid investments such as money market funds, certificates of deposit, and commercial paper.  Such securities have been classified either as held-to-maturity or available-for-sale, depending on the type of securities purchased (debt versus equity) as well as the Company’s intentions with respect to the potential sale of such securities before their stated maturity dates.  Given the short maturities of such investments (except for those securities described in further detail below), the carrying amounts approximate the fair values of such securities.

In 2006 and prior years, the Company invested in tax-exempt auction rate securities, which are debt instruments having longer-dated (in some cases, many years) legal maturities, but with interest rates that are generally reset every 28-35 days under an auction system.  Because auction rate securities are frequently re-priced, they trade in the market like short-term investments.  As available-for-sale securities, these investments are carried at fair value, which approximates cost given that the average duration of such securities held by the Company is less than 40 days.  Despite the liquid nature of these investments, the Company categorizes them as short-term investments instead of cash and cash equivalents due to the underlying legal maturities of such securities.  However, they have been classified as current assets as they are generally available to support the Company’s current operations. There were no such investments outstanding as of February 1, 2008 or February 2, 2007.

In 2007 and 2006, the Company’s South Carolina-based wholly owned captive insurance subsidiary, Ashley River Insurance Company (“ARIC”), had investments in U.S. Government securities, obligations of Government Sponsored Enterprises, short- and long-term corporate obligations, and asset-backed obligations. These investments are held pursuant to South Carolina regulatory requirements to maintain certain asset balances in relation to ARIC’s liability and equity balances and, as such, these investments are not available for general corporate purposes. The composition of these required asset balances changes periodically. At February 1, 2008, the total of these balances was $63.4 million and is reflected in the Company’s consolidated balance sheet as follows: cash and cash equivalents of $11.9 million, short-term investments of $19.6 million and long-term investments included in other assets of $31.9 million.

Historical cost information pertaining to investments in mutual funds by participants in the Company’s supplemental retirement and compensation deferral plans classified as trading securities is not readily available to the Company.

61
On February 1, 2008 and February 2, 2007, held-to-maturity, available-for-sale and trading securities consisted of the following (in thousands):

Successor
February 1, 2008
 Cost Gross Unrealized 
Estimated
Fair Value
Gains Losses
Held-to-maturity securities                
Bank and corporate debt $24,254  $244  $107  $24,391 
U.S. Government securities  16,652   676   -   17,328 
Obligations of Government sponsored enterprises  9,834   40   -   9,874 
Asset-backed securities  1,815   21   5   1,831 
Other debt securities (see Note 7)  33,453   -   709   32,744 
   86,008   981   821   86,168 
                 
Trading securities                
Equity securities  15,066   -   -   15,066 
                 
Total debt and equity securities $101,074  $981  $821  $101,234 
                 

Predecessor
February 2, 2007
 Cost Gross Unrealized 
Estimated
Fair Value
Gains Losses
Held-to-maturity securities                
Bank and corporate debt $100,386  $2  $80  $100,308 
U.S. Government securities  17,026   1   29   16,998 
Obligations of Government sponsored enterprises  9,192   3   9   9,186 
Asset-backed securities  2,833   4   10   2,827 
   129,437   10   128   129,319 
                 
Available-for-sale securities                
Equity securities  13,512   -   -   13,512 
                 
Trading securities                
Equity securities  13,591   -   -   13,591 
                 
Total debt and equity securities $156,540  $10  $128  $156,422 
                 

On February 1, 2008 and February 2, 2007, these investments were included in the following accounts in the consolidated balance sheets (in thousands):

Successor
February 1, 2008
Held-to-
Maturity
Securities
 
Available-
for-Sale
Securities
 
Trading
Securities
Cash and cash equivalents$1,000  $-  $- 
Short-term investments 19,611   -   - 
Prepaid expenses and other current assets -   -   2,166 
Other assets, net 31,944   -   12,900 
Long-term obligations (see Note 7) 33,453   -   - 
 $86,008  $-  $15,066 

62
Predecessor
February 2, 2007
Held-to-
Maturity
Securities
 
Available-
for-Sale
Securities
 
Trading
Securities
Cash and cash equivalents$79,764  $13,512  $- 
Short-term investments 29,950   -   - 
Prepaid expenses and other current assets -   -   1,090 
Other assets, net 19,723   -   12,501 
 $129,437  $13,512  $13,591 

The contractual maturities of held-to-maturity securities as of February 1, 2008 were as follows (in thousands):
Successor Cost  Fair Value 
Less than one year $20,522  $20,614 
One to three years  31,021   31,790 
Greater than three years  34,465   33,764 
  $86,008  $86,168 
For the years ended February 1, 2008, February 2, 2007 and February 3, 2006, gross realized gains and losses on the sales of available-for-sale securities were not material.  The cost of securities sold is based upon the specific identification method.

Merchandise inventories

Inventories are stated at the lower of cost or market with cost determined using the retail last-in, first-out (“LIFO”) method. Under the Company’s retail inventory method (“RIM”), the calculation of gross profit and the resulting valuation of inventories at cost are computed by applying a calculated cost-to-retail inventory ratio to the retail value of sales.  The excess of current cost over LIFO cost was approximately $6.1 million at February 1, 2008 and $4.3 million at February 2, 2007. Current cost is determined using the retail first-in, first-out method.  The Company’s LIFO reserves were adjusted to zero at July 6, 2007 as a result of the Merger. The Successor recorded LIFO reserves of $6.1 million during 2007. LIFO reserves of the Predecessor decreased $1.5 million and $0.5 million in 2006 and 2005, respectively.  Costs directly associated with warehousing and distribution are capitalized into inventory.

In 2005, the Company expanded the number of inventory departments it utilizes for its gross profit calculation from 10 to 23. The impact of this change in estimate on the Company’s consolidated 2005 results of operations was an estimated reduction of gross profit and a corresponding decrease to inventory, at cost, of $5.2 million.

Store pre-opening costs

Pre-opening costs related to new store openings and the construction periods are expensed as incurred.
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Property and equipment

Property and equipment are recorded at cost.  The Company provides for depreciation and amortization on a straight-line basis over the following estimated useful lives:

Land improvements20
Buildings39-40
Furniture, fixtures and equipment3-10

Improvements of leased properties are amortized over the shorter of the life of the applicable lease term or the estimated useful life of the asset.

Impairment of long-lived assets

When indicators of impairment are present, the Company evaluates the carrying value of long-lived assets, other than goodwill, in relation to the operating performance and future cash flows or the appraised values of the underlying assets. In accordance with SFAS 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” the Company reviews for impairment stores open more than two years for which current cash flows from operations are negative. Impairment results when the carrying value of the assets exceeds the undiscounted future cash flows over the life of the lease. The Company’s estimate of undiscounted future cash flows over the lease term is based upon historical operations of the stores and estimates of future store profitability which encompasses many factors that are subject to variability and difficult to predict. If a long-lived asset is found to be impaired, the amount recognized for impairment is equal to the difference between the carrying value and the asset’s fair value. The fair value is estimated based primarily upon future cash flows (discounted at the Company’s credit adjusted risk-free rate) or other reasonable estimates of fair market value. Assets to be disposed of are adjusted to the fair value less the cost to sell if less than the book value.

The Company recorded impairment charges included in SG&A expense of approximately $0.2 million in the 2007 Predecessor period, $9.4 million in 2006 and $0.6 million in 2005 to reduce the carrying value of certain of its stores’ assets as deemed necessary due to negative sales trends and cash flows at these locations. The majority of the 2006 charges were recorded pursuant to certain strategic initiatives discussed in Note 3.

Goodwill and other intangible assets

The Company amortizes intangible assets over their estimated useful lives unless such lives are deemed indefinite. Amortizable intangible assets are tested for impairment based on undiscounted cash flows, and, if impaired, written down to fair value based on either discounted cash flows or appraised values. Intangible assets with indefinite lives are tested annually for impairment and written down to fair value as required. No impairment of intangible assets has been identified during any of the periods presented.
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Other assets

Other assets consist primarily of long-term investments, qualifying prepaid expenses, debt issuance costs which are amortized over the life of the related obligations, utility and security deposits and life insurance policies. Such debt issuance costs increased substantially subsequent to the Merger as further discussed in Notes 2 and 6.

Vendor rebates

The Company accounts for all cash consideration received from vendors in accordance with the provisions of Emerging Issues Task Force Issue (“EITF”) 02-16, “Accounting by a Customer (Including a Reseller) for Certain Consideration Received from a Vendor.” Cash consideration received from a vendor is generally presumed to be a rebate or an allowance and is accounted for as a reduction of merchandise purchase costs and recognized in the statement of operations at the time the goods are sold. However, certain specific, incremental and otherwise qualifying SG&A expenses related to the promotion or sale of vendor products may be offset by cash consideration received from vendors, in accordance with arrangements such as cooperative advertising, when earned for dollar amounts up to but not exceeding actual incremental costs. The Company recognizes amounts received for cooperative advertising on performance, “first showing” or distribution, consistent with its policy for advertising expense in accordance with the American Institute of Certified Public Accountants Statement of Position 93-7, “Reporting on Advertising Costs.”

Rent expense

Rent expense is recognized over the term of the lease.  The Company records minimum rental expense on a straight-line basis over the base, non-cancelable lease term commencing on the date that the Company takes physical possession of the property from the landlord, which normally includes a period prior to the store opening to make necessary leasehold improvements and install store fixtures.  When a lease contains a predetermined fixed escalation of the minimum rent, the Company recognizes the related rent expense on a straight-line basis and records the difference between the recognized rental expense and the amounts payable under the lease as deferred rent.  The Company also receives tenant allowances, which are recorded as deferred incentive rent and are amortized as a reduction to rent expense over the term of the lease.  Any difference between the calculated expense and the amounts actually paid are reflected as a liability, with the current portion in Accrued expenses and other and the long-term portion in Other liabilities in the consolidated balance sheets, and totaled approximately $3.7 million (after purchase accounting adjustment due to the Merger) and $30.4 million at February 1, 2008 and February 2, 2007, respectively.

The Company recognizes contingent rental expense when the achievement of specified sales targets are considered probable, in accordance with EITF Issue 98-9, “Accounting for Contingent Rent.” The amount expensed but not paid as of February 1, 2008 and February 2, 2007 was approximately $8.3 million and $8.6 million, respectively, and is included in Accrued expenses and other in the consolidated balance sheets (See Note 7).

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Generally, for store closures where a lease obligation still exists, the Company records the estimated future liability associated with the rental obligation on the date the store is closed in accordance with SFAS 146, “Accounting for Costs Associated with Exit or Disposal Activities.” The estimated future liability associated with the rental obligation for certain store closures associated with the Merger were based on EITF 95-3, “Recognition of Liabilities in Connection with a Purchase Business Combination.” In the normal course of business, based on an overall analysis of store performance and expected trends, management periodically evaluates the need to close underperforming stores. Liabilities are established at the point of closure for the present value of any remaining operating lease obligations, net of estimated sublease income, and at the communication date for severance and other exit costs, as prescribed by SFAS 146. Key assumptions in calculating the liability include the timeframe expected to terminate lease agreements, estimates related to the sublease potential of closed locations, and estimation of other related exit costs. Liabilities are reviewed periodically and adjusted when necessary.  The closed store liability balance at February 1, 2008 and February 2, 2007 was $20.2 million and $5.4 million, respectively.

Accrued expenses and other liabilities

Accrued expenses and other consist of the following:

(In thousands)
Successor
2007
 
Predecessor
2006
Compensation and benefits$60,720 $41,957 
Insurance 64,418  76,062 
Taxes (other than taxes on income) 55,990  50,502 
Other 119,828  85,037 
 $300,956 $253,558 

Other accrued expenses primarily include the current portion of liabilities for deferred rent, freight expense, contingent rent expense, interest, electricity, lease contract termination liabilities for closed stores, income tax related reserves, and common area maintenance charges.

Insurance liabilities

The Company retains a significant portion of risk for its workers’ compensation, employee health, general liability, property and automobile claim exposures.  Accordingly, provisions are made for the Company’s estimates of such risks.  The undiscounted future claim costs for the workers’ compensation, general liability, and health claim risks are derived using actuarial methods.  To the extent that subsequent claim costs vary from those estimates, future results of operations will be affected. Ashley River Insurance Company (or ARIC, as defined above), a South Carolina-based wholly owned captive insurance subsidiary of the Company, charges the operating subsidiary companies premiums to insure the retained workers’ compensation and non-property general liability exposures.  Pursuant to South Carolina insurance regulations, ARIC has cash and cash equivalents and investment balances that are not available for general corporate purposes, as further described above under “Investments in debt and equity securities.” ARIC currently insures no unrelated third-party risk.
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As a result of the Merger, the Company recorded its assumed self-insurance reserves as of the Merger date at their present value in accordance with SFAS 141, “Business Combinations”, using a discount rate of 5.4%. The balance of the resulting discount was $18.7 million at February 1, 2008. Other than for reserves assumed in a business combination, the Company’s policy is to record self-insurance reserves on an undiscounted basis.

Other liabilities

Other non-current liabilities consist of the following:

(In thousands)
Successor
2007
 
Predecessor
2006
Compensation and benefits$13,744 $15,344 
Insurance 123,276  107,476 
Income tax related reserves 78,277  - 
Derivatives 82,319  - 
Other 22,098  35,521
 $319,714 $158,341 

Other liabilities consist primarily of deferred rent, lease contract termination liabilities for closed stores, leasehold interests liabilities, and redeemable stock options.

Fair value of financial instruments

The carrying amounts reflected in the consolidated balance sheets for cash, cash equivalents, short-term investments, receivables and payables approximate their respective fair values.  At February 1, 2008, the fair value of the Company’s debt, excluding capital lease obligations, was approximately $3,782.6 million, or approximately $489.2 million less than the carrying values of the debt, compared to a fair value of $265.7 million at February 2, 2007, or approximately $14.0 million greater than the carrying value. The fair value (estimated market value) of the debt is based primarily on quoted prices for those or similar instruments.

The fair value of the Company’s derivatives reflects the estimated amounts that the Company would receive or pay to terminate these contracts at the reporting date based upon pricing or valuation models applied to current market information. Interest rate swaps are valued using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates derived from observed market interest rate curves.

Derivative financial instruments

The Company accounts for derivative financial instruments in accordance with SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities”, as amended and interpreted (collectively, “SFAS 133”). This literature requires the Company to recognize all derivative instruments on the balance sheet at fair value, and contains accounting rules for hedging instruments, which depend on the nature of the hedge relationship. All financial instrument positions taken by the Company are intended to be used to reduce risk by hedging an underlying economic exposure.
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The Company’s derivative financial instruments, in the form of interest rate swaps, are related to variable interest rate risk exposures associated with the Company’s long-term debt and were entered into in an attempt to manage that risk. The counterparties to the Company’s derivative agreements are all major international financial institutions. The Company continually monitors its position and the credit ratings of its counterparties and does not anticipate nonperformance by the counterparties. The Company does not offset fair value amounts of derivatives and associated cash collateral.

In April 2007, Buck entered into interest rate swaps, contingent upon the completion of the Merger, on a portion of the loans anticipated to result from the Merger.  The interest rate swaps result in the Company paying a fixed rate of 7.683% on a notional amount of $2.0 billion as of July 31, 2007, with the notional amount of these swaps amortizing on a quarterly basis through July 31, 2012.  Such notional amount was $1.6 billion as of February 1, 2008. The swaps were designated as cash flow hedges on October 12, 2007.  For the period prior to hedge designation, an unrealized loss of $3.7 million for the Successor period has been recognized in Loss on interest rate swaps in the consolidated statements of operations, reflecting the changes in fair value of the swaps prior to their designation as qualifying cash flow hedging relationships, which were offset by earnings under the contractual provisions of the swaps of $1.7 million during the same time period.

As of February 1, 2008, the fair value of the interest rate swaps of ($82.3) million was recorded in non-current Other liabilities on the consolidated balance sheet. From the date the swaps were designated as hedges, the effective portion of the change in fair value of the swaps of ($78.6) million was recorded in Other comprehensive income, a separate component of equity, offset by related income taxes of $29.5 million. The Company also recorded expense related to hedge ineffectiveness of $0.4 million during the Successor period ended February 1, 2008.

Share-based payments

Effective February 4, 2006, the Company adopted SFAS 123 (Revised 2004) “Share Based Payment” (“SFAS 123(R)”) and began recognizing compensation expense for share-based compensation based on the fair value of the awards on the grant date. SFAS 123(R) requires share-based compensation expense recognized since February 4, 2006 to be based on: (a) grant date fair value estimated in accordance with the original provisions of SFAS 123, “Accounting for Stock-Based Compensation,” for unvested options granted prior to the adoption date and (b) grant date fair value estimated in accordance with the provisions of SFAS 123(R) for unvested options granted after the adoption date. The Company adopted SFAS 123(R) under the modified-prospective-transition method and, therefore, results from prior periods have not been restated.

Prior to February 4, 2006, the Company accounted for share-based payments using the intrinsic-value-based recognition method prescribed by Accounting Principles Board Opinion 25, “Accounting for Stock Issued to Employees” (“APB 25”), and provided pro forma disclosures as permitted under SFAS 123. Because options were granted at an exercise price equal to the market price of the underlying common stock on the grant date, compensation cost related to stock options was generally not required to be recorded as a reduction to net income prior to the adoption of SFAS 123(R).
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Under SFAS 123(R), forfeitures are estimated at the time of valuation and reduce expense ratably over the vesting period. This estimate is adjusted periodically based on the extent to which actual forfeitures differ, or are expected to differ, from the prior estimate. The forfeiture rate is the estimated percentage of options granted that are expected to be forfeited or canceled before becoming fully vested. The Company bases this estimate on historical experience or estimates of future trends, as applicable. An increase in the forfeiture rate will decrease compensation expense. Under SFAS 123, the Company elected to account for forfeitures when awards were actually forfeited.

SFAS 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required prior to the adoption of SFAS 123(R).

The fair value of each option grant is separately estimated and amortized into compensation expense on a straight-line basis between the applicable grant date and each vesting date. The Company has estimated the fair value of all stock option awards as of the grant date by applying the Black-Scholes-Merton option pricing valuation model. The application of this valuation model involves assumptions that are judgmental and highly sensitive in the determination of compensation expense.

The Company also accounts for nonvested restricted stock awards in accordance with the provisions of SFAS 123(R). The Company calculates compensation expense as the difference between the market price of the underlying stock on the grant date and the purchase price, if any, and recognizes such amount on a straight-line basis over the period in which the recipient earns the nonvested restricted stock and restricted stock unit award. Under the provisions of SFAS 123(R), unearned compensation is not recorded within shareholders’ equity.

The Company has elected to determine its excess tax benefit pool upon adoption of SFAS 123(R) in accordance with the provisions of FASB Staff Position (“FSP”) 123(R)-3, “Transition Election Related to Accounting for the Tax Effects of Share-Based Payment Awards.” Under the provisions of this FSP, the cumulative benefit of stock option exercises included in additional paid-in capital for the periods after the effective date of SFAS 123 is reduced by the cumulative income tax effect of the pro forma stock option expense previously disclosed in accordance with the requirements of SFAS 123. (The provision of this FSP applied only to options that were fully vested before the date of adoption of SFAS 123(R). The amount of any excess tax benefit for options that are either granted after the adoption of SFAS 123(R) or are partially vested on the date of adoption were computed in accordance with the provisions of SFAS 123(R).) The amount of any excess deferred tax asset over the actual income tax benefit realized for options that are exercised after the adoption of SFAS 123(R) will be absorbed by the excess tax benefit pool. Income tax expense will be increased should the Company’s excess tax benefit pool be insufficient to absorb any future deferred tax asset amounts in excess of the actual tax benefit realized. The Company has determined that its excess tax benefit pool was approximately $68 million as of the adoption of SFAS 123(R) on February 4, 2006.  After the Merger and the related application of purchase accounting, the excess tax benefit pool has been reduced to zero.
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Revenue and gain recognition

The Company recognizes retail sales in its stores at the time the customer takes possession of merchandise.  All sales are net of discounts and estimated returns and are presented net of taxes assessed by governmental authorities that are imposed concurrent with those sales.  The liability for retail merchandise returns is based on the Company’s prior experience. The Company records gain contingencies when realized.

The Company began gift card sales in the third quarter of 2005.  The Company recognizes gift card sales revenue at the time of redemption.  The liability for the gift cards is established for the cash value at the time of purchase. The liability for outstanding gift cards was approximately $1.2 million and $0.8 million at February 1, 2008 and February 2, 2007, respectively, and is recorded in Accrued expenses and other. Through February 1, 2008, the Company has not recorded any breakage income related to its gift card program. The Company will continue to evaluate its current breakage policy as it continues to gain more sufficient company-specific customer experience.

Advertising costs

Advertising costs are expensed upon performance, “first showing” or distribution, and are reflected net of qualifying cooperative advertising funds provided by vendors in SG&A expenses. Advertising costs were $23.6 million $17.3 million, $45.0 million and $15.1 million in the 2007 Successor and Predecessor periods, 2006 and 2005, respectively.  These costs primarily include promotional circulars, targeted circulars supporting new stores, television and radio advertising, in-store signage, and costs associated with the sponsorship of a National Association for Stock Car Auto Racing team. Vendor funding for cooperative advertising offset reported expenses by $6.6 million, $2.0 million, $7.9 million and $0.8 million in the 2007 Successor and Predecessor periods, 2006 and 2005, respectively.

Capitalized interest

To assure that interest costs properly reflect only that portion relating to current operations, interest on borrowed funds during the construction of property and equipment is capitalized.  Interest costs capitalized were approximately $2.9 million and $3.3 million in 2006 and 2005, respectively.

Income taxes

The Company reports income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes” (“SFAS 109”).  Under SFAS 109, the asset and liability method is used for computing the future income tax consequences of events that have been recognized in the Company’s consolidated financial statements or income tax returns.  Deferred income tax expense or benefit is the net change during the year in the Company’s deferred income tax assets and liabilities.
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As discussed in Note 5, effective February 3, 2007 the Predecessor modified its method of accounting for income taxes in connection with the adoption of FASB Interpretation 48, Accounting for Uncertainty in Income Taxes – An Interpretation of FASB Statement 109 (“FIN 48”). The adoption resulted in an $8.9 million decrease in retained earnings and a reclassification of certain amounts between deferred income taxes and other noncurrent liabilities to conform to the balance sheet presentation requirements of FIN 48. As of the date of adoption, the total reserve for uncertain tax benefits was $77.9 million. This reserve excludes the federal income tax benefit for the uncertain tax positions related to state income taxes, which is now included in deferred tax assets. As a result of the adoption of FIN 48, the reserve for interest expense related to income taxes was increased to $15.3 million and a reserve for potential penalties of $1.9 million related to uncertain income tax positions was recorded. As of the date of adoption, approximately $27.1 million of the reserve for uncertain tax positions would impact the Company’s effective income tax rate if the Company were to recognize the tax benefit for these positions. After the Merger and the related application of purchase accounting, no portion of the reserve for uncertain tax positions that existed as of the date of adoption would impact our effective tax rate but would, if subsequently recognized, reduce the amount of goodwill recorded in relation to the Merger.

Subsequent to the adoption of FIN 48, the Company has elected to record income tax related interest and penalties as a component of the provision for income tax expense.

Income tax reserves are determined using the methodology established by FIN 48.  FIN 48 requires companies to assess each income tax position taken using a two step process.  A determination is first made as to whether it is more likely than not that the position will be sustained, based upon the technical merits, upon examination by the taxing authorities.  If the tax position is expected to meet the more likely than not criteria, the benefit recorded for the tax position equals the largest amount that is greater than 50% likely to be realized upon ultimate settlement of the respective tax position.  Uncertain tax positions require determinations and estimated liabilities to be made based on provisions of the tax law which may be subject to change or varying interpretation.  If the Company's determinations and estimates prove to be inaccurate, the resulting adjustments could be material to the Company’s future financial results.

Management estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods.  Actual results could differ from those estimates.
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Accounting pronouncements

In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities”, an amendment of FASB Statement No. 133. SFAS 161 applies to all derivative instruments and nonderivative instruments that are designated and qualify as hedging instruments pursuant to paragraphs 37 and 42 of SFAS 133 and related hedged items accounted for under SFAS 133. SFAS 161 requires entities to provide greater transparency through additional disclosures about how and why an entity uses derivative instruments, how derivative instruments and related hedged items are accounted for under SFAS 133 and its related interpretations, and how derivative instruments and related hedged items affect an entity’s financial position, results of operations, and cash flows. SFAS 161 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2008.  The Company currently plans to adopt SFAS 161 during its 2009 fiscal year.  No determination has yet been made regarding the potential impact of this standard on the Company’s financial statements.

In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations”.  The new standard establishes the requirements for how an acquirer recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest (formerly minority interest) in an acquiree; provides updated requirements for recognition and measurement of goodwill acquired in a business combination or a gain from a bargain purchase; and provides updated disclosure requirements to enable users of financial statements to evaluate the nature and financial effects of the business combination.  This Statement applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning on or after December 15, 2008.  Early adoption is not allowed. This standard is not expected to impact the Company’s financial statements unless a qualifying transaction is consummated subsequent to the effective date.

In February 2007, the FASB issued SFAS 159, “The Fair Value Option for Financial Assets and Financial Liabilities – Including an amendment of FASB Statement No. 115” (“SFAS 159”).  SFAS 159 permits entities to choose to measure many financial instruments and certain other items at fair value.  It provides entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions.  SFAS 159 is effective as of the beginning of an entity’s first fiscal year that begins after November 15, 2007.  The Company currently plans to adopt SFAS 159 during its 2008 fiscal year.  The Company is in the process of evaluating the potential impact of this standard on its financial statements.

In September 2006, the FASB issued SFAS 157, “Fair Value Measurements” (“SFAS 157”).  SFAS 157 provides guidance for using fair value to measure assets and liabilities.  The standard also requires expanded information about the extent to which companies measure assets and liabilities at fair value, the information used to measure fair value, and the effect of fair value measurements on earnings.  The standard applies whenever other standards require (or permit) assets or liabilities to be measured at fair value.  The standard does not expand the use of fair value in any new circumstances for financial assets and liabilities.  SFAS 157 is effective for financial statements issued for fiscal years beginning after November 15, 2007, and interim periods within those fiscal years.  For non-financial assets and liabilities, the effective date has been delayed to fiscal years beginning after November 15, 2008.  The Company currently plans to adopt SFAS 157 during its 2008 and 2009 fiscal years as appropriate. The Company is in the process of evaluating the potential impact of this standard on its financial statements.
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Reclassifications

Certain reclassifications of the 2006 amounts have been made to conform to the 2007 presentation.
2. Merger
On March 11, 2007, the Company entered into an Agreement and Plan of Merger (the “Merger Agreement”) with Buck Holdings L.P., a Delaware limited partnership (“Parent”), and Buck, a Tennessee corporation and wholly owned subsidiary of Parent.  Parent is and Buck was (prior to the Merger) controlled by investment funds affiliated with Kohlberg Kravis Roberts & Co., L.P. (“KKR”).  On July 6, 2007, the transaction was consummated through a merger (the “Merger”) of Buck with and into the Company. The Company survived the Merger as a whole.  

subsidiary of Parent.  The Company’s results of operations after July 6, 2007 include the effects of the Merger.


The aggregate purchase price was approximately $7.1 billion, including direct costs of the Merger, and was funded primarily through debt financings as described more fully below in Note 6 and cash equity contributions from KKR, GS Capital Partners VI Fund, L.P. and affiliated funds (affiliates of Goldman, Sachs & Co.), Citi Private Equity, Wellington Management Company, LLP, CPP Investment Board (USRE II) Inc., and other equity co-investors (collectively, the “Investors”) of approximately $2.8 billion (553.4 million shares of new common stock, $0.50 par value per share, valued at $5.00 per share).  Also in connection with the Merger, certain of the Company’s management employees invested, and were issued new shares representing less than 1% of the outstanding shares, in the Company.  Pursuant to the terms of the Merger Agreement, the former holders of the Company’s common stock, par value $0.50 per share, received $22.00 per share, or approximately $6.9 billion, and all such shares were acquired as a result of the Merger. As of February 1, 2008, there were approximately 555,481,897 shares of Company common stock outstanding, a portion of which is redeemable as further discussed below in Note 9.

As discussed in Note 1, the Merger was accounted for as a reverse acquisition in accordance with the purchase accounting provisions of SFAS 141, “Business Combinations”.  Because of this accounting treatment, the Company’s assets and liabilities have properly been accounted for at their estimated fair values as of the Merger date.  The aggregate purchase price has been allocated to the tangible and intangible assets acquired and liabilities assumed based upon an assessment of their relative fair values as of the Merger date.

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The allocation of the purchase price is as follows (in thousands):

Cash and cash equivalents$349,615 
Short-term investments30,906 
Merchandise inventories1,368,130 
Income taxes receivable36,934 
Deferred income taxes57,176 
Prepaid expenses and other current assets63,204 
Property and equipment, net1,301,119 
Goodwill4,344,930 
Intangible assets1,396,612 
Other assets, net66,537 
Current portion of long-term obligations(7,088)
Accounts payable(585,518)
Accrued expenses and other(306,394)
Income taxes payable(84)
Long-term obligations(267,927)
Deferred income taxes(536,555)
Other liabilities(215,906)
Total purchase price assigned$7,095,691 

The purchase price allocation as of February 1, 2008 included approximately $4.34 billion of goodwill, none of which is expected to be deductible for tax purposes.  The goodwill balance at February 1, 2008 increased by $21.3 million over the balance reported at August 3, 2007, representing a refinement of the purchase price allocation related to the Merger.  The February 1, 2008 purchase price allocation also included approximately $1.4 billion of other intangible assets, as follows:

 As of February 1, 2008
(In thousands)
Estimated
Useful Life
  
Gross
Carrying
Amount
  
Accumulated
Amortization
  Net
Leasehold interests2 to 17.5 years $185,112 $23,663 $161,449
Internally developed software3 years  12,300  2,392  9,908
    197,412  26,055  171,357
Trade names and trademarksIndefinite  1,199,200  -  1,199,200
   $1,396,612 $26,055 $1,370,557

The Company recorded amortization expense related to amortizable intangible assets for the year-to-date Successor period ended February 1, 2008 of $26.1 million ($23.7 million of which is included in rent expense).  Amortizable intangible assets will be amortized over a weighted average period of 5.4 years.

For intangible assets subject to amortization, the estimated aggregate amortization expense for each of the five succeeding fiscal years is as follows: 2008 - $44.7 million, 2009 - $41.2 million, 2010 - $27.3 million, 2011 - $21.0 million, 2012 - - $17.1 million.

Fees and expenses related to the Merger totaled $102.6 million, principally consisting of investment banking fees, legal fees and stock compensation ($39.4 million as further discussed in Note 9), and are reflected in the 2007 results of operations.  Capitalized debt issuance costs, related to financing the Merger of $87.4 million as of the Merger date are reflected in other long-term assets in the consolidated balance sheet.

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The following represents the unaudited pro forma results of our consolidated operations as if the Merger had occurred on February 4, 2006, after giving effect to certain adjustments, including the depreciation and amortization of the assets acquired based on their estimated fair values and changes in interest expense resulting from changes in consolidated debt (in thousands):

(In thousands)
Year Ended
February 1,
2008
 
Year ended
February 2,
2007
Revenue$9,495,246  $9,169,822 
Net loss (57,939)  
(156,188)

The pro forma information does not purport to be indicative of what the Company's results of operations would have been if the acquisition had in fact occurred at the beginning of the periods presented, and is not intended to be a projection of the Company's future results of operations.

Subsequent to the announcement of the Merger Agreement, the Company and its directors, along with other parties, were named in seven putative class actions filed in Tennessee state courts alleging claims for breach of fiduciary duty arising out of the proposed Merger, all as described more fully under “Legal Proceedings” in Note 7 below.

3. Strategic initiatives
During 2006, the Company began implementing certain strategic initiatives related to its historical inventory management and real estate strategies, as more fully described below.

Inventory management

In November 2006, the Company undertook an initiative to discontinue its historical inventory packaway model for virtually all merchandise by the end of fiscal 2007. Under the packaway model, unsold inventory items were stored on-site and returned to the sales floor to be sold year after year, until the items were eventually sold, damaged or discarded. Through end-of-season and other markdowns, this initiative resulted in the elimination of seasonal, home products and basic clothing packaway merchandise to allow for increased levels of newer, current-season merchandise.  In connection with this strategic change, in the third quarter of 2006 the Company recorded a reserve for lower of cost or market inventory impairment estimates of $63.5 million and incurred higher markdowns and writedowns on inventory in the second half of 2006 and in 2007 than in comparable prior-year periods.  As a result of the Merger and in accordance with SFAS 141, the Company’s inventory balances, including the inventory associated with this strategic change, were adjusted to fair value and the related reserve was eliminated.
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Exit and disposal activities

In November 2006, the Company decided to close, in addition to those stores that might be closed in the ordinary course of business, approximately 400 stores by the end of fiscal 2007, all of which have been closed as of February 1, 2008.  Additionally, in connection with the Merger, management approved and completed a plan to close an additional 60 stores prior to February 1, 2008.  The Company has recorded the following pre-tax costs associated with the closing of these approximately 460 stores (in millions):

 Total (a)
Incurred in
2006
Incurred in
2007
Merger
Additions (b)
Remaining
Lease contract termination costs (c)$34.3 $5.7 $16.3 $12.3 $- 
One-time employee termination benefits 1.0  0.3  0.5  0.2  - 
Other associated store closing costs 8.6  0.2  7.2  1.2  - 
Inventory liquidation fees 4.4  1.6  2.8  -  - 
Asset impairment & accelerated depreciation 12.8  8.3  3.6  0.9  - 
Inventory markdowns below cost 8.3  6.7  0.9  0.7  - 
Total$69.4 $22.8 $31.3 $15.3 $- 

(a)Reflects totals as of February 1, 2008, which, in total, are $1.5 million less than estimates as of November 2, 2007.
(b)These amounts were recorded as assumed liabilities in connection with the Merger.
(c)Including reversals of deferred rent accruals totaling $0.5 million, of which $0.1 million is reflected in 2006, and $0.4 million is reflected in 2007.  Excludes accretion expense to be incurred in future periods.

Other Litigation

associated store closing costs as listed in the table above primarily include the removal of any usable assets as well as real estate consulting and other services.


Liability balances related to exit activities discussed above are as follows (in millions):

 
Balance,
February 2,
2007
2007
Expenses (a)
2007 Payments
and Other
Merger
Additions (b)
Balance,
February 1,
2008
Lease contract termination costs$5.0 $16.9 $14.1 $12.3 $20.1 
One-time employee termination benefits 0.3  0.5  1.0  0.2  - 
Other associated store closing costs (c) 0.2  7.2  7.6  1.2  1.0 
Inventory liquidation fees 0.3  2.8  3.1  -  - 
Total$5.8 $27.4 $25.8 $13.7 $21.1 

(a)2007 expenses associated with exit and disposal activities are included in selling, general and administrative (“SG&A”) expenses in the consolidated statement of operations.
(b)These amounts were recorded as assumed liabilities in connection with the Merger.
(c)Primarily represents store closing costs including removal of store fixtures.

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4.  Property and equipment

Property and equipment is recorded at cost and summarized as follows:

(In thousands)
Successor
2007
 
Predecessor
2006
Land and land improvements$137,539 $147,447 
Buildings 516,482  437,368 
Leasehold improvements 87,343  212,078 
Furniture, fixtures and equipment 645,376  1,617,163 
Construction in progress 2,823  16,755 
  1,389,563  2,430,811 
Less accumulated depreciation and amortization 115,318  1,193,937 
Net property and equipment$1,274,245 $1,236,874 

Depreciation expense related to property and equipment was approximately $116.9 million for the Successor period from July 7, 2007 through February 1, 2008 compared to $83.5 million for the February 3, 2007 through July 6, 2007 Predecessor period, $199.6 million for 2006 and $186.1 million for 2005.  Amortization of capital lease assets is included in depreciation expense.
5.  Income taxes
The provision (benefit) for income taxes consists of the following:

  
Successor
  
Predecessor
 
(In thousands)
 
July 7, 2007
to
February 1, 2008
  
February 3, 2007
to
July 6, 2007
  
2006
  
2005
 
Current:            
Federal $(25,726) $31,114  $101,919  $175,344 
Foreign  409   495   1,200   1,205 
State  4,306   1,258   17,519   9,694 
   (21,011)  32,867   120,638   186,243 
Deferred:                
Federal  22,157   (18,750)  (34,807)  8,479 
Foreign  -   -   13   17 
State  (2,921)  (2,124)  (3,424)  (252)
   19,236   (20,874)  (38,218)  8,244 
  $(1,775) $11,993  $82,420  $194,487 

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A reconciliation between actual income taxes and amounts computed by applying the federal statutory rate to income before income taxes is summarized as follows:

  Successor  Predecessor 
(Dollars in
thousands)
 
July 7, 2007
to February 1, 2008
  
February 3, 2007
to July 6, 2007
  2006  2005 
U.S. federal statutory rate
on earnings before
income taxes
 $(2,308)  35.0% $1,399   35.0% $77,127   35.0% $190,625   35.0%
State income taxes, net of federal income tax benefit  904   (13.7)  (1,135)   (28.4)   5,855   2.7   6,223   1.1 
Jobs credits, net of federal income taxes  (3,022)  45.8   (2,227)  (55.7)  (5,008)  (2.3)  (4,503)  (0.8)
Increase (decrease) in valuation allowances  -   -   551   13.8   3,211   1.5   (88)  (0.0)
Income tax related interest expense, net of federal income tax benefit  2,738   (41.5)  (172)  (4.3)  -   -   -   - 
Nondeductible transaction costs  -   -   13,501   337.9   -   -   -   - 
Other, net  (87)  1.3   76   1.9   1,235   0.5   2,230   0.4 
  $(1,775)  26.9% $11,993   300.2% $82,420   37.4% $194,487   35.7%

The income tax rate for the Successor period ended February 1, 2008 is a benefit of 26.9%.  This benefit is less than the expected, U.S. statutory rate of 35% due to the incurrence of state income taxes in several of the group’s subsidiaries that file their state income tax returns on a separate entity basis and the election to include, effective February 3, 2007, income tax related interest and penalties in the amount reported as income tax expense.

The income tax rate for the Predecessor period ended July 6, 2007 is an expense of 300.2%.  This expense is higher than the expected U.S. statutory rate of 35% due principally to the non-deductibility of certain acquisition related expenses.

The 2006 income tax rate was higher than the 2005 rate by 1.7%.  Factors contributing to this increase include additional expense related to the adoption of a new tax system in the State of Texas; a reduction in the contingent income tax reserve due to the resolution of contingent liabilities that is less than the decrease that occurred in 2005; an increase in the deferred tax valuation allowance, and an increase related to a non-recurring benefit recognized in 2005 related to an internal restructuring.  Offsetting these rate increases was a reduction in the income tax rate related to federal income tax credits.  Due to the reduction in the Company’s 2006 income before tax, a small increase in the amount of federal income tax credits earned yielded a much larger percentage reduction in the income tax rate for 2006 versus 2005.
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Deferred taxes reflect the effects of temporary differences between carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company’s deferred tax assets and liabilities are as follows:

(In thousands)
Successor
February 1,
2008
  
Predecessor
February 2,
2007
Deferred tax assets:     
Deferred compensation expense$6,354 $10,090 
Accrued expenses and other 4,379  4,037 
Accrued rent 5,909  10,487 
Accrued insurance 61,887  9,899 
Deferred gain on sale/leasebacks -  2,312 
Inventories -  5,874 
Interest rate hedges 30,891  - 
Tax benefit of FIN 48 income tax and interest reserves 16,209  - 
Other 9,947  4,609 
State tax net operating loss carryforwards, net of federal tax 10,342  4,004 
State tax credit carryforwards, net of federal tax 8,727  8,604 
  154,645  59,916 
Less valuation allowances (1,560)  (5,249)
Total deferred tax assets 153,085  54,667 
Deferred tax liabilities:     
Property and equipment (108,675)  (71,465)
Inventories (20,291)  - 
Trademarks (428,627)  - 
Amortizable assets (64,419)  - 
Other (501)  (478)
Total deferred tax liabilities (622,513)  (71,943)
Net deferred tax liabilities$(469,428) $(17,276)
Net deferred tax liabilities are reflected separately on the consolidated balance sheets as current and noncurrent deferred income taxes. The following table summarizes net deferred tax liabilities as recorded in the consolidated balance sheets:
(In thousands) 
Successor
February 1,
2008
  
Predecessor
February 2,
2007
 
Current deferred income tax assets, net $17,297  $24,321 
Noncurrent deferred income tax liabilities, net  (486,725)  (41,597)
Net deferred tax liabilities $(469,428) $(17,276)

The Company has a federal net operating loss carryforward as of February 1, 2008 of approximately $44.5 million which will expire in 2027.  The Company also has state net operating loss carryforwards that total approximately $261.1 million and will expire beginning in 2012 through 2027 and state tax credit carryforwards of approximately $13.4 million that will expire beginning in 2008 through 2027.

The valuation allowance has been provided principally for state tax credit carryforwards.  The full amount of the change in the valuation allowance for the 2007 Successor period, a decrease of $4.2 million, was recorded as an adjustment to goodwill. The increase of $0.6 million in the Predecessor period ended July 6, 2007, the increase of $3.2 million in 2006 and the decrease of $0.1 million in 2005 were included in income tax expense for the respective periods.  Based upon expected future income and available tax planning strategies, management believes that it is more likely than not that the results of operations will generate sufficient taxable income
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to realize the deferred tax assets after giving consideration to the valuation allowance. After the Merger, the full benefit of any reversal of the valuation allowance will reduce goodwill and not income tax expense.

The Predecessor adopted the provisions of FIN 48 effective February 3, 2007.  The adoption resulted in an $8.9 million decrease in retained earnings and a reclassification of certain amounts between deferred income taxes and other noncurrent liabilities to conform to the balance sheet presentation requirements of FIN 48.  As of the date of adoption, the total reserve for uncertain tax benefits was $77.9 million.  This reserve excludes the federal income tax benefit for the uncertain tax positions related to state income taxes, which is now included in deferred tax assets.  As a result of the adoption of FIN 48, the reserve for interest expense related to income taxes was increased to $15.3 million and a reserve for potential penalties of $1.9 million related to uncertain income tax positions was recorded.

Subsequent to the adoption of FIN 48, the Company has elected to record income tax related interest and penalties as a component of the provision for income tax expense.

In the Predecessor period ended July 6, 2007, the Internal Revenue Service completed an examination of the Company’s federal income tax returns through fiscal year 2003 resulting in a net income tax refund.  There are no unresolved issues related to this examination.  None of the Company’s federal income tax returns are currently under examination by the Internal Revenue Service; however, fiscal years 2004 and later are still subject to possible examination by the Internal Revenue Service.  The Company has various state income tax examinations that are currently in progress.  The estimated liability related to these state income tax examinations is included in the Company’s reserve for uncertain tax positions.  Generally, the Company’s tax years ended in 2004 and forward remain open for examination by the various state taxing authorities.

As of February 1, 2008, the total reserves for uncertain tax benefits, interest expense related to income taxes and potential income tax penalties were $96.6 million, $19.7 million and $1.5 million, respectively, for a total of $117.8 million.  Of this amount, $23.2 million and $78.3 are reflected in current liabilities as accrued expenses and other and in other noncurrent liabilities, respectively, in the consolidated balance sheet with the remaining $16.3 million reducing deferred tax assets related to net operating loss carry forwards.

The change, from the date of adoption, through the end of the Predecessor period ended July 6, 2007 in the reserves for uncertain tax benefits, interest expense related to income taxes and potential income tax penalties that impacted the consolidated statement of operations was a net increase of $10.4 million and $0.2 million and a decrease of $0.4 million, respectively.  The change, from the end of the Predecessor period ended July 6, 2007, through the end of the Successor period ended February 1, 2008, in the reserves for uncertain tax benefits and interest expense related to income taxes that impacted the consolidated statement of operations was a net increase of $0.2 million and $4.2 million, respectively.   There was no change in the reserve for potential income tax penalties during the Successor period.

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The Company believes that it is reasonably possible that the reserve for uncertain tax positions may be reduced by approximately $64.8 million in the coming twelve months as a result of the settlement of currently ongoing state income tax examinations and the anticipated filing of an income tax accounting method change request that is expected to resolve certain uncertainties related to accounting methods employed by the Company.  The reasonably possible change of $64.8 million is included in both current liabilities ($21.2 million) and other noncurrent liabilities ($43.6 million) in the consolidated balance sheet as of February 1, 2008. Also, as of February 1, 2008 (after the merger and the related application of purchase accounting), approximately $0.3 million of the reserve for uncertain tax positions would impact the Company’s effective income tax rate if the Company were to recognize the tax benefit for these positions.

A reconciliation of the reserve associated with uncertain income tax positions from February 3, 2007 (the date of adoption) through February 1, 2008 is as follows:

(In thousands) 
Balance as of February 3, 2007$77,864
Increases – tax positions taken in the current year 19,568
Increases – tax positions taken in prior years 1,149
Decrease – tax positions taken in prior years (9)
Statute expirations (185)
Settlements (1,787)
Balance as of February 1, 2008$96,600
6. Current and long-term obligations
Current and long-term obligations consist of the following:

  Successor  Predecessor 
(In thousands) February 1, 2008  February 2, 2007 
Senior secured term loan facility $2,300,000  $- 
Senior secured asset-based revolving credit facility  102,500   - 
10 5/8% Senior Notes due July 15, 2015, net of discount of $22,083  1,152,917   - 
11 7/8/12 5/8% Senior Subordinated Notes due July 15, 2017  700,000   - 
8 5/8% Notes due June 15, 2010, net of discount of $- and $146, respectively  1,822   199,832 
Capital lease obligations  10,268   55,711 
Tax increment financing due February 1, 2035  14,495   14,495 
   4,282,002   270,038 
Less: current portion  (3,246)  (8,080)
Long-term portion $4,278,756  $261,958 

On March 14, 2002,July 6, 2007, the Company entered into two senior secured credit agreements (the “New Credit Facilities”).  The New Credit Facilities provide financing of $3,425.0 million, consisting of $2,300.0 million in a complaintsenior secured term loan facility which matures on July 6, 2014, and a senior secured asset-based revolving credit facility of up to $1,125.0 million, subject to borrowing base availability, which matures on July 6, 2013.

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Under the New Credit Facilities, the Company has the right at any time to request up to $325.0 million of incremental commitments under one or more incremental term loan facilities and/or asset-based revolving credit facilities, subject to certain conditions and subject to the lender’s desire to extend the incremental facilities.

The amount from time to time available under the senior secured asset-based revolving credit facility (including in respect of letters of credit) may not exceed the borrowing base (consisting of specified percentages of eligible inventory and credit card receivables less any applicable availability reserves).  The senior secured asset-based revolving credit facility includes a $1.0 billion tranche and a $125.0 million (“last out”) tranche.  Repayments of the senior secured asset-based revolving credit facility will be applied to the $125.0 million tranche only after all other tranches have been fully paid down.  As of February 1, 2008, the Company had borrowed $102.5 million under the “last out” tranche.

Borrowings under the New Credit Facilities bear interest at a rate equal to an applicable margin plus, at the Company’s option, either (a) LIBOR or (b) a base rate (which is usually equal to the prime rate).  The applicable margin for borrowings is (i) under the term loan facility, 2.75% with respect to LIBOR borrowings and 1.75% with respect to base-rate borrowings and (ii) as of February 1, 2008, under the asset-based revolving credit facility (except in the last out tranche described above), 1.50% with respect to LIBOR borrowings and 0.50% with respect to base-rate borrowings and for any last out borrowings, 2.25% with respect to LIBOR borrowings and 1.25% with respect to base-rate borrowings.  The applicable margins for borrowings under the asset-based revolving credit facility (except in the case of last out borrowings) are subject to adjustment each quarter based on average daily excess availability under the asset-based revolving credit facility.  As of February 1, 2008, the average interest rate for borrowings under the revolving credit facility was 6.35%.  The interest rate for borrowings under the term loan facility was 6.22% (without giving effect to the interest rate swap discussed in Note 1) as of February 1, 2008.

In addition to paying interest on outstanding principal under the New Credit Facilities, the Company is required to pay a commitment fee to the lenders under the asset-based revolving credit facility in respect of the unutilized commitments thereunder.  The commitment fee rate was 0.375% per annum.  The commitment fee rate will be reduced (except with regard to the last out tranche) to 0.25% per annum at any time that the unutilized commitments under the asset-based credit facility are equal to or less than 50% of the aggregate commitments under the asset-based revolving credit facility.  The Company also must pay customary letter of credit fees.

The senior secured credit agreement for the term loan facility requires the Company to prepay outstanding term loans, subject to certain exceptions, with percentages of excess cash flow, proceeds of non-ordinary course asset sales or dispositions of property, and proceeds of incurrences of certain debt.  In addition, the senior secured credit agreement for the asset-based revolving credit facility requires the Company to prepay the asset-based revolving credit facility, subject to certain exceptions, with proceeds of non-ordinary course asset sales or dispositions of property and any borrowings in excess of the then current borrowing base.  Beginning September 30, 2009, the Company is required to repay installments on the loans under the term loan credit
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facility in equal quarterly principal amounts in an aggregate amount per annum equal to 1% of the total funded principal amount at July 6, 2007, with the balance payable on July 6, 2014.

All obligations under the New Credit Facilities are unconditionally guaranteed by substantially all of the Company’s existing and future domestic subsidiaries (excluding certain immaterial subsidiaries and certain subsidiaries designated by the Company under the New Credit Facilities as “unrestricted subsidiaries”).

All obligations and guarantees of those obligations under the term loan credit facility are secured by, subject to certain exceptions, a second-priority security interest in all existing and after-acquired inventory and accounts receivable; a first priority security interest in substantially all of the Company’s and the guarantors’ tangible and intangible assets (other than the inventory and accounts receivable collateral just described); and first-priority pledge of the capital stock held by the Company.  All obligations under the asset-based revolving credit facility are secured by all existing and after-acquire inventory and accounts receivable, subject to certain exceptions.

The New Credit Facilities contain certain covenants, including, among other things, covenants that limit the Company’s ability to incur additional indebtedness, sell assets, incur additional liens, pay dividends, make investments or acquisitions, or repay certain indebtedness.

As of February 1, 2008, the Company had $102.5 million in borrowings, $28.8 million of commercial letters of credit, and $69.2 million of standby letters of credit outstanding under the asset-based revolving credit facility, with excess availability under that facility of $769.2 million.  As of February 1, 2008, the Company had $2,300.0 million outstanding under the term loan facility.

In addition, on July 6, 2007, in conjunction with the Merger, the Company issued $1,175.0 million aggregate principal amount of 10.625% senior notes due 2015 (the “senior notes”) which were issued net of a discount of $23.2 million and which mature on July 15, 2015 pursuant to an indenture, dated as of July 6, 2007 (the “senior indenture”), and $725 million aggregate principal amount of 11.875%/12.625% senior subordinated toggle notes due 2017 (the “senior subordinated notes”), which mature on July 15, 2017, pursuant to an indenture, dated as of July 6, 2007 (the “senior subordinated indenture”).  The senior notes and the senior subordinated notes are collectively referred to herein as the “notes”.  The senior indenture and the senior subordinated indenture are collectively referred to herein as the “indentures”.

Interest on the notes is payable on January 15 and July 15 of each year, commencing on January 15, 2008.  Interest on the senior notes will be payable in cash.  Cash interested on the senior subordinated notes will accrue at a rate of 11.875% per annum and PIK interest (as that term is defined below) will accrue at a rate of 12.625% per annum.  The initial interest payment on the senior subordinated notes was paid in cash.  For certain subsequent interest periods, the Company may elect to pay interest on the senior subordinated notes by increasing the principal amount of the senior subordinated notes or issuing new senior subordinated notes (“PIK interest”).

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The notes are fully and unconditionally guaranteed by each of the existing and future direct or indirect wholly owned domestic subsidiaries that guarantee the obligations under the Company’s New Credit Facilities.

The Company may redeem some or all of the notes at any time at redemption prices described or set forth in the indentures. During the fourth quarter of fiscal 2007, we repurchased $25.0 million of the 11.875%/12.625% senior subordinated toggle notes due 2017, resulting in a pretax gain of $4.9 million.

The indentures contain certain covenants, including, among other things, covenants that limit the Company’s ability to incur additional indebtedness, create liens, sell assets, enter into transactions with affiliates, or consolidate or dispose of all of its assets.

Scheduled debt maturities for the Company’s fiscal years listed below are as follows (in thousands): 2008 - $3,246; 2009 - $13,009; 2010 - $25,171; 2011 - $23,254; 2012 - - $23,272; thereafter - $4,216,034.

On July 6, 2007, immediately after the completion of the Merger, the Company completed a cash tender offer to purchase any and all of its $200 million principal amount of 8 5/8% Notes due June 2010 (the “2010 Notes”).  Approximately 99% of the 2010 Notes were validly tendered and accepted for payment.  The tender offer included a consent payment equal to 3% of the par value of the 2010 Notes, and such payments along with associated settlement costs totaling $6.2 million were paid and reflected as a loss on debt retirement in the 2007 Successor period presented.  Additionally, because the Company received the requisite consents to the proposed amendments to the indenture pursuant to which the 2010 Notes were issued, a supplemental indenture to effect such amendments was executed and delivered.  The amendments, which eliminated substantially all of the restrictive covenants contained in the indenture, became operative upon the purchase of the tendered 2010 Notes.
7.Commitments and contingencies
Leases

As of February 1, 2008, the Company was committed under capital and operating lease agreements and financing obligations for most of its retail stores, three of its DCs, and certain of its furniture, fixtures and equipment.  The majority of the Company’s stores are subject to short-term leases (an average of three to five years) with multiple renewal options when available.  The Company also has stores subject to build-to-suit arrangements with landlords, which typically carry a primary lease term of 10 years with multiple renewal options. Approximately 44% of the stores have provisions for contingent rentals based upon a percentage of defined sales volume.  Certain leases contain restrictive covenants.  As of February 1, 2008, the Company is not aware of any material violations of such covenants, however, there is a degree of uncertainty with regard to the Company’s DC leases as discussed below.
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The Merger and certain of the related financing transactions may be interpreted as giving rise to certain trigger events (which may include events of default) under the Company’s three DC leases. In such event, the Company’s net cost of acquiring the underlying assets could approximate $112 million. At this time, the Company does not believe the resolution of such issues would result in the purchase of these DCs; however, the payments associated with such an outcome would have a negative impact on the Company’s liquidity. To minimize the uncertainty associated with such possible interpretations, the Company is negotiating the restructuring of these leases and the related underlying debt. The Company has concluded that a probable loss exists in connection with the restructurings and has recorded expenses totaling $12.0 million in SG&A expenses in the Successor statement of operations for the period ended February 1, 2008. The ultimate resolution of these negotiations may result in changes in the amounts of such losses, and such changes may be material.

In January 1999 and April 1997, the Company sold its DCs located in Ardmore, Oklahoma and South Boston, Virginia, respectively, for 100% cash consideration.  Concurrent with the sale transactions, the Company leased the properties back for periods of 23 and 25 years, respectively.  The transactions were recorded as financing obligations rather than sales as a result of, among other things, the lessor’s ability to put the properties back to the Company under certain circumstances.  The property and equipment, along with the related lease obligations, associated with these transactions were recorded in the consolidated balance sheets.

In August 2007, the Company purchased a secured promissory note (the “Ardmore Note”) from Principal Life Insurance Company, which had a face value of $34.3 million at the date of purchase and approximated the remaining financing obligation. The Ardmore Note represents debt issued by the third party entity from which the Company leases the Ardmore DC. The Ardmore Note is being accounted for as a “held to maturity” debt security in accordance with the provisions of SFAS 115, “Accounting for Certain Investments in Debt and Equity Securities” (see Note 1).  However, by acquiring the Ardmore Note, the Company holds the debt instrument pertaining to its lease financing obligation and, because a legal right of offset exists, is accounting for the acquired Ardmore Note as a reduction of its outstanding financing obligations in its consolidated balance sheet as of February 1, 2008 in accordance with the provisions of FASB Interpretation 39, “Offsetting of Amounts Related to Certain Contracts – An Interpretation of APB Opinion 10 and FASB Statement 105.”

In May 2003, the Company purchased two secured promissory notes (the “South Boston Notes”) from Principal Life Insurance Company totaling $49.6 million. The South Boston Notes represented debt issued by the third party entity from which the Company leased the South Boston DC. In June 2006, the Company acquired the third party entity, which owned legal title to the South Boston DC assets and had issued the related debt in connection with the original financing transaction. There was no material gain or loss recognized as a result of this transaction. Based on the Company’s ownership of the third party entity at February 1, 2008, the financing obligation and South Boston Notes are eliminated in the Company’s consolidated financial statements.

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Future minimum payments as of February 1, 2008 for capital and operating leases are as follows:

(In thousands)
 
Capital
Leases
Operating
Leases
2008 $3,740  $335,457 
2009  1,909   286,490 
2010  810   237,873 
2011  599   198,954 
2012  599   158,464 
Thereafter  6,476   396,977 
         
Total minimum payments  14,133  $1,614,215 
Less: imputed interest  (3,865)    
Present value of net minimum lease payments  10,268     
Less: current portion, net  (3,246)    
Long-term portion $7,022     

Capital leases were discounted at an effective interest rate of approximately 5.43% at February 1, 2008.  The gross amount of property and equipment recorded under capital leases and financing obligations at February 1, 2008 and February 2, 2007, was $33.5 million and $85.1 million, respectively.  Accumulated depreciation on property and equipment under capital leases and financing obligations at February 1, 2008 and February 2, 2007, was $2.7 million and $41.0 million, respectively.

Rent expense under all operating leases is as follows:

  
Successor
  
Predecessor
 
 
(In thousands)
 
 
July 7, 2007 through
February 1, 2008
  
February 3, 2007 through
July 6, 2007
  
2006
  
2005
 
Minimum rentals (a) $205,672  $143,188  $327,911  $295,061 
Contingent rentals  8,780   6,964   16,029   17,245 
  $214,452  $150,152  $343,940  $312,306 
                 
(a)Excludes net contract termination costs of $2.4 million, $19.1 million, and $5.7 million for the Successor period ended February 1, 2008 and the Predecessor periods ended July 6, 2007 and February 2, 2007, respectively.  These expenses were recorded in association with the closing of stores associated with strategic initiatives as further discussed in Note 3. Also excludes amortization of leasehold interests of $26.1 million included in rent expense for the Successor period ended February 1, 2008.
Legal proceedings

On August 7, 2006, a lawsuit entitled Cynthia Richter, et al. v. Dolgencorp, Inc., et al. was filed in the United States District Court for the Northern District of Alabama (Edith Brown, on behalf of herself(Case No. 7:06-cv-01537-LSC) (“Richter”) in which the plaintiff alleges that she and others similarly situated v. Dolgencorp. Inc., and Dollar General Corporation, CV02-C-0673-W (“Brown”)) to commence a collective action against the Company on behalf ofother current and former salariedDollar General store managers.  The complaint alleges that these individualsmanagers were entitled to overtime pay and should not have beenimproperly classified as exempt executive employees under the Fair Labor Standards Act (“FLSA”).  Plaintiffs seekFLSA and seeks to recover overtime pay, liquidated damages, declaratory relief and attorneys’ fees.  





fees and costs. On January 12, 2004,August 15, 2006, the Richter plaintiff filed a motion in which she asked the court certified an opt-in to certify a nationwide

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class of plaintiffs consistingcurrent and former store managers. The Company opposed the plaintiff’s motion. On March 23, 2007, the court conditionally certified a nationwide class of all persons employed by the Companyindividuals who worked for Dollar General as store managers at any time since March 14, 1999,August 7, 2003. The number of persons who regularly worked more than 50 hours per weekwill be included in the class has not been determined, and either: (1) customarily supervised less than two employees at one time; (2) lacked authority to hire or discharge employees without supervisor approval; or (3) sometimes worked in non-managerial positions at stores other than the one he or she managed. The Company’s attempt to appeal this decision on a discretionary basiscourt has not approved the Notice that will be sent to the 11thclass.

On May 30, 2007, the court stayed all proceedings in the case, including the sending of the Notice, to evaluate, among other things, certain appeals currently pending in the Eleventh Circuit Courtinvolving claims similar to those raised in this action. That stay has been extended through June 30, 2008. During the stay, the statute of Appeals was denied.

limitations will be tolled for potential class members. At its conclusion, the court will determine whether to extend the stay or to permit this action to proceed. If the court ultimately permits Notice was sent to prospectiveissue, the Company will have an opportunity at the close of the discovery period to seek decertification of the class, members and the deadline for individualsCompany expects to opt in to the lawsuit was May 31, 2004.  Approximately 5,000 individuals opted in.  The Court has enteredfile such a scheduling order that governs the discovery and remaining phases of the case.

Three additional lawsuits,Tina Depasquales v. Dollar General Corp. (Southern District of Georgia, Savannah Division, CV 404-096, filed May 12, 2004),Karen Buckley v. Dollar General Corp. (Southern District of Ohio, C-2-04-484, filed June 8, 2004), andSheila Ann Hunsucker v. Dollar General Corp. et al.(Western District of Oklahoma, Civ-04-165-R, filed February 19, 2004), were filed asserting essentially the same claims as the Browncase, all of which have since been consolidated in the Northern District of Alabama where theBrown litigation is pending. The Company believes that the consolidation will not affect the scheduling order or extend any of the deadlines in theBrown case.

motion.


The Company believes that its store managers are and have been properly classified as exempt employees under the FLSA and that thethis action is not appropriate for collective action treatment. The Company intends to vigorously defend thethis action. However, at this time, it is not possible to predict whether the court ultimately will permit this action to proceed collectively, and no assurances can be given that the Company will be successful in defending this actionthe defense on the merits or otherwise, and, ifotherwise. If the Company is not successful in its efforts to defend this action, the resolution could have a material adverse effect on the Company’s financial statements as a whole.


On May 18, 2006, the Company was served with a lawsuit entitled Tammy Brickey, Becky Norman, Rose Rochow, Sandra Cogswell and Melinda Sappington v. Dolgencorp, Inc. and Dollar General Corporation (Western District of New York, Case No. 6:06-cv-06084-DGL, originally filed on February 9, 2006 and amended on May 12, 2006 (“Brickey”)). The Brickey plaintiffs seek to proceed collectively under the FLSA and as a class under New York, Ohio, Maryland and North Carolina wage and hour statutes on behalf of, among others, assistant store managers who claim to be owed wages (including overtime wages) under those statutes. At this time, it is not possible to predict whether the court will permit this action to proceed collectively or as a class. However, the Company believes that this action is not appropriate for either collective or class treatment and that the Company’s wage and hour policies and practices comply with both federal and state law. The Company plans to vigorously defend this action; however, no assurances can be given that the Company will be successful in the defense on the merits or otherwise, and, if it is involvednot successful, the resolution of this action could have a material adverse effect on the Company’s financial statements as a whole.

On March 7, 2006, a complaint was filed in the United States District Court for the Northern District of Alabama (Janet Calvert v. Dolgencorp, Inc., Case No. 2:06-cv-00465-VEH (“Calvert”)), in which the plaintiff, a former store manager, alleged that she was paid less than male store managers because of her sex, in violation of the Equal Pay Act and Title VII of the Civil Rights Act of 1964, as amended (“Title VII”). The complaint subsequently was amended to include additional plaintiffs, who also allege to have been paid less than males because of their sex, and to add allegations that the Company’s compensation practices disparately impacted females. Under the amended complaint, Plaintiffs seek to proceed collectively under the Equal Pay Act and as a class under Title VII, and request back wages, injunctive and declaratory relief, liquidated damages, punitive damages and attorney’s fees and costs.

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On July 9, 2007, the plaintiffs filed a motion in which they asked the court to approve the issuance of notice to a class of current and former female store managers under the Equal Pay Act. The Company opposed plaintiffs’ motion. On November 30, 2007, the court conditionally certified a nationwide class of females under the Equal Pay Act who worked for Dollar General as store managers between November 30, 2004 and November 30, 2007. The notice was issued on January 11, 2008, and persons to whom the notice was sent were required to opt into the suit by March 11, 2008. The Company will have an opportunity at the close of the discovery period to seek decertification of the Equal Pay Act class, and the Company expects to file such motion.

At this time, it is not possible to predict whether the court ultimately will permit the Calvert action to proceed collectively under the Equal Pay Act or as a class under the Title VII. However, the Company believes that the case is not appropriate for class or collective treatment and that its policies and practices comply with the Equal Pay Act and Title VII.  The Company intends to vigorously defend the action; however, no assurances can be given that the Company will be successful in the defense on the merits or otherwise. If the Company is not successful in defending the Calvert action, its resolution could have a material adverse effect on the Company’s financial statements as a whole.

On November 9, 2007, the Company was served with an action entitled Sheneica Nunn, et al. v. Dollar General Corporation, et al. (Circuit Court for Dane County, Wisconsin, Case No. 07CV4178) in which the plaintiff, on behalf of herself and a putative class of African-American applicants, alleges that the Company’s criminal background check process disparately impacts African-Americans in violation of Title VII of the Civil Rights Act of 1964, as amended, and the Wisconsin Fair Employment Act. The Company has removed the case to federal court, and it currently is pending in the United States District Court for the Western District of Wisconsin. At this time, it is not possible to predict whether the court will permit this action to proceed as a class under either Title VII or the Wisconsin statute. However, the Company believes that this action is not appropriate for class treatment and that the Company’s background check policies and practices comply with both federal and state law.  The Company plans to vigorously defend this action; however, no assurances can be given that the Company will be successful in the defense on the merits or otherwise, and, if it is not successful, the resolution of this action could have a material adverse effect on the Company’s financial statements as a whole.

On September 8, 2005, the Company received a request for information from the Environmental Protection Agency (EPA) with respect to Krazy String, a product that was offered for sale in the Company’s stores. The EPA asserted that Krazy String contained an aerosol that included an ozone depleting substance in violation of the Clean Air Act. On July 12, 2006, the Company agreed to an Administrative Compliance Order requiring the destruction of the Krazy String remaining in inventory. After advising the Company that it was considering imposing a penalty in connection with Krazy String, on February 5, 2007 the EPA proposed a penalty of approximately $800,000. The Company believed that amount to be excessive under applicable EPA policies. After additional discussions with the EPA, the Company and the EPA agreed on January 17, 2008 to resolve this matter through the Company’s payment of a $155,826 penalty.
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The Company paid this penalty in the fourth quarter of fiscal 2007 and has received full reimbursement from the product vendor.

Subsequent to the announcement of the agreement relating to the Merger, the Company and its directors were named in seven putative class actions alleging claims for breach of fiduciary duty arising out of the Company’s proposed sale to KKR. Each of the complaints alleged, among other things, that the Company’s directors engaged in “self-dealing” by agreeing to recommend the transaction to the Company’s shareholders and that the consideration available to such shareholders in the transaction is unfairly low. On motion of the plaintiffs, each of these cases was transferred to the Sixth Circuit Court for Davidson County, Twentieth Judicial District, at Nashville. By order dated April 26, 2007, the seven lawsuits were consolidated in the court under the caption, “In re: Dollar General,” Case No. 07MD-1. On June 13, 2007, the court denied the Plaintiffs’ motion for a temporary injunction to block the shareholder vote that was then held on June 21, 2007. On June 22, 2007, the Plaintiffs filed their amended complaint making claims substantially similar to those outlined above. The matter is currently in discovery. The Company believes that the foregoing lawsuit is without merit and continues to defend the action vigorously; however, if the Company is not successful in that defense, its resolution could have a material adverse effect on the Company’s financial statements as a whole.

From time to time, the Company is a party to various other legal actions involving claims incidental to the conduct of its business, including actions by employees, consumers, suppliers, government agencies, or others through private actions, class actions, administrative proceedings, regulatory actions or other litigation, including under federal and claims arising in the ordinary course of business.state employment laws and wage and hour laws.  The Company believes, based upon information currently believesavailable, that such other litigation and claims, both individually and in the aggregate, will be resolved without a material adverse effect on the Company’s financial statements as a whole. However, litigation involves an element of uncertainty. Future developments could cause these actions or claims to have a material adverse effect on the Company’s results of operations or financial statementsposition. In addition, certain of these lawsuits, if decided adversely to the Company or settled by the Company, may result in liability material to the Company’s financial position or may negatively affect our operating results if changes to the Company’s business operation are required.

8.  Benefit plans

The Dollar General Corporation 401(k) Savings and Retirement Plan, which became effective on January 1, 1998, is a safe harbor defined contribution plan and is subject to the Employee Retirement and Income Security Act (“ERISA”).

Participants are permitted to contribute between 1% and 25% of their pre-tax annual eligible compensation as defined in the 401(k) plan document, subject to certain limitations under the Internal Revenue Code.  Employees who are over age 50 are permitted to contribute additional amounts on a pre-tax basis under the catch-up provision of the 401(k) plan subject to Internal Revenue Code limitations. The Company currently matches employee contributions, including catch-up contributions, at a rate of 100% of employee contributions, up to 5% of
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annual eligible salary, after an employee has been employed for one year and has completed a minimum of 1,000 hours of service.

A participant’s right to claim a distribution of his or her account balance is dependent on ERISA guidelines and Internal Revenue Service regulations. All active employees are fully vested in all contributions to the 401(k) plan. During the 2007 Successor and Predecessor periods, 2006 and 2005, the Company expensed approximately $3.0 million, $4.3 million, $6.4 million, and $5.8 million, respectively, for matching contributions. The Merger did not significantly impact the comparability of such expense amounts between periods.

The Company also has a nonqualified supplemental retirement plan and compensation deferral plan (called the Dollar General Corporation CDP/SERP Plan) for a select group of management and highly compensated employees.  The supplemental retirement plan is a noncontributory defined contribution plan with annual Company contributions ranging from 2% to 12% of base pay plus bonus depending upon age plus years of service and job grade.  Under the compensation deferral plan, participants may defer up to 65% of base pay and up to 100% of bonus pay. An employee may be designated for participation in one or both of the plans, according to the eligibility requirements of the plans. The Company matches base pay deferrals at a rate of 100% of base pay deferral, up to 5% of annual salary, with annual salary offset by the amount of match-eligible salary in the 401(k) plan. All participants are 100% vested in their compensation deferral plan accounts.

As a result of the Merger which constituted a “change in control” under the CDP/SERP Plan, all previously unvested amounts under the supplemental retirement plan vested on July 6, 2007.  For newly eligible SERP participants after July 6, 2007, the supplemental retirement plan accounts vest at the earlier of the participant’s attainment of age 50 or the participant’s being credited with 10 or more “years of service”, upon termination of employment due to death or “total and permanent disability” or upon a “change in control”, all as defined in the CDP/SERP Plan.  The Company incurred compensation expense for these plans of approximately $0.3 million in the 2007 Successor period, $0.5 million in the 2007 Predecessor period, $0.8 million in 2006 and $0.6 million in 2005.

The supplemental retirement plan and compensation deferral plan assets are invested at the option of the participant in an account that mirrors the performance of a fund or funds selected by the Company’s Compensation Committee or its delegate (the “Mutual Fund Options”) or, prior to the Merger, in an account that mirrored the performance of the Company’s common stock (the “Common Stock Option”).  A participant’s compensation deferral plan and supplemental retirement plan account balances will be paid in accordance with the participant’s election by (a) lump sum, (b) monthly installments over a 5, 10 or 15 year period or (c) a combination of lump sum and installments.  The vested amount will be payable at the time designated by the plan upon the participant’s termination of employment or retirement, except that participants may elect to receive an in-service distribution or an “unforeseeable emergency hardship” distribution of vested amounts credited to the compensation deferral account. Account balances deemed to be invested in the Mutual Fund Options are payable in cash and, prior to the Merger, account balances deemed to be invested in the Common Stock Option were payable in shares of Dollar General common stock and cash in lieu of fractional shares.

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As a result of the Merger, the CDP/SERP Plan liabilities were fully funded into an irrevocable rabbi trust.  All account balances deemed to be invested in the Common Stock Option were liquidated at a value of $22.00 per share and the proceeds were transferred to an existing Mutual Fund Option within the Plan.

Asset balances in the Mutual Funds Option are stated at fair market value, which is based on quoted market prices. The current portion of these balances is included in Prepaid expenses and other current assets and the long term portion is included in Other assets, net in the consolidated balance sheets.  In accordance with EITF 97-14 “Accounting for Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested,” the Company’s stock was recorded at historical cost and included in Other shareholders’ equity, prior to the Merger.  Also, prior to the Merger, the deferred compensation liability related to the Company stock for active plan participants was included in shareholders’ equity and subsequent changes to the fair value of the obligation were not recognized, in accordance with the provisions of EITF 97-14. However, as a whole.

ITEM 4.

SUBMISSION OF MATTERS TOresult of the Merger, Plan participants no longer have the option of investing in the Company’s stock.  The deferred compensation liability related to the Mutual Funds Option is recorded at the fair value of the investments held in the trust. The current portion of these balances is included in Accrued expenses and other and the long term portion is included in Other liabilities in the consolidated balance sheets.


The Company sponsored through 2007 a supplemental executive retirement plan for the Chief Executive Officer (called the Supplemental Executive Retirement Plan for David A. Perdue) and accounted for the plan in accordance with SFAS 158.  As a result of the Merger, which constituted a change in control under the terms of this plan and the grantor trust agreement, and Mr. Perdue’s subsequent resignation, Mr. Perdue became 100% vested.  A VOTE OF SECURITY HOLDERS

No mattersdeposit of $6,208,966 was made to the trust representing Mr. Perdue’s lump sum vested benefit and accumulated interest, which amount was paid to Mr. Perdue on January 7, 2008 effectively terminating the plan.


Prior to the Merger, non-employee directors could defer all or a part of any fees normally paid by the Company to a voluntary nonqualified compensation deferral plan.  The compensation eligible for deferral includes the annual retainer, meeting and other fees, as well as any per diem compensation for special assignments, earned by a director for his or her service to the Company’s Board of Directors or one of its committees.  The deferred compensation was credited to a liability account, which was then invested at the option of the director, in deemed investments which mirrored either the Mutual Fund Options or the Common Stock Option and the deferred compensation was to be paid in accordance with the director’s election. All deferred compensation was immediately due and payable upon a “change in control” of the Company, as defined by the Plan. As a result of the Merger, which constituted a change in control under the Plan, all accounts held in the Deferred Compensation Plan for Non-Employee Directors were submitteddistributed.
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9. Share-based payments
The Company accounts for share-based payments in accordance with SFAS 123(R).  Under SFAS 123(R), the fair value of each award is separately estimated and amortized into compensation expense over the service period.  The fair value of the Company’s stock option grants are estimated on the grant date using the Black-Scholes-Merton valuation model.  The application of this valuation model involves assumptions that are judgmental and highly sensitive in the determination of compensation expense.

The Successor statement of operations for the period from July 7, 2007 to shareholdersFebruary 1, 2008 reflect share-based compensation expense (a component of SG&A expenses) under the fair value method of SFAS 123(R) for outstanding share-based awards and a corresponding reduction of pre-tax income in the amount of $3.8 million ($2.4 million net of tax).

The Company recognized $45.4 million of share-based compensation expense in the Predecessor statements of operations in 2007 ($28.5 million net of tax), including $6.0 million of  compensation expense prior to the Merger included in SG&A expenses comprised of $2.3 million and $3.7 million, respectively, for stock options and restricted stock and restricted stock units. The remaining $39.4 million of such expense related directly to the Merger is reflected in Transaction and related costs in the consolidated statement of operations for the Predecessor period ended July 6, 2007, consisting of $18.7 million and $20.7 million, respectively, for the accelerated vesting of stock options and restricted stock and restricted stock units.

For the year ended February 2, 2007, the fair value method of SFAS 123(R) resulted in additional share-based compensation expense and a corresponding reduction in net income before income taxes in the amount of $3.6 million ($2.2 million net of tax).

Prior to the Merger, the Company maintained various share-based compensation programs which included options, restricted stock and restricted stock units.  In connection with the Merger, the Company’s outstanding stock options, restricted stock and restricted stock units became fully vested immediately prior to the closing of the Merger and were settled in cash, canceled or, in limited circumstances, exchanged for new options of the Company, as described below.  Unless exchanged for new options, each option holder received an amount in cash, without interest and less applicable withholding taxes, equal to $22.00 less the exercise price of each in-the-money option.  Additionally, each restricted stock and restricted stock unit holder received $22.00 in cash, without interest and less applicable withholding taxes.  Certain stock options held by Company management were exchanged for new options to purchase common stock in the Company (the “Rollover Options”).  The exercise price of the Rollover Options and the number of shares of Company common stock underlying the Rollover Options were adjusted as a result of the Merger.  The Rollover Options otherwise continue under the terms of the equity plan under which the original options were issued.

On February 3, 2006, the vesting of all outstanding options granted prior to August 2, 2005, other than options previously granted to the Company’s then CEO and options granted in 2005 to the officers of the Company at the level of Executive Vice President or above, accelerated
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pursuant to a January 24, 2006 action of the Compensation Committee of the Company’s Board of Directors. In addition, pursuant to that Compensation Committee action, the vesting of all outstanding options granted on or after August 2, 2005 but prior to January 24, 2006, other than options granted during that time period to the officers of the Company at the level of Executive Vice President or above, accelerated effective as of the date that is six months after the applicable grant date. Certain options granted on January 24, 2006 to certain newly hired officers below the level of Executive Vice President were granted with a six-month vesting period. The decision to accelerate the vesting of these stock options resulted in compensation expense of $0.9 million, before income taxes, recognized during the fourth quarter of 2004.



2005, and was made primarily to reduce non-cash compensation expense to be recorded in future periods under the provisions of SFAS 123(R). The future expense eliminated as a result of the decision to accelerate the vesting of these options was approximately $28 million, or $17 million net of income taxes, over the four-year period during which the stock options would have vested, subject to the impact of additional adjustments related to certain stock option forfeitures. The Company also believed this decision benefited employees.

On July 6, 2007, the Company’s Board of Directors adopted the 2007 Stock Incentive Plan for Key Employees (the “Plan”).  The Plan provides for the granting of stock options, stock appreciation rights, and other stock-based awards or dividend equivalent rights to key employees, directors, consultants or other persons having a service relationship with the Company, its subsidiaries and certain of its affiliates.  The number of shares of Company common stock authorized for grant under the Plan is 24,000,000.  As of February 1, 2008, 3,470,200 of such shares are available for future grants.

ITEM 4A.

EXECUTIVE OFFICERS OF THE REGISTRANT

Information regarding

During the Successor period ended February 1, 2008, the Company granted options that vest solely upon the continued employment of the recipient (“Time Options”) as well as options that vest upon the achievement of predetermined annual or cumulative financial-based targets that coincide with the Company’s fiscal year (“Performance Options”).  According to the award terms, 20% of the Time Options vest on each of the five successive anniversary dates of the merger transaction, and 20% of the Performance Options vests at the end of each of the successive five fiscal years in which the performance target is achieved.  In the event the performance target is not achieved in any given year, such options for that year will subsequently vest upon the achievement of a cumulative performance target.  Vesting of the Time Options and Performance Options is also subject to acceleration in the event of an earlier change in control or public offering.  Each of these options, whether Time Options or Performance Options have a contractual term of 10 years and an exercise price equal to the fair value of the stock on the date of grant.

Both the Time Options and the Performance Options are subject to various provisions by which the Company may require the employee, upon termination, to sell to the Company any vested options or shares received upon exercise of the Time Options or Performance Options at amounts that differ based upon the reason for the termination. In particular, in the event that the employee resigns “without good reason” (as defined in the management stockholders agreement), then any options whether or not then exercisable are forfeited and any shares received upon prior exercise of such options are callable at the Company’s option at an amount equal to the lesser of fair value or the amount paid for the shares (i.e. the exercise price).  In such
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cases, because the employee would not benefit in any share appreciation over the exercise price, for accounting purposes, under SFAS 123(R) such options are not considered vested until the expiration of the Company’s call option (July 6, 2012).  Accordingly, all references to the vesting provisions or vested status of the options discussed in this note give effect to the vesting pursuant to the provisions of SFAS 123(R) and may differ from descriptions of the vesting status of the Time Options and Performance Options located elsewhere in the Company’s Annual Report on Form 10-K.

Each of the Company’s management-owned shares, Rollover Options, and vested new options include certain provisions by which the holder of such shares, Rollover Options, or vested new options may require the Company to repurchase such instruments in limited circumstances.  Specifically, each such instrument is subject to a repurchase right for a period of 365 days after termination due to the death or disability of the holder of the instrument that occurs within five years from the closing date of the Merger.  In such circumstances, the holder of such instruments may require the Company to repurchase any shares at the fair market value of such shares and any Rollover Options or vested new options at a price equal to the intrinsic value of such rollover or vested new options.  Because the Company does not have control over the circumstances in which it may be required to repurchase the outstanding shares or Rollover Options, such shares and Rollover Options, valued at a fair value and intrinsic value of $6.0 million and $3.2 million, respectively, have been classified as Redeemable common stock in the accompanying consolidated balance sheet at February 1, 2008.  Because redemption of such shares is uncertain, such shares are not subject to re-measurement until their redemption becomes probable.

In addition to the repurchase rights upon death or disability that are common to all management held shares, Rollover Options, and vested new options, the management stockholder’s agreement which the Company entered into with certain executive officers provides such officers with an additional repurchase right in the event their employment terminates for any reason prior to July 21, 2008.  Such executive officers may require the Company to repurchase their outstanding shares and Rollover Options at a price of $5 per share in the case of shares and the difference in $5 per share and the exercise price of any Rollover Options that they hold.  This repurchase right exists for a period of 365 days following their termination within the required timeframe.  As noted above, each of the shares, whether held by general members of management or executive officers, has been classified within Redeemable common stock on the accompanying consolidated balance sheet as of February 1, 2008.  In the case of the Rollover Options held by the executive officers, however, the additional repurchase rights in the event of their termination prior to July 21, 2008 are considered within the control of the employee, and as such, $3.6 million (representing the fixed repurchase price) related to such Rollover Options have been classified in Other (noncurrent) liabilities in the accompanying consolidated balance sheet at February 1, 2008 pursuant to SFAS 123(R).

The Company adopted SFAS 123(R) effective February 4, 2006 and began recognizing compensation expense for stock options based on the fair value of the awards on the grant date. The Company adopted SFAS 123(R) under the modified-prospective-transition method and, therefore, results from prior periods have not been restated. The following table illustrates the effect on net income and earnings per share as if the Company had applied the fair value
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recognition provisions of SFAS 123 to options granted under the Company’s stock plans for the year ended February 3, 2006. For purposes of this pro forma disclosure, the value of the options is estimated using the Black-Scholes-Merton option pricing model for all option grants.

(In thousands) 
Year Ended
February 3,
2006
 
Net income – as reported $350,155 
Deduct: Total pro forma stock-based employee compensation expense determined
under fair value based method for all awards, net of related tax effects per SFAS 123
  32,621 
Net income – pro forma $317,534 

Under SFAS 123(R), forfeitures are estimated at the time of valuation and reduce expense ratably over the vesting period. Under SFAS 123, the Company elected to account for forfeitures when awards were actually forfeited, at which time all previous pro forma expense (which, after-tax, approximated $5.5 million in the year ended February 3, 2006) was reversed to reduce pro forma expense for that year.

SFAS 123(R) also requires the benefits of tax deductions in excess of recognized compensation cost to be reported as a financing cash flow, rather than as an operating cash flow as required prior to the adoption of SFAS 123(R). For the Predecessor period ended July 6, 2007 and year ended February 2, 2007, the $3.9 million and $2.5 million excess tax benefits, respectively, classified as financing cash inflows would have been classified as an operating cash inflow if the Company had not adopted SFAS 123(R). The impact of the adoption of SFAS 123(R) on future results will depend on, among other things, levels of share-based payments granted in the future, actual forfeiture rates and the timing of option exercises.

The fair value of each option grant is separately estimated by applying the Black-Scholes-Merton option pricing valuation model. The weighted average for key assumptions used in determining the fair value of options granted in the Successor period ended February 1, 2008 and Predecessor period ended July 6, 2007 and years ended February 2, 2007 and February 3, 2006, and a summary of the methodology applied to develop each assumption, are as follows:

 
February 1,
2008
July 6,
2007
February 2,
2007
February 3,
2006
Expected dividend yield0%0.91%0.82 %0.85 %
Expected stock price volatility41.9%18.5%28.8 %27.1 %
Weighted average risk-free interest rate4.6%4.5%4.7 %4.2 %
Expected term of options (years)7.5 5.7 5.7  5.0  

Expected dividend yield - This is an estimate of the expected dividend yield on the Company’s stock.  Prior to the Merger this estimate was based on historical dividend payment trends. Subsequent to the Merger, the Company is subject to limitations on the payment of dividends under its credit facilities as further discussed in Note 6.  An increase in the dividend yield will decrease compensation expense.

Expected stock price volatility - This is a measure of the amount by which the price of the Company’s common stock has fluctuated or is expected to fluctuate. Prior to the Merger, the Company used actual historical changes in the market price of the Company’s common stock
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and implied volatility based upon traded options, weighted equally, to calculate the volatility assumption, as it was the Company’s belief that this methodology provided the best indicator of future volatility. For historical volatility, the Company calculated daily market price changes from the date of grant over a past period representative of the expected life of the options to determine volatility. Subsequent to the Merger the expected volatilities have been based upon the historical volatilities of a peer group of four companies, as the Company’s common stock is not publicly traded. An increase in the expected volatility will increase compensation expense.

Weighted average risk-free interest rate - This is the U.S. Treasury rate for the week of the grant having a term approximating the expected life of the option. An increase in the risk-free interest rate will increase compensation expense.
Expected term of options - This is the period of time over which the options granted are expected to remain outstanding. For options issued prior to the Merger, the Company took into consideration that its stock option grants prior to August 2002 were significantly different than grants issued on and after that date, and therefore that the historical and post-vesting employee behavior patterns for grants prior to that date were of little or no value in determining future expectations. As a result, the Company excluded these pre-August 2002 grants from its analysis of expected term. For pre-Merger options, the Company estimated expected term using a computation based on an assumption that outstanding options would be exercised approximately halfway through their contractual term, taking into consideration such factors as grant date, expiration date, weighted-average time-to-vest, actual exercises and post-vesting cancellations. Options granted have a maximum term of 10 years. Due to the absence of historical data for grants issued subsequent to the Merger, the Company has estimated the expected term as the mid-point between the vesting date and the contractual term of the option. An increase in the expected term will increase compensation expense.

All nonvested restricted stock and restricted stock unit awards granted for the Predecessor and Successor periods in the year ended February 1, 2008 had a purchase price of zero. The Company records compensation expense on a straight-line basis over the restriction period based on the market price of the underlying stock on the date of grant. The nonvested restricted stock and restricted stock unit awards granted under the plan to employees during the Predecessor period ended July 6, 2007 were originally scheduled to vest and become payable ratably over a three-year period from the respective grant dates. The nonvested restricted stock unit awards granted under the plan to non-employee directors during the Predecessor period ended July 6, 2007 were originally scheduled to vest over a one-year period from the respective grant dates, but became payable as a result of the Merger as discussed above.

In accordance with the provisions of SFAS 123(R), unearned compensation is not recorded within shareholders’ equity for nonvested restricted stock and restricted stock unit awards. Accordingly, during the year ended February 2, 2007, the Company reversed its unearned compensation balance as of February 3, 2006 of approximately $5.2 million, with an offset to common stock and additional paid-in capital.

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The Company issues new shares when options are exercised. A summary of stock option activity during the Predecessor period ended July 6, 2007 is as follows:

 
Options
Issued
 
Weighted Average
Exercise Price
Balance, February 2, 2007 19,398,881    $18.38  
Granted 1,997,198     21.15  
Exercised (2,496,006)    16.64  
Exchanged for cash in Merger (14,829,364)    18.53  
Exchanged for Rollover Options (2,225,175)    18.76  
Canceled (1,845,534)    22.17  
Balance, July 6, 2007 -    $-  

During the Predecessor period from February 3, 2007 to July 6, 2007 and years ended February 2, 2007 and February 3, 2006, the weighted average grant date fair value of options granted was $5.37, $5.86 and $6.33, respectively; 4,213,373, 617,234 and 8,281,184 options vested, net of forfeitures, respectively; with a total fair value of approximately $23.6 million, $2.5 million and $56.5 million, respectively; and the total intrinsic value of stock options exercised was $10.8 million, $6.8 million and $16.7 million, respectively. The total intrinsic value of stock options exercised during the Successor period from July 7, 2007 to February 1, 2008 (all of which were Rollover Options) was $0.5 million.

At February 1, 2008, 1,799,102 Rollover Options were outstanding, all of which were exercisable. The aggregate intrinsic value of outstanding Rollover Options was $6.7 million with a weighted average remaining contractual term of 7.36 years, and a weighted average exercise price of $1.25.

All stock options granted prior to the Merger in the period ended July 6, 2007 and the year ended February 2, 2007 under the terms of the Company’s pre-merger stock incentive plan were non-qualified stock options issued at a price equal to the fair market value of the Company’s common stock on the date of grant, were originally scheduled to vest ratably over a four-year period, and were to expire 10 years following the date of grant.

A summary of activity related to nonvested restricted stock and restricted stock unit awards during the Predecessor period ended July 6, 2007 is as follows:

 
Nonvested
Shares
 
Weighted Average
Grant Date
Fair Value
Balance, February 2, 2007 748,631    $16.63 
Granted 749,508     21.17 
Vested (1,476,044)    18.83 
Canceled (22,095)    20.72 
Balance, July 6, 2007 -    $-  

97
A summary of Time Options activity during the Successor period ended February 1, 2008 is as follows:

 
Options
Issued
 
Weighted Average
Exercise Price
Granted 9,945,000    $5.00  
Exercised -     -  
Canceled (410,000)    5.00  
Balance, February 1, 2008 9,535,000    $5.00  

During the Successor period from July 7, 2007 to February 1, 2008, the weighted average grant date fair value of Time Options granted was $2.65; no options vested or were exercised. At February 1, 2008, the aggregate intrinsic value of outstanding 2007 Time Options was $0 with a weighted average remaining contractual term of 9.6 years. None of the outstanding Time Options are currently exercisable.

A summary of Performance Options activity during the Successor period ended February 1, 2008 is as follows:

 
Options
Issued
 
Weighted Average
Exercise Price
Granted 9,945,000    $5.00  
Exercised -     -  
Canceled (410,000)    5.00  
Balance, February 1, 2008 9,535,000    $5.00  

During the Successor period from July 7, 2007 to February 1, 2008, the weighted average grant date fair value of Performance Options granted was $2.65; 1,907,000 Performance Options vested and are exercisable, net of forfeitures, with a total fair value of approximately $5.1 million, and none of those options were exercised. At February 1, 2008, the aggregate intrinsic value of outstanding 2007 Performance Options was $0 with a weighted average remaining contractual term of 9.6 years.

At February 1, 2008, the total unrecognized compensation cost related to non-vested stock options was $46.8 million with an expected weighted average expense recognition period of 4.4 years.

The Company currently believes that the performance targets related to the Performance Options will be achieved.  If such goals are not met, and there is no change in control, no compensation cost relating to these Performance Options will be recognized and any compensation cost recognized to date will be reversed.

In January 2008, the Company granted 890,000 nonvested restricted shares to its CEO. These shares vest on the first to occur of (i) a change in control, (ii) an initial public offering, (iii) termination without cause or due to death or disability, or (iv) the last day of the Company’s 2011 fiscal year. These shares represent the only outstanding restricted shares as of February 1, 2008. At February 1, 2008, the total compensation cost related to nonvested restricted stock awards not yet recognized was approximately $4.4 million.

98
10. Related party transactions
Affiliates of certain of the Investors participated as (i) lenders in the Company’s New Credit Facilities discussed in Note 6; (ii) initial purchasers of the Company’s notes discussed in Note 6; (iii) counterparties to certain interest rate swaps discussed in Note 1 and (iv) as advisors in the Merger. Certain fees were paid upon closing of the Merger to affiliates of certain of the Investors.  These fees primarily included underwriting fees, advisory fees, equity commitment fees, syndication fees, merger and acquisition fees, sponsor fees, costs of raising equity, and out of pocket expenses.  The aggregate fees paid to these related parties during the Successor period ended February 1, 2008 totaled $134.9 million, portions of which have been capitalized as debt financing costs or as direct acquisition costs.

The Company entered into a monitoring agreement, dated July 6, 2007, with affiliates of certain of the Investors pursuant to which those entities will provide management and advisory services to the Company. Under the terms of the monitoring agreement, among other things, the Company is obliged to pay to those entities an aggregate annual management fee of $5.0 million payable in arrears at the end of each calendar quarter plus all reasonable out of pocket expenses incurred in connection with the provision of services under the agreement upon request.  The fees incurred for the Successor period ended February 1, 2008 totaled $2.9 million.  After the completion of the Company’s first fiscal year, the management fee will increase at a rate of 5% per year. Those entities also are entitled to receive a fee equal to 1% of the gross transaction value in connection with certain subsequent financing, acquisition, disposition, and change in control transactions, as well as a termination fee in the event of an initial public offering or under certain other circumstances. In addition, on July 6, 2007, the Company also entered into a separate indemnification agreement with the parties to the monitoring agreement, pursuant to which the Company agreed to provide customary indemnification to such parties and their affiliates.

The Company uses Capstone Consulting, LLC, a team of executives who work exclusively with KKR portfolio companies providing certain consulting services.  The Chief Executive Officer of Capstone serves on our Board.  Although neither KKR nor any entity affiliated with KKR owns any of the equity of Capstone, prior to January 1, 2007 KKR had provided financing to Capstone.  The aggregate fees incurred for Capstone services for the Successor period ended February 1, 2008 totaled $1.9 million.

The Company purchased a total of $25 million of the 11.857%/12.625% senior subordinated notes held by Goldman Sachs & Co. as further discussed in Note 6 and paid a commission of less than $0.1 million in connection therewith.

11. Capital stock
Prior to the Merger, the Company had a Shareholder Rights Plan (the “Rights Plan”) under which Series B Junior Participating Preferred Stock Purchase Rights (the “Rights”) were issued for each outstanding share of common stock.  The Rights were attached to all common stock outstanding as of March 10, 2000. On May 8, 2000, the Company effected a five for four stock split at which time, pursuant to the adjustment provisions contained in the Rights
99
Agreement, each outstanding share of the Company’s common stock evidenced the right to receive eight-tenths of a Right.  Such Rights attached to all additional shares of common stock issued prior to the Plan’s termination immediately prior to the effective date of the Merger.  The Rights entitled the holders to purchase from the Company one one-hundredth of a share (a “Unit”) of Series B Junior Participating Preferred Stock, no par value, at a purchase price of $100 per Unit, subject to adjustment, upon certain triggering events defined in the Plan.  The Rights Plan terminated by its terms immediately prior to the effective date of the Merger. No Rights were exercised prior to that date.

On November 29, 2006, the Board of Directors authorized the Company to repurchase up to $500 million of its outstanding common stock.  On September 30, 2005, the Board of Directors authorized the Company to repurchase up to 10 million shares of its outstanding common stock. These authorizations allowed for purchases in the open market or in privately negotiated transactions from time to time, subject to market conditions. The objective of the Company’s share repurchase initiative was to enhance shareholder value by purchasing shares at a price that produced a return on investment that was greater than the Company’s cost of capital. Additionally, share repurchases generally were undertaken only if such purchases resulted in an accretive impact on the Company’s fully diluted earnings per share calculation.  As a result of the Merger, the 2006 authorization is no longer outstanding. No purchases were made pursuant to this authorization. The 2005 authorization was completed prior to its expiration date. During 2006, the Company purchased approximately 4.5 million shares pursuant to the 2005 authorization at a total cost of $79.9 million. During 2005, the Company purchased approximately 5.5 million shares pursuant to the 2005 authorization at a total cost of $104.7 million and approximately 9.5 million shares pursuant to an earlier authorization at a total cost of $192.9 million.
12.  Insurance settlement
During 2006 and 2005, the Company received proceeds of $13.0 million and $8.0 million, respectively, representing insurance recoveries for destroyed and damaged assets, costs incurred and business interruption coverage related to Hurricane Katrina, which are reflected in results of operations for these years as a reduction of SG&A expenses. The claim was settled in 2006. The business interruption portion of the proceeds was approximately $5.8 million and was received in 2006. Insurance recoveries related to fixed assets losses are included in cash flows from investing activities and recoveries related to inventory losses and business interruption are included in cash flows from operating activities.
13.Segment reporting
The Company manages its business on the basis of one reportable segment.  See Note 1 for a brief description of the Company’s business.  As of February 1, 2008, all of the Company’s operations were located within the United States with the exception of an immaterial Hong Kong subsidiary formed to assist in the process of importing certain merchandise that began operations in 2004.  The following net sales data is presented in accordance with SFAS 131, “Disclosures about Segments of an Enterprise and Related Information.”

100
  Successor  Predecessor 
(In thousands) 
July 7, 2007
through
February 1, 2008
  
February 1, 2007
through
July 6, 2007
  
2006
  2005 
Classes of similar products:            
Highly consumable $3,701,724  $2,615,110  $6,022,014  $5,606,466 
Seasonal  908,301   604,935   1,509,999   1,348,769 
Home products  507,027   362,725   914,357   907,826 
Basic clothing  454,441   340,983   723,452   719,176 
Net sales $5,571,493  $3,923,753  $9,169,822  $8,582,237 

14.Subsequent event
Subsequent to the 2007 fiscal year end, the Company entered into a $350.0 million step-down interest rate swap which became effective February 28, 2008 in order to mitigate an additional portion of the variable rate interest exposure under the New Credit Facilities discussed in Note 6.  The Company entered into the swap with Wachovia Capital Markets and the terms result in the Company paying a fixed rate of 5.58% on a notional amount of $350.0 million for the first year and $150.0 million for the second year.

15.  Quarterly financial data (unaudited)
The following is selected unaudited quarterly financial data for the fiscal years ended February 1, 2008 and February 2, 2007. Each quarter listed below was a 13-week accounting period. The sum of the four quarters for any given year may not equal annual totals due to rounding.

  Predecessor  Successor 
(In thousands) 
First
Quarter
  
May 5, 2007-
July 6, 2007
  
July 7, 2007-
August 3, 2007 (a)
  
Third
Quarter
  
Fourth
Quarter
 
2007:               
Net sales $2,275,267  $1,648,486  $699,078  $2,312,842  $2,559,573 
Gross profit  633,060   438,515   184,723   646,800   740,371 
Operating profit (loss)  55,368   (46,120)  (6,025)  65,703   186,466 
Net income (loss)  34,875   (42,873)  (27,175)  (33,032)  55,389 
                     

Predecessor 
First
Quarter
  
Second
Quarter
  
Third
Quarter
  
Fourth
Quarter
 
2006:            
Net sales $2,151,387  $2,251,053  $2,213,396  $2,553,986 
Gross profit  584,274   611,534   526,447   645,950 
Operating profit  81,285   80,577   3,339   83,075 
Net income (loss)  47,670   45,468   (5,285)  50,090 

(a)Includes the results of operations of Buck Acquisition Corp. for the period prior to its merger with and into Dollar General Corporation from March 6, 2007 (its formation) through July 6, 2007 (reflecting the change in fair value of interest rate swaps), and the post-merger results of Dollar General Corporation for the period from July 7, 2007 through February 1, 2008.  See Notes 1 and 2.

101
As discussed in Note 2, in the Predecessor period ended July 6, 2007, the Company recorded transaction and other costs related to the Merger of $56.7 million and share-based compensation expense related directly to the Merger of $39.4 million as discussed in Note 9. As discussed in Note 2, in the Successor period ended August 3, 2007, the Company recorded transaction and other costs related to the Merger of $5.6 million, a loss on debt retirement related to the Merger of $6.2 million; a contingent loss related to certain DC leases of $8.6 million as discussed in Note 7; and a gain on certain interest rate swaps discussed in Note 1 of $6.8 million.

In the third quarter of 2007, the Company recorded an additional contingent loss related to certain DC leases of $3.4 million as discussed in Note 7. As discussed in Note 6, in the fourth quarter of 2007, the Company recorded a gain on debt retirement of $4.9 million.

As discussed in Note 12, during the first and third quarters of 2006, the Company received proceeds, net of taxes, of $3.2 million and $5.0 million, respectively, representing insurance recoveries for destroyed and damaged assets, costs incurred and business interruption coverage related to Hurricane Katrina, which is reflected in results of operations for these periods as a reduction of SG&A expenses.

As discussed in Note 3, in the third quarter of 2006, the Company completed a strategic review of its real estate portfolio and traditional inventory packaway strategy. The review resulted in plans to close approximately 400 underperforming stores and to eliminate nearly all packaway merchandise by the close of fiscal 2007. As a result, in the third quarter of 2006, the Company recorded SG&A charges and a lower of cost or market inventory impairment, which reduced the Company’s net income. Also, the change in merchandising strategy resulted in substantially higher markdowns on inventory in the fourth quarter of 2006 ($179.9 million at cost) negatively impacting gross profit and net income.
16.  Guarantor subsidiaries
Certain of the Company’s subsidiaries (the “Guarantors”) have fully and unconditionally guaranteed on a joint and several basis the Company's obligations under certain outstanding debt obligations. Each of the Guarantors is a direct or indirect wholly-owned subsidiary of the Company. The following consolidating schedules present condensed financial information on a combined basis, in thousands.

102
  As of February 1, 2008 
SUCCESSOR 
DOLLAR
GENERAL CORPORATION
  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
BALANCE SHEET:               
ASSETS               
Current assets:               
Cash and cash equivalents $8,320  $59,379  $32,510  $-  $100,209 
Short-term investments  -   -   19,611   -   19,611 
Merchandise inventories  -   1,288,661   -   -   1,288,661 
Income tax receivable  102,273   -   -   (69,772)  32,501 
Deferred income taxes  6,090   -   18,501   (7,294)  17,297 
Prepaid expenses and other current assets  221,408   337,741   9,341   (509,025)  59,465 
Total current assets  338,091   1,685,781   79,963   (586,091)  1,517,744 
Net property and equipment  83,658   1,190,131   456   -   1,274,245 
Goodwill  4,344,930   -   -   -   4,344,930 
Intangible assets  10,911   1,359,646   -   -   1,370,557 
Deferred income taxes  47,299   -   43,658   (90,957)  - 
Other assets, net  2,629,967   1,652   175,238   (2,657,902)  148,955 
                     
Total assets $7,454,856  $4,237,210  $299,315  $(3,334,950) $8,656,431 
                     
LIABILITIES AND SHAREHOLDERS’ EQUITY                    
Current liabilities:                    
Current portion of long-term obligations $-  $3,246  $-  $-  $3,246 
Accounts payable  317,116   736,844   40   (502,960)  551,040 
Accrued expenses and other  48,431   188,877   69,712   (6,064)  300,956 
Income taxes payable  -   59,264   13,507   (69,772)  2,999 
Total current liabilities  365,547   988,231   83,259   (578,796)  858,241 
Long-term obligations  4,257,250   1,837,715   -   (1,816,209)  4,278,756 
Deferred income taxes  -   584,976   -   (98,251)  486,725 
Other liabilities  119,064   21,191   179,459   -   319,714 
                     
Redeemable common stock  9,122   -   -   -   9,122 
                     
Shareholders’ equity:                    
Preferred stock  -   -   -   -   - 
Common stock  277,741   23,753   100   (23,853)  277,741 
Additional paid-in capital  2,480,062   653,711   19,900   (673,611)  2,480,062 
Retained earnings  (4,818)  127,633   16,597   (144,230)  (4,818)
Accumulated other comprehensive loss  (49,112)  -   -   -   (49,112)
Other shareholders’ equity  -   -   -   -   - 
Total shareholders’ equity  2,703,873   805,097   36,597   (841,694)  2,703,873 
                     
Total liabilities and shareholders’ equity $7,454,856  $4,237,210  $299,315  $(3,334,950) $8,656,431 
103
  As of February 2, 2007 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
BALANCE SHEET:               
ASSETS               
Current assets:               
Cash and cash equivalents $114,310  $58,107  $16,871  $-  $189,288 
Short-term investments  -   -   29,950   -   29,950 
Merchandise inventories  -   1,432,336   -   -   1,432,336 
Income tax receivable  4,884   4,949   -   -   9,833 
Deferred income taxes  7,422   13,482   3,417   -   24,321 
Prepaid expenses and other current assets  139,913   928,854   166,468   (1,178,215)  57,020 
Total current assets  266,529   2,437,728   216,706   (1,178,215)  1,742,748 
Net property and equipment  98,580   1,137,710   584   -   1,236,874 
Deferred income taxes  581   -   5,536   (6,117)  - 
Other assets, net  2,693,030   23,489   20,133   (2,675,760)  60,892 
                     
Total assets $        3,058,720  $3,598,927  $242,959  $(3,860,092) $3,040,514 
                     
LIABILITIES AND SHAREHOLDERS’ EQUITY                    
Current liabilities:                    
Current portion of long-term obligations $-  $8,080  $-  $-  $8,080 
Accounts payable  1,084,460   577,443   69,710   (1,176,339)  555,274 
Accrued expenses and other  13,327   241,849   258   (1,876)  253,558 
Income taxes payable  -   6,453   9,506   -   15,959 
Total current liabilities  1,097,787   833,825   79,474   (1,178,215)  832,871 
Long-term obligations  199,842   1,584,526   -   (1,522,410)  261,958 
Deferred income taxes  -   47,714   -   (6,117)   41,597 
Other non-current liabilities  15,344   35,521   107,476   -   158,341 
                     
Shareholders’ equity:                    
Preferred stock  -   -   -   -   - 
Common stock  156,218   23,753   100   (23,853)  156,218 
Additional paid-in capital  486,145   653,711   19,900   (673,611)  486,145 
Retained earnings  1,103,951   419,877   36,009   (455,886)  1,103,951 
Accumulated other comprehensive loss  (987)  -   -   -   (987)
Other shareholders’ equity  420   -   -   -   420 
Total shareholders’ equity  1,745,747   1,097,341   56,009   (1,153,350)  1,745,747 
                     
Total liabilities and shareholders’ equity $3,058,720  $3,598,927  $242,959  $(3,860,092) $3,040,514 
104
  July 7, 2007 through February 1, 2008 
SUCCESSOR 
DOLLAR
GENERAL
CORPORATION
  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF
OPERATIONS:
               
Net sales $96,300  $5,571,493  $65,057  $(161,357) $5,571,493 
Cost of goods sold  -   3,999,599   -   -   3,999,599 
Gross profit  96,300   1,571,894   65,057   (161,357)  1,571,894 
Selling, general and administrative  103,272   1,337,311   46,524   (161,357)  1,325,750 
Operating profit (loss)  (6,972)  234,583   18,533   -   246,144 
Interest income  (58,786)  (23,206)  (8,013)  86,206   (3,799)
Interest expense  274,104   64,991   8   (86,206)  252,897 
Loss on interest rate swaps  2,390   -   -   -   2,390 
Loss on debt retirement, net  1,249   -   -   -   1,249 
Income (loss) before income taxes  (225,929)  192,798   26,538   -   (6,593)
Income taxes  (76,881)  65,166   9,940   -   (1,775)
Equity in subsidiaries’ earnings, net of taxes  144,230   -   -   (144,230)  - 
Net income (loss) $(4,818) $127,632  $16,598  $(144,230) $(4,818)
  February 3, 2007 through July 6, 2007 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF
OPERATIONS:
               
Net sales $76,945  $3,923,753  $44,206  $(121,151) $3,923,753 
Cost of goods sold  -   2,852,178   -   -   2,852,178 
Gross profit  76,945   1,071,575   44,206   (121,151)  1,071,575 
Selling, general and administrative  166,224   982,321   34,933   (121,151)  1,062,327 
Operating profit (loss)  (89,279)   89,254   9,273   -   9,248 
Interest income  (53,278)  (11,472)  (5,626)  65,330   (5,046)
Interest expense  19,796   55,828   5   (65,330)  10,299 
Income (loss) before income taxes  (55,797)   44,898   14,894   -   3,995 
Income taxes  (4,814)   11,924   4,883   -   11,993 
Equity in subsidiaries’ earnings, net of taxes  42,985   -   -   (42,985)  - 
Net income (loss) $(7,998) $32,974  $10,011  $(42,985) $(7,998)
105
  For the year ended February 2, 2007 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF
OPERATIONS:
               
Net sales $165,463  $9,169,822  $107,383  $(272,846) $9,169,822 
Cost of goods sold  -   6,801,617   -   -   6,801,617 
Gross profit  165,463   2,368,205   107,383   (272,846)  2,368,205 
Selling, general and administrative  149,272   2,154,371   89,132   (272,846)  2,119,929 
Operating profit  16,191   213,834   18,251   -   248,276 
Interest income  (126,628)  (33,521)  (11,543)  164,690   (7,002)
Interest expense  60,856   138,749   -   (164,690)  34,915 
Income before income taxes  81,963   108,606   29,794   -   220,363 
Income taxes  36,513   36,568   9,339   -   82,420 
Equity in subsidiaries’ earnings, net of taxes  92,493   -   -   (92,493)  - 
Net income $137,943  $72,038  $20,455  $(92,493) $137,943 
  For the year ended February 3, 2006 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF
OPERATIONS:
               
Net sales $162,805  $8,582,237  $184,889  $(347,694) $8,582,237 
Cost of goods sold  -   6,117,413   -   -   6,117,413 
Gross profit  162,805   2,464,824   184,889   (347,694)  2,464,824 
Selling, general and administrative  139,879   1,936,514   174,258   (347,694)  1,902,957 
Operating profit  22,926   528,310   10,631   -   561,867 
Interest income  (97,005)  (65,428)  (3,504)  156,936   (9,001)
Interest expense  85,536   97,626   -   (156,936)  26,226 
Income before income taxes  34,395   496,112   14,135   -   544,642 
Income taxes  17,824   172,892   3,771   -   194,487 
Equity in subsidiaries’ earnings, net of taxes  333,584   -   -   (333,584)  - 
Net income $350,155  $323,220  $10,364  $(333,584) $350,155 
106
  July 7, 2007 through February 1, 2008 
SUCCESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF CASH FLOWS:               
Cash flows from operating activities:               
Net income (loss) $(4,818) $127,632  $16,598  $(144,230) $(4,818)
Adjustments to reconcile net income to net cash provided by (used in) operating activities:                    
Depreciation and amortization  21,634   128,431   148   -   150,213 
Deferred income taxes  (2,120)  20,208   1,463   -   19,551 
Loss on debt retirement, net  1,249   -   -   -   1,249 
Noncash share-based compensation  3,827   -   -   -   3,827 
Equity in subsidiaries’ earnings, net  (144,230)  -   -   144,230   - 
Noncash unrealized loss on interest rate swap  3,705   -   -   -   3,705 
Change in operating assets and liabilities:                    
Merchandise inventories  -   79,469   -   -   79,469 
Prepaid expenses and other current assets  (1,120)  4,783   76   -   3,739 
Accounts payable  (40,745)  12,428   (13,078)  -   (41,395)
Accrued expenses and other  (7,456)  6,418   17,099   -   16,061 
Income taxes  (45,416)  44,829   7,935   -   7,348 
Other  (3,169)  4,246   (422)  -   655 
Net cash provided by (used in) operating activities  (218,659)  428,444   29,819   -   239,604 
Cash flows from investing activities:                    
Acquisition, net of cash acquired  (5,649,182)  (1,129,953)   40,744   -   (6,738,391)
Purchases of property and equipment  (1,617)  (82,003)  (21)  -   (83,641)
Purchases of short-term investments  -   -   (3,800)  -   (3,800)
Sales of short-term investments  -   -   21,445   -   21,445 
Purchases of long-term investments  -   -   (7,473)  -   (7,473)
Purchase of promissory note  -   (37,047)  -   -   (37,047)
Proceeds from sale of property and equipment  -   533   -   -   533 
Net cash provided by (used in) investing activities  (5,650,799)  (1,248,470)  50,895   -   (6,848,374)
Cash flows from financing activities:                    
Issuance of common stock  2,759,540   -   -   -   2,759,540 
Borrowings under revolving credit facility  1,522,100   -   -   -   1,522,100 
Repayments of borrowings under revolving credit facility  (1,419,600)  -   -   -   (1,419,600)
Issuance of long-term obligations  4,176,817   -   -   -   4,176,817 
Repayments of long-term obligations  (236,084)  (5,861)  -   -   (241,945)
Repurchase of common stock  (541)  -   -   -   (541)
Changes in intercompany note balances, net  (837,062)   885,266   (48,204)  -   - 
Debt issuance costs  (87,392)  -   -   -   (87,392)
Net cash provided by (used in) financing activities  5,877,778   879,405   (48,204)  -   6,708,979 
Net increase in cash and cash equivalents  8,320   59,379   32,510   -   100,209 
Cash and cash equivalents, beginning of period  -   -   -   -   - 
Cash and cash equivalents, end of year $8,320  $59,379  $32,510  $-  $100,209 
107
  February 3, 2007 through July 6, 2007 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF CASH FLOWS:               
Cash flows from operating activities:               
Net income (loss) $(7,998) $32,974  $10,011  $(42,985) $(7,998)
Adjustments to reconcile net income (loss) to net cash provided by operating activities:                    
Depreciation and amortization  9,051   74,770   96   -   83,917 
Deferred income taxes  (7,982)  (9,194)  (3,698)  -   (20,874)
Noncash share-based compensation  45,433   -   -   -   45,433 
Tax benefit from stock option exercises  (3,927)  -   -   -   (3,927)
Equity in subsidiaries’ earnings, net  (42,985)  -   -   42,985   - 
Change in operating assets and liabilities:                    
Merchandise inventories  -   16,424   -   -   16,424 
Prepaid expenses and other current assets  5,758   (11,762)  (180)  -   (6,184)
Accounts payable  44,909   (23,103)  12,988   -   34,794 
Accrued expenses and other  7,897   36,021   9,077   -   52,995 
Income taxes  (24,998)  31,741   (3,934)  -   2,809 
Other  21   4,726   (190)  -   4,557 
Net cash provided by operating activities  25,179   152,597   24,170   -   201,946 
Cash flows from investing activities:                    
Purchases of property and equipment  (5,321)  (50,737)  (95)  -   (56,153)
Purchases of short-term investments  -   -   (5,100)  -   (5,100)
Sales of short-term investments  -   -   9,505   -   9,505 
Purchases of long-term investments  -   -   (15,754)  -   (15,754)
Proceeds from sale of property and equipment  -   620   -   -   620 
Net cash used in investing activities  (5,321)  (50,117)  (11,444)  -   (66,882)
Cash flows from financing activities:                    
Repayments of long-term obligations  (148)  (4,352)  -   -   (4,500)
Payment of cash dividends  (15,710)  -   -   -   (15,710)
Proceeds from exercise of stock options  41,546   -   -   -   41,546 
Tax benefit of stock options  3,927   -   -   -   3,927 
Changes in intercompany note balances, net  75,840   (86,988)  11,148   -   - 
Net cash provided by (used in) financing activities  105,455   (91,340)  11,148   -   25,263 
                     
Net increase in cash and cash equivalents  125,313   11,140   23,874   -   160,327 
Cash and cash equivalents, beginning of year  114,310   58,107   16,871   -   189,288 
Cash and cash equivalents, end of period $239,623  $69,247  $40,745  $-  $349,615 

108

  For the year ended February 2, 2007 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF CASH FLOWS:               
Cash flows from operating activities:               
Net income $137,943  $72,038  $20,455  $(92,493) $137,943 
Adjustments to reconcile net income to net cash provided by operating activities:                    
Depreciation and amortization  21,436   178,920   252   -   200,608 
Deferred income taxes  (1,845)  (35,118)  (1,255)  -   (38,218)
Noncash share-based compensation  7,578   -   -   -   7,578 
Tax benefit from stock option exercises  (2,513)  -   -   -   (2,513)
Noncash inventory adjustments and asset impairments  -   78,115   -   -   78,115 
Equity in subsidiaries’ earnings, net  (92,493)  -   -   92,493   - 
Change in operating assets and liabilities:                    
Merchandise inventories  -   (28,057)  -   -   (28,057)
Prepaid expenses and other current assets  (1,042)  (13,655)  9,286   -   (5,411)
Accounts payable  (4,246)  39,189   18,601   -   53,544 
Accrued expenses and other  (225)  38,564   14   -   38,353 
Income taxes  (2,558)  (29,524)  (3,083)  -   (35,165)
Other  430   (1,850)  -   -   (1,420)
Net cash provided by operating activities  62,465   298,622   44,270   -   405,357 
Cash flows from investing activities:                    
Purchases of property and equipment  (13,270)  (247,788)  (457)  -   (261,515)
Purchases of short-term investments  (38,700)  -   (10,975)  -   (49,675)
Sales of short-term investments  38,700   -   12,825   -   51,525 
Purchases of long-term investments  -   -   (25,756)  -   (25,756)
Insurance proceeds related to property and equipment  -   1,807   -   -   1,807 
Proceeds from sale of property and equipment  143   1,496   11   -   1,650 
Net cash used in investing activities  (13,127)  (244,485)  (24,352)  -   (281,964)
Cash flows from financing activities:                    
Borrowings under revolving credit facility  2,012,700   -   -   -   2,012,700 
Repayments of borrowings under revolving credit facility  (2,012,700)  -   -   -   (2,012,700)
Repayments of long-term obligations  97   (14,215)  -   -   (14,118)
Payment of cash dividends  (62,472)  -   -   -   (62,472)
Proceeds from exercise of stock options  19,894   -   -   -   19,894 
Repurchases of common stock  (79,947)  -   -   -   (79,947)
Tax benefit of stock options  2,513   -   -   -   2,513 
Changes in intercompany note balances, net  74,438   (39,676)  (34,762)  -   - 
Other financing activities  39   (623)  -   -   (584)
Net cash used in financing activities  (45,438)  (54,514)  (34,762)  -   (134,714)
                     
Net increase (decrease) in cash and cash equivalents  3,900   (377)  (14,844)  -   (11,321)
Cash and cash equivalents, beginning of year  110,410   58,484   31,715   -   200,609 
Cash and cash equivalents, end of year $114,310  $58,107  $16,871  $-  $189,288 
109
  For the year ended February 3, 2006 
PREDECESSOR DOLLAR GENERAL CORPORATION  GUARANTOR SUBSIDIARIES  
OTHER
SUBSIDIARIES
  ELIMINATIONS  
CONSOLIDATED
TOTAL
 
STATEMENTS OF CASH FLOWS:               
Cash flows from operating activities:               
Net income $350,155  $323,220  $10,364  $(333,584) $350,155 
Adjustments to reconcile net income to net cash provided by operating activities:                    
Depreciation and amortization  20,046   166,600   178   -   186,824 
Deferred income taxes  (750)  16,692   (7,698)  -   8,244 
Noncash share-based compensation  3,332   -   -   -   3,332 
Tax benefit from stock option exercises  6,457   -   -   -   6,457 
Equity in subsidiaries’ earnings, net  (333,584)  -   -   333,584   - 
Change in operating assets and liabilities:                    
Merchandise inventories  -   (97,877)  -   -   (97,877)
Prepaid expenses and other current assets  (4,546)  23,200   (29,284)  -   (10,630)
Accounts payable  (26,052)  (54,502)  167,784   -   87,230 
Accrued expenses and other  (12,210)  52,719   (133)  -   40,376 
Income taxes  13   (38,619)  12,589   -   (26,017)
Other  2,919   4,472   -   -   7,391 
Net cash provided by operating activities  5,780   395,905   153,800   -   555,485 
Cash flows from investing activities:                    
Purchases of property and equipment  (18,089)  (265,954)  (69)  -   (284,112)
Purchases of short-term investments  (123,925)  -   (8,850)  -   (132,775)
Sales of short-term investments  166,350   500   -   -   166,850 
Purchases of long-term investments  -   -   (16,995)  -   (16,995)
Insurance proceeds related to property and equipment  -   1,210   -   -   1,210 
Proceeds from sale of property and equipment  100   1,319   -   -   1,419 
Net cash provided by (used in) investing activities  24,436   (262,925)  (25,914)  -   (264,403)
Cash flows from financing activities:                    
Borrowings under revolving credit facility  232,200   -   -   -   232,200 
Repayments of borrowings under revolving credit facility  (232,200)  -   -   -   (232,200)
Issuance of long-term borrowing  -   14,495   -   -   14,495 
Repayments of long-term obligations  (4,969)  (9,341)  -   -   (14,310)
Payment of cash dividends  (56,183)  -   -   -   (56,183)
Proceeds from exercise of stock options  29,405   -   -   -   29,405 
Repurchases of common stock  (297,602)  -   -   -   (297,602)
Changes in intercompany note balances, net  281,481   (165,005)  (116,476)  -   - 
Other financing activities  892   -   -   -   892 
Net cash used in financing activities  (46,976)  (159,851)  (116,476)  -   (323,303)
                     
Net increase (decrease) in cash and cash equivalents  (16,760)  (26,871)  11,410   -   (32,221)
Cash and cash equivalents, beginning of year  127,170   85,355   20,305   -   232,830 
Cash and cash equivalents, end of year $110,410  $58,484  $31,715  $-  $200,609 

110
ITEM 9.CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

Not Applicable.
ITEM 9A(T).   CONTROLS AND PROCEDURES
(a)           Disclosure Controls and Procedures.  Under the supervision and with the participation of our management, including our principal executive officer and principal financial officer, we conducted an evaluation of our disclosure controls and procedures, as such term is defined under Rule 13a-15(e) or 15d-15(e) promulgated under the Securities Exchange Act of 1934, as amended (the “Exchange Act”). Based on this evaluation, our principal executive officer and our principal financial officer concluded that our disclosure controls and procedures were effective as of the end of the period covered by this report.

(b)           Management’s Annual Report on Internal Control Over Financial Reporting. Our management prepared and is responsible for the consolidated financial statements and all related financial information contained in this report. This responsibility includes establishing and maintaining effective internal control over financial reporting as defined in Rule 13a-15(f) or 15d-15(f) under the Securities Exchange Act of 1934. Our internal control over financial reporting is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with United States generally accepted accounting principles.

To comply with the requirements of Section 404 of the Sarbanes–Oxley Act of 2002, management designed and implemented a structured and comprehensive assessment process to evaluate its internal control over financial reporting. The assessment of the effectiveness of our internal control over financial reporting was based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Because of its inherent limitations, a system of internal control over financial reporting can provide only reasonable assurance and may not prevent or detect misstatements. Management regularly monitors our internal control over financial reporting, and actions are taken to correct any deficiencies as they are identified. Based on its assessment, management has concluded that Dollar General’s internal control over financial reporting is effective as of February 1, 2008.

This annual report does not include an attestation report of Ernst & Young LLP regarding internal control over financial reporting. Management’s report was not subject to attestation by Ernst & Young LLP pursuant to temporary rules of the Securities and Exchange Commission that permit us to provide only management’s report in this annual report.

(c)           Changes in Internal Control Over Financial Reporting.  There have been no changes during the quarter ended February 1, 2008 in our internal control over financial reporting (as defined in Exchange Act Rule 13a-15(f)) that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

111
PART III

ITEM 10.DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

(a)           Information Regarding Directors and Executive Officers.  Information regarding our current directors and executive officers as of March 17, 2008 is set forth below. The Company’sEach of our directors holds office for a term of 1 year or until his or her successor is elected and qualified. Our executive officers serve at the pleasure of the Board of Directors and are elected annually by the Board to serve until their successors are duly elected.

There are no familial relationships between any of our directors or executive officers.

Name

Age

Position

David A. Perdue

55

Chairman and

Michael M. Calbert45Director (Chairman of the Board)
Raj Agrawal34Director
Adrian Jones43Director
Dean B. Nelson49Director
Richard W. Dreiling54Director; Chief Executive Officer

David L. Beré

54President & Chief Operating Officer
David M. Tehle

48

51

Executive Vice President and& Chief Financial Officer

Beryl J. Buley

46Division President, Merchandising, Marketing & Supply Chain
Kathleen R. Guion

53

56

Division President, Store Operations & Store Development

Susan S. Lanigan45Executive Vice President Store Operations and Store Development

& General Counsel

Thomas J. Hartshorn

Challis M. Lowe

54

62

Executive Vice President, New Business Development

Susan S. Lanigan

42

Executive Vice President and General Counsel

Stonie R. O’Briant

51

Executive Vice President, Merchandising, Marketing and Strategic Planning

Lloyd Davis

48

Senior Vice President, Supply Chain Operations

Robert A. Lewis

43

Senior Vice President and Controller

Jeffrey R. Rice

41

Vice President, Human Resources

Anita C. Elliott43Senior Vice President & Controller
Wayne Gibson49Senior Vice President, Dollar General Markets & Shrink


Mr. PerdueCalbert has been with KKR for eight years and during that time has been directly involved with several portfolio companies and participated in another four investments. He heads the Retail industry team. Mr. Calbert is currently on the board of directors of Toys “R” Us, Inc. and U.S. Foodservice. Mr. Calbert joined Randall's Food Markets as the Chief Financial Officer in 1994, ultimately taking the company through a transaction with KKR in June 1997. He left Randall’s Food Markets after the company was sold in September 1999 and joined KKR. Mr. Calbert started his professional career as a consultant with Arthur Andersen Worldwide, where his primary focus was on the retail/consumer industry. He has been a member of our Board of Directors since July 2007. KKR is an affiliate of Dollar GeneralGeneral.

Mr. Agrawal joined KKR in 2006 and is a member of the Retail and Energy industry teams. Prior to joining KKR, he was a Vice President with Warburg Pincus, where he was involved in the execution and oversight of a number of investments in the energy sector. Mr. Agrawal’s prior experience also includes Thayer Capital Partners, where he played a role in the firm’s business services investments, and McKinsey & Co., where he provided strategic and M&A advice to clients in a variety of industries. He has been a member of our Board of Directors since July 2007. KKR is an affiliate of Dollar General.

112
Mr. Jones has been with Goldman, Sachs & Co. since 1994. He is a managing director in Principal Investment Area (PIA) in New York where he focuses on healthcare and consumer-related opportunities and sits on the Global Investment Committee. Mr. Jones joined Goldman, Sachs & Co. as an associate in the Investment Banking Division and, after two years in the Communications and Media Department and mobility assignments in Equity Capital Markets and in the Executive Office of Goldman Sachs International, he joined PIA in London in 1998. He returned to New York with PIA in 2002 and became a managing director later that year. He became a partner in 2004. Goldman, Sachs & Co. is an affiliate of Dollar General. Mr. Jones is currently on the board of directors of Biomet, Inc., Burger King Holdings, Inc., Education Management Corporation, HealthMarkets, Inc. and Signature Hospital, LLC. He has been a member of our Board of Directors since July 2007.

Mr. Nelson has been the Chairman of the Board (since April 2, 2003 as2003) and was previously President and Chief Executive Officer (since October 2005 – September 2007) of PRIMEDIA Inc., a targeted media company. He has served as the Chief Executive Officer of Capstone Consulting LLC, a strategic consulting firm, since 2000. From August 1985 to February 2000, Mr. Nelson was employed by Boston Consulting Group, Inc., a strategic consulting firm, where he served as a Senior Vice President from December 1998 to February 2000 and asheld various other positions from August 1985 to November 1998. Mr. Nelson is a member of the Board of Directors.Directors of Sealy Corporation and Toys “R” Us, Inc. He was elected Chairman on June 2, 2003.has been a member of our Board of Directors since July 2007.

Mr. Dreiling joined Dollar General in January 2008 as Chief Executive Officer and a member of our Board of Directors. Prior to joining Dollar General, Mr. PerdueDreiling served as Chief Executive Officer, President and a director of Duane Reade Holdings, Inc. and Duane Reade Inc., the largest drugstore chain in New York City, from November 2005 until January 2008 and as Chairman of the Board of Duane Reade from March 2007 until January 2008. Mr. Dreiling previously served as Executive Vice President—Chief Operating Officer of Longs Drug Store Corporation, an operator of a chain of retail drug stores on the West Coast and Hawaii, since March 2005, after having joined Longs in July 2003 as Executive Vice President and Chief Operations Officer. From 2000 to 2003, Mr. Dreiling served as Executive Vice President—Marketing, Manufacturing and Distribution at Safeway, Inc., a food and drug retailer. Prior to that, Mr. Dreiling served from 1998 to 2000 as President of Vons, a Southern California food and drug division of Safeway.

Mr. Beré has served as our President and Chief Operating Officer since December 2006. He also served as our Interim Chief Executive Officer from July 6, 2007 to January 21, 2008. He served as a member of our Board of Directors from 2002 until March 2008. He served from December 2003 until June 2005 as Corporate Vice President of Ralcorp Holdings, Inc. and as the President and Chief Executive Officer of Pillowtex Corporation,Bakery Chef, Inc., a leading producermanufacturer of frozen bakery products that was acquired by Ralcorp Holdings in December 2003. From 1998 until the acquisition, Mr. Beré was the President and marketerChief Executive Officer of home textiles, from July 2002 through March 27, 2003. Pillowtex filed for bankruptcy in July 2003 after emerging from a previous bankruptcy in May 2002. Mr. PerdueBakery Chef, Inc., and also served as Executive Vice President (January 2001on its Board of Directors. From 1996 to July 2002) and Senior Vice President, Global Supply Chain (September 1998, to October 1999) of Reebok International Ltd., as wellhe served as President and Chief Executive Officer (January 2001of McCain Foods USA, a manufacturer and marketer of frozen foods and a subsidiary of McCain Foods Limited. From 1978 to July 2002)1995, Mr. Beré worked for The Quaker Oats
113
Company and Executive Viceserved as President Global Operating Units (October 1999 to January 2001) of the Reebok Brand. From 1994Breakfast Division from 1992 to September 1998, Mr. Perdue was Senior Vice1995 and President of Haggar, Inc., where he was responsible for all aspects of operationsthe Golden Grain Division from planning through distribution. From 1992 until 1994, he was based in Hong Kong as Senior Vice President of Operations for Sara Lee Corp. Mr. Perdue has served as a director of Alliant Energy Corporation since 2001.

1990 to 1992.


Mr. Tehle joined Dollar General in June 2004 as Executive Vice President and Chief Financial Officer. He served from 1997 to June 2004 as Executive Vice President and Chief Financial Officer of Haggar Corporation, a manufacturing, marketing and retail corporation. From 1996 to 1997, he was Vice President of Finance for a division of The Stanley Works, one of the world’s largest manufacturers of tools, and from 1993 to 1996, he was Vice President and Chief Financial Officer of Hat Brands, Inc., a hat manufacturer. Earlier in his career, Mr. Tehle has served in a variety of financial-related roles at Ryder System, Inc. and Texas Instruments. Mr. Tehle serves as a director of Jack in the Box, Inc. since

Mr. Buley joined Dollar General in December 2004.

2005 as Division President, Merchandising, Marketing and Supply Chain. Prior to joining Dollar General, he served from April 2005 through November 2005 as Executive Vice President, Retail Operations of Mervyn’s Department Store, a privately held company operating 265 department stores, where he was responsible for store operations, supply chain (including 4 distribution centers), real estate, construction, visual merchandising and interior planning, and loss prevention. From September 2003 to March 2005, Mr. Buley worked for Sears, Roebuck and Company, a multi-line retailer offering a wide array of merchandise and related services. As Sears’ Executive Vice President and General Manager of Retail Store Operations, he was responsible for all store-based activities. Prior to that, he had responsibility for 8 distinct businesses operating in over 2,200 locations as Sears’ Senior Vice President and General Merchandise Manager of the Specialty Retail Group. Prior to joining Sears, Mr. Buley spent 15 years in various positions with Kohl’s Corporation, which operates a chain of specialty department stores, including Executive Vice President of Stores, responsible for store operations, and Senior Vice President of Stores.


Ms. Guion joined Dollar General in October 2003 as Executive Vice President, Store Operations. She was named Executive Vice President, Store Operations and Store Development in February 2005, and was promoted to Division President, Store Operations and Store Development in November 2005. From 2000 until joining Dollar General, Ms. Guion served as President and Chief Executive Officer of Duke and Long Distributing Company, a convenience store chain operator and wholesale distributor of petroleum products that filed for bankruptcy in November 2000.products. Prior to that time, she served as an operating partner for Devon Partners (1999-2000), where she developed operating plans and assisted in the identification of acquisition targets in the convenience store





industry, and as President and Chief Operating Officer of E-Z Serve Corporation (1997-1998), an owner/operator of convenience stores, mini-marts and gas marts. From 1987 to 1997, Ms. Guion served as the Vice President and General Manager of the largest division (Chesapeake Division) of company-owned stores at 7-Eleven, Inc., a convenience store chain. Other positions held by Ms. Guion during her tenure at 7-Eleven include District Manager, Zone Manager, Operations Manager, and Division Manager (Midwest Division).


Mr. Hartshorn joined Dollar General as Vice President, Operations in 1992 and became Vice President, Merchandising Operations in 1993.  He was named Senior Vice President, Logistics and Merchandising Operations in February 2000 and then Executive Vice President, Merchandising in February 2001. He assumed his current position as Executive Vice President, New Business Development in August 2003. Before joining Dollar General, Mr. Hartshorn was Director of Store Operations for McCrory/TG&Y, a retailing company. Mr. Hartshorn joined TG&Y in 1968 and held various operations management positions, including Corporate Directors of Store Operations, Expense and Budget Control; Territorial Director of Store Operations; District Manager; and Store Manager.


Ms. Lanigan joined Dollar General in July 2002 as Vice President, General Counsel and Corporate Secretary. She was promoted to Senior Vice President in October 2003 and to Executive Vice President in March 2005. Prior to joining Dollar General, Ms. Lanigan served as Senior Vice President, General Counsel and Secretary at Zale Corporation, a specialty retailer of
114
fine jewelry, headquartered in Irving, Texas.jewelry. During her six years with Zale, Ms. Lanigan held various positions, including Associate General Counsel. Prior to that, she held legal positions with both Turner Broadcasting System, Inc. and the law firm of Troutman Sanders law firm.

LLP.


Mr. O’Briant

Ms. Lowe joined Dollar General in 1991 as Divisional Merchandise Manager.  Mr. O’Briant was named General Merchandise Manager in 1992, Vice President, Merchandising in 1995, Senior Vice President, Merchandising and MIS in 1998, Executive Vice President of Human Resources in September 2005. From 2000 to 2004, Ms. Lowe was Executive Vice President of Human Resources, Corporate Communications, and Public Affairs for Ryder System, Inc., a logistics and transportation services company. She was Executive Vice President of Human Resources and Administration Services for Beneficial Management Corporation, an international consumer finance company, from 1997 to 1999, and Executive Vice President Operations in February 2001. He assumed his current positionof Human Resources and Communications for Heller International, a commercial finance company, from 1993 to 1997. She also served as ExecutiveSenior Vice President, Merchandising, Marketing and Strategic Planning in August 2003. BeforeAdministrative Services, for Sanwa Business Credit Corporation from 1985 to 1993. Prior to joining Dollar General, Mr. O’BriantSanwa, she spent 1713 years with Fred’s, Inc., a discount retailer,Continental Illinois Leasing Corporation and Continental Bank, where he served in a number of executive management positions, includingher last position was Vice President Hardlines, Vice President, Softlines, and Vice President, Household Goods. He also owned his own business, O’Briant Enterprises,Division Head. Ms. Lowe serves as a director of The South Financial Group, Inc. from 1989 to 1991, specializing in the service sector serving retail and wholesale cus tomers and the military.


Mr. Davis

Ms. Elliott joined Dollar General as Senior Vice President Supply Chain Operationsand Controller in August 2005. Prior to joining Dollar General, she served as Vice President and Controller of Big Lots, Inc., a closeout retailer, from May 2001 to August 2005. Overseeing a staff of 140 employees at Big Lots, she was responsible for accounting operations, financial reporting and internal audit. Prior to serving at Big Lots, she served as Vice President and Controller for Jitney-Jungle Stores of America, Inc., a grocery retailer, from April 1998 to March 2001. At Jitney-Jungle, Ms. Elliott was responsible for the accounting operations and the internal and external financial reporting functions. Prior to serving at Jitney-Jungle, she practiced public accounting for 12 years, 6 of which were with Ernst & Young LLP.

Mr. Gibson joined Dollar General as Senior Vice President of Dollar General Market in November 2005. He was named Senior Vice President of Dollar General Markets and Shrink in January 2008. Prior to joining Dollar General, he assembled and led teams of investment bankers and private equity fund managers in several mid-sized business acquisition efforts from 2004 to November 2005. From 1999 until 2004, heHe also served as theSenior Vice President of Global Logistics for Reebok International Limited, a global company that designs(2000-2003) and markets sports and fitness products, where he was directly responsible for all company-managed distribution centers worldwide. He also served as the Vice President of North American DistributionImports and Logistics (1998-2000) for Reebok International Limited from March 1999The Home Depot, Inc., a home improvement retailer. He founded Gibson Associates, a management consulting firm, in 1997 and served there until July 1999.1998. Prior to his service at Reebok,that, he served as thein various positions at Rite Aid Corporation from 1994 to 1997, including Senior Vice President of Distribution (1998-1999) of Tropical Sportswear International, a leading producer and marketer of high quality casual and dress apparel principally for men, and as the Vice President of Logistics (1995-1998) and in various manufacturing positions (1978-1995) of Haggar Clothing Co., a subsidiary of Haggar Corp. which designs, manufactures, imports and markets casual and dress men’s and women’s apparel products, where he managed manufacturing and distribution facilities and oversaw the company-owned fleet.






Mr. Lewis joined Dollar General as Vice President and Controller in October 2001.Logistics. He was promoted to Senior Vice President in August 2004. From May 1999 through September 2001, Mr. Lewisalso served as Group Vice President, overseeing operational, planning and administrative functions for Lux Corp., a now-defunct apparel retailer that conducted business as “Mr. Rags” and was a then wholly-owned subsidiary of Claire’s Stores, Inc. Mr. Lewis served as Vice President of Finance from February 1996 until May 1999, and as Controller from November 1988 until May 1999, for Claire’s Stores, Inc., an international retailer of value-priced costume jewelry and accessories. Prior to joining Claire’s Stores, Mr. Lewis was employed with Arthur Andersen & Co.


Mr. Rice began his career with Dollar General in June 1981retailers as a part-time summer employeemanagement consulting principal (1993-1994) and management consultant (1984-1993) at Deloitte & Touche.


(b)           Procedures for Shareholders to Nominate Directors; Arrangements to Serve as Directors.  The procedures by which security holders may recommend nominees to our Board of Directors that were contained in the Scottsville, Kentucky Distribution Center. In May 1984, he began working full-time as the first writer and editor of Dollar General’s employee newsletter. Upon graduation from college, Mr. Rice served as assistantour Bylaws prior to the Vice PresidentMerger were eliminated as a result, and at the effective time, of Human Resources for one year. Over the next nine years,Merger.

All of our directors are managers of Buck Holdings, LLC. The Second Amended and Restated Limited Liability Company Agreement of Buck Holdings, LLC generally requires that the members of Buck Holdings, LLC take all necessary action to ensure that the persons who
115
serve as managers of Buck Holdings, LLC also serve on our Board. In addition, Mr. Rice served in various positions in human resources at Dollar General, including Corporate Recruiter, Scottsville DC and Office HR Manager, and Corporate Personnel Manager, before being promotedDreiling’s employment agreement provides that he will continue to Directorserve as a member of Human Resources in 1996. Mr. Rice was promoted to Senior Director, Human Resources in 1999 and then to his current positionour Board as Vice President, Human Resources in September 2002.

long as he remains our Chief Executive Officer.


PART II


ITEM 5.

MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES


The Company’s

Because of these requirements, together with Buck Holdings’ controlling ownership of our outstanding common stock, we do not currently have a policy or procedures with respect to shareholder recommendations for nominees to our Board.

(c)           Audit Committee Financial Expert.   Our Audit Committee is composed of Messrs. Calbert and Agrawal. In light of our status as a closely held company and the absence of a public trading market for our common stock, our Board has not designated any member of the Audit Committee as an “audit committee financial expert.” Though not formally considered by our Board given that our securities are not registered or traded on any national securities exchange, based upon the listing standards of the New York Stock Exchange under the symbol “DG.”  The following table sets forth the range of the high and low sales prices of the Company’s(the “NYSE”) upon which our common stock during each quarterwas listed prior to the Merger, we do not believe that Messrs. Calbert or Agrawal would be considered independent because of their relationships with KKR which indirectly owns, through its interests in 2004 and 2003, as reported on the New York Stock Exchange, together with dividends.  

2004

 

First
Quarter

 

Second
Quarter

 

Third
Quarter

 

Fourth
Quarter

High

 

$

23.19

  

$

20.60

  

$

20.94

  

$

21.29

 

Low

 

$

18.07

  

$

16.91

  

$

17.69

  

$

19.04

 

Dividends

 

$

.040

  

$

.040

  

$

.040

  

$

.040

 
                 

2003

 

First
Quarter

 

Second
Quarter

 

Third
Quarter

 

Fourth
Quarter

High

 

$

15.20

  

$

19.75

  

$

23.40

  

$

22.67

 

Low

 

$

9.50

  

$

14.87

  

$

18.16

  

$

18.41

 

Dividends

 

$

.035

  

$

.035

  

$

.035

  

$

.035

 


The Company’s stock price at the closeParent, over 50% of the market on April 4, 2005, was $21.71.





There were approximately 12,639 shareholders of record of the Company’sour outstanding common stock, as of April 4, 2005. The Company has paid cash dividends on its common stock since 1975.  The Board of Directors regularly reviews the Company’s dividend plans to ensure that they are consistent with the Company’s earnings performance, financial condition, need for capital and other relevant factors.  Consistent with that review, the Board of Directors authorized dividends of $0.04 per share for each quarter of 2004.

The following table sets forth information with respect to purchases of shares of the Company’s common stock made during the quarter ended January 28, 2005 by or on behalf of the Company or any “affiliated purchaser,” as defined by Rule 10b-18(a)(3) of the Securities Exchange Act of 1934:


 

Period

 

Total Number
of Shares Purchased (a)

 

Average Price Paid per Share

 

Total Number
of Shares Purchased as Part of Publicly Announced Plans or Programs (b)

 

Maximum Number of Shares that May Yet Be Purchased Under the Plans or Programs (b)

 
  

10/30/04-11/30/04

 

--

  

--

  

-- 

  

10,000,380

  
  

12/01/04-12/31/04

 

232,192

  

$20.10

  

203,900 

  

9,796,480

  
  

01/01/05-01/28/05

 

336,335

  

$20.41

  

335,600 

  

9,460,880

  
  

Total

 

568,527

  

$20.28

  

539,500 

  

9,460,880

  


(a)  Includes 29,027 shares purchased in open market transactions in satisfaction of the Company’s obligations under certain employee benefit plans.


(b)  On March 13, 2003, the Company announced that its Board of Directors had authorized the Company to repurchase up to 12 million shares of the Company’s outstanding common stock.  That repurchase authorization expired on March 13, 2005.  In addition, on November 30, 2004, the Company’s Board of Directors approved an additional share repurchase program of 10 million shares.  That repurchase authorization expires on November 30, 2005.  Under both authorizations, purchases may be made in the open market or in privately negotiated transactions from time to time subject to market conditions.  See “Liquidity and Capital Resources” in Item 7 below.






 ITEM 6.

SELECTED FINANCIAL DATA


The following table sets forth selected consolidated financial information for each of the five most recent fiscal years.  This information should be read in conjunction with the Consolidated Financial Statements and Notes thereto, included in Item 8 of this report, and Management’s Discussion and Analysis of Financial Condition and Results of Operations, included in Item 7 of this report.


(In thousands except per share and operating data)

 

January 28,

2005

 

January 30,

2004 (c)

 

January 31,

2003 (c)

 

February 1,

2002 (c)

 

February 2,

2001 (c)(d)

SUMMARY OF OPERATIONS:

              

Net sales

$

7,660,927 

 

$

6,871,992 

 

$

6,100,404 

 

$

5,322,895 

 

$

4,550,571 

Gross profit

$

2,263,192 

 

$

2,018,129 

 

$

1,724,266 

 

$

1,509,412 

 

$

1,250,903 

Penalty expense and litigation settlement expense (proceeds)

$

– 

 

$

10,000 

 

$

(29,541)

 

$

– 

 

$

162,000 

Income before income taxes

$

534,757 

 

$

476,523 

 

$

410,337 

 

$

322,174 

 

$

102,202 

Net income

$

344,190 

 

$

299,002 

 

$

262,351 

 

$

203,874 

 

$

66,955 

Net income as a % of sales

 

4.5% 

  

4.4% 

  

4.3% 

  

3.8% 

  

1.5% 

               

PER SHARE RESULTS (a):

              

Basic earnings per share

$

1.04 

 

$

0.89 

 

$

0.79 

 

$

0.61 

 

$

0.20 

Diluted earnings per share

$

1.04 

 

$

0.89 

 

$

0.78 

 

$

0.61 

 

$

0.20 

Cash dividends per share of common stock

$

0.16 

 

$

0.14 

 

$

0.13 

 

$

0.13 

 

$

0.12 

Weighted average diluted shares

 

332,068 

  

337,636 

  

335,050 

  

335,017 

  

333,858 

               

FINANCIAL POSITION:

              

Assets

$

2,841,004 

 

$

2,621,117 

 

$

2,303,619 

 

$

2,526,481 

 

$

2,271,217 

Long-term obligations

$

258,462 

 

$

265,337 

 

$

330,337 

 

$

339,470 

 

$

720,764 

Shareholders’ equity

$

1,684,465 

 

$

1,554,299 

 

$

1,267,445 

 

$

1,023,690 

 

$

847,374 

Return on average assets (b)

 

12.7% 

  

12.3% 

  

10.9% 

  

8.6% 

  

3.2% 

Return on average equity (b)

 

22.1% 

  

21.4% 

  

23.2% 

  

22.2% 

  

8.0% 

               

OPERATING DATA:

              

Retail stores at end of period

 

7,320 

  

6,700 

  

6,113 

  

5,540 

  

5,000 

Year-end selling square feet

 

50,015,000 

  

45,354,000 

  

41,201,000 

  

37,421,000 

  

33,871,000 

Highly consumable sales

 

63% 

  

61% 

  

60% 

  

58% 

  

55% 

Seasonal sales

 

17% 

  

17% 

  

17% 

  

17% 

  

16% 

Home products sales

 

11% 

  

13% 

  

13% 

  

14% 

  

17% 

Basic clothing sales

 

9% 

  

9% 

  

10% 

  

11% 

  

12% 

               


(a)

As adjusted to give retroactive effect to all common stock splits.

(b)

Average assets or equity, as applicable, is calculated using the fiscal year-end balance and the four preceding fiscal quarter-end balances.

(c)

The Company restated its financial statements for fiscal years 2000 through 2003 as discussed in Note 2 to the Consolidated Financial Statements for the year ended January 28, 2005, included in Item 8 of this report. For fiscal years 2001 and 2000, the Restatement reduced previously reported net income by approximately $3.6 million and $3.7 million, respectively, or approximately $.01 per diluted share in each year.

(d)

53-week year.





ITEM 7.

MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS


General

Accounting Periods.  The following text contains references to years 2005, 2004, 2003 and 2002, which represent fiscal years ending or ended February 3, 2006, January 28, 2005, January 30, 2004 and January 31, 2003, respectively. Fiscal year 2005 will be a 53-week accounting period while 2004, 2003 and 2002 were 52-week accounting periods. The Company’s fiscal year ends on the Friday closest to January 31. This discussion and analysis should be read with, and is qualified in its entirety by, the Consolidated Financial Statements and the notes thereto.

Executive Overview. Fiscal 2004 was a significant year of investment for the Company. Despite a difficult economic environment for its customers, the Company successfully implemented many of the important operating initiatives outlined in last year’s Form 10-K, while also achieving improved financial results.  The following are some of the more significant operating accomplishments during 2004:

·

The opening of 722 new stores, including stores in 3 additional states;

·

The addition of coolers (which allow the Company’s stores to carry perishable products) in the majority of stores, bringing the total number of stores with coolers to 6,755 at January 28, 2005. In addition, over 6,300 stores were certified and accepting electronic benefit transfers (“EBT”);

·

The rollout of automatic inventory replenishment to all stores, completed during the first quarter of 2004, and the related improvement of inventory in-stock levels;

·

The rollout of the acceptance of the Discover card and debit cards to all stores;

·

The design completion and initiation of implementation of the “EZstore” project, which is designed to improve many facets of inventory flow from distribution centers to consumers and other areas of store operations, including labor scheduling, hiring and training and product presentation;

·

The ongoing construction of the Company’s eighth distribution center in South Carolina and substantial completion of expansion projects in 2 other distribution facilities to increase overall distribution capacity;

·

The implementation of a merchandising data warehouse;

·

The increased store manager training and reduction of store manager turnover to under 50% in 2004.


In 2005, the Company will focus its efforts on accomplishing the following operating initiatives:

·

Opening 730 new Dollar General stores, including at least 30 new Dollar General Market stores, and continuing to look westward for further geographical expansion;

·

Continuing to invest in its EZstore project with the goal of rolling it out to half of its stores by the end of 2005;





·

Reducing inventory levels on a per-store basis by revisiting replenishment assumptions, safety stock levels needed in distribution centers and improving execution of selling through seasonal and other non-core merchandise;

·

Continuing to test Dollar General Market store formats and additional geographic areas for these stores;

·

Continuing to focus on hiring practices and instilling increased accountability among the Company’s employees;

·

Identifying a location for and commencing construction on a ninth distribution center for a planned opening during 2006.


The Company can provide no assurance that it will be successful in executing these initiatives, nor can the Company guarantee that the successful implementation of these initiatives will result in superior financial performance.


In addition to undertaking the operating initiatives described above, the Company also intends to focus on and evaluate the status of certain other issues. Those issues are likely to include:

·

The appropriate level of share repurchases for 2005 (in 2004 the Company spent $209.3 million repurchasing approximately 11 million shares);

·

The impact on the Company, if any, from recent or potential legislation affecting minimum wages;

·

The impact of increasing fuel costs;

·

The impact of increasing health care and workers’ compensation costs;

·

The progress of the wage and hour collective action litigation in the state of Alabama, discussed more fully in Note 8 to the Consolidated Financial Statements;

·

The Company’s rating agency debt ratings.


The Company measures itself against seven key financial metrics that it believes provide a well-balanced perspective regarding its overall financial health. These metrics, and their method of computation, are listed below:

·

Earnings per share (“EPS”) growth (current year EPS minus prior year EPS divided by prior year EPS equals percentage change), which is an indicator of the increased returns generated for the Company’s shareholders;

·

Total net sales growth (current year total net sales minus prior year total net sales divided by prior year total net sales equals percentage change), which indicates, among other things, the success of the Company’s selection of new store locations and merchandising strategies;

·

Operating margin rate (operating profit divided by net sales), which is an indicator of the Company’s success in leveraging its fixed costs and managing its variable costs;

·

Return on invested capital (numerator – net income plus interest expense, net of tax, plus rent expense, net of tax; denominator – average long-term debt plus average shareholders’ equity, both measured at the end of the latest five fiscal quarters, plus average rent expense multiplied by eight. Average rent expense is computed using a two-year period.).  Although this measure is a not computed using generally accepted





accounting principles (“GAAP”), the Company believes it is useful because return on invested capital measures the efficiency of the Company’s capital deployed in its operations;  

·

Free cash flow (the sum of net cash flows from operating activities, net cash flows from investing activities and net cash flows from financing activities, excluding share repurchases and changes in debt other than required payments). Although this measure is a non-GAAP measure, the Company believes it is useful as an indicator of the cash flow generating capacity of the Company’s operations. It is also a useful metric to analyze in conjunctionrelationships with net income to determine whether there is any significant non-cash component to the Company’s net income;  

·

Inventory turns (cost of goods sold for the year divided by average inventory balances, at cost, measured at the end of the latest five fiscal quarters) which is an indicator of how well the Company is managing the largest asset on its balance sheet;

·

Return on average assets (net income for the year divided by average total assets, measured at the end of the latest five fiscal quarters), which is an overall indicator of the Company’s effectiveness in deploying its resources.


The Company computes the above metrics using both GAAP and certain non-GAAP information. As discussed further below under “Results of Operations”, the Company generally excludes items relating to the restatement of the Company’s 1998-2000 financial results (the “2001 Restatement”) to more effectively evaluate the Company’s performance on a comparable and ongoing basis.

The Company also pays particular attention to its same-store sales growth, which is a sub-category of its total sales growth, and its shrink performance, which is a sub-category of its operating margin rate. In 2004 and 2003, the Company experienced same-store sales growth of 3.2% and 4.0%, respectively. In 2004 and 2003, the Company’s shrink, expressed in retail dollars as a percentage of sales, was 3.05% for each year.

Results of Operations

The following discussion of the Company’s financial performance is based on the Consolidated Financial Statements set forth herein. The Company has included in this document certain financial information not derived in accordance with GAAP, such as selling, general and administrative (“SG&A”) expenses, net income and diluted earnings per share that exclude the impact of items relating to the 2001 Restatement.  The Company believes that this information is useful to investors as it indicates more clearly the Company’s comparative year-to-year operating results. This information should not be considered a substitute for any measures derived in accordance with GAAP. Management may use this information to better understand the Company’s underlying operating results.  Reconciliations of these non-GAAP measures to the most comparable mea sure calculated in accordance with GAAP are contained in the table below.

The Company has restated its consolidated financial statements, as discussed in Note 2 to the Consolidated Financial Statements, for all previous years presented (the “Restatement”).  The following discussion of the Company’s results of operations incorporates the effects of this Restatement.





For fiscal years 2001 and 2000, the Restatement reduced previously reported net income by approximately $3.6 million and $3.7 million, respectively, or approximately $.01 per diluted share in each year. Retained earnings at the beginning of 2000 have been reduced by approximately $10.7 million to reflect the after-tax impacts of earlier periods.


The following table contains results of operations data for the 2004, 2003 and 2002 fiscal years, the dollar and percentage variances among those years, and reconciliations of any non-GAAP measures to the most comparable measure calculated in accordance with GAAP.  







 (amounts in millions, excluding per share amounts)

   2004

  2003

  2002

2004 vs. 2003

2003 vs. 2002

$

change

 %

 change

$

change

%

change

  

(Restated)

(Restated)

 


 


Net sales by category:

    


 


Highly consumable

$ 4,825.1 

$ 4,206.9 

$ 3,674.9 

$ 618.2 

14.7%

$ 531.9 

14.5%

% of net sales

62.98%

61.22%

60.24%

 


 


Seasonal

1,264.0 

1,156.1 

994.3 

107.9 

9.3

161.9 

16.3

% of net sales

16.50%

16.82%

16.30%

 


 


Home products

879.5 

860.9 

808.5 

18.6 

2.2

52.3 

6.5

% of net sales

11.48%

12.53%

13.25%

 


 


Basic clothing

692.4 

648.1 

622.7 

44.3 

6.8

25.4 

4.1

% of net sales

9.04%

9.43%

10.21%

 


 


Net sales

$ 7,660.9 

$ 6,872.0 

$ 6,100.4 

$ 788.9 

11.5%

$ 771.6 

12.6%

Cost of goods sold

5,397.7 

4,853.9 

4,376.1 

543.9 

11.2

477.7 

10.9

% of net sales

70.46%

70.63%

71.74%

 


 


Gross profit

2,263.2 

2,018.1 

1,724.3 

245.1 

12.1

293.9 

17.0

% of net sales

29.54%

29.37%

28.26%

 


 


SG&A:

    


 


SG&A excluding 2001 Restatement-related expenses

  1,705.8 

1,499.5 

1,294.4 

206.3 

13.8

205.1 

15.8

% of net sales

22.27%

21.82%

21.22%

 


 


2001 Restatement-related expenses included in SG&A

0.5 

0.6 

6.4 

(0.1)

(23.5)

(5.8)

(90.8)

% of net sales

0.01%

0.01%

0.10%

 


 


Total SG&A

1,706.2 

1,500.1 

1,300.8 

206.1 

13.7

199.3 

15.3

% of net sales

22.27%

21.83%

21.32%

 


 


Penalty expense and litigation settlement proceeds

- 

10.0 

(29.5)

(10.0)

(100.0)

39.5 

-

% of net sales

- 

0.15%

(0.48)%

 


 


Operating profit

557.0 

508.0 

453.0 

49.0 

9.6

55.0 

12.2

% of net sales

7.27%

7.39%

7.43%

 


 


Interest income

(6.6)

(4.1)

(4.3)

(2.5)

60.2

0.2 

(4.7)

% of net sales

(0.09)%

(0.06)%

(0.07)%

 


 


Interest expense

28.8 

35.6 

46.9 

(6.8)

(19.1)

(11.3)

(24.2)

% of net sales

0.38%

0.52%

0.77%

 


 


Income before income taxes

534.8 

476.5 

410.3 

58.2 

12.2

66.2 

16.1

% of net sales

6.98%

6.93%

6.73%

 


 


Income taxes

190.6 

177.5 

148.0 

13.0 

7.3

29.5 

20.0

% of net sales

2.49%

2.58%

2.43%

 


 


Net income

$ 344.2 

$ 299.0 

$ 262.4 

$ 45.2 

15.1

$ 36.7 

14.0

% of net sales

4.49%

4.35%

4.30%

 


 


     


 


Diluted earnings per share

$ 1.04 

$ 0.89 

$ 0.78 

$ 0.15 

16.9%

$ 0.11 

14.1%

Weighted average diluted shares

332.1 

337.6 

335.1 

(5.6)

(1.6)

2.6 

0.8

     


 


2001 Restatement-related items:

    


 


Penalty expense and litigation settlement proceeds

- 

10.0 

(29.5)

(10.0)

(100.0)

39.5 

-

2001 Restatement-related expenses included in SG&A

0.5 

0.6 

6.4 

(0.1)

(23.5)

(5.8)

(90.8)

 

0.5 

10.6 

(23.1)

(10.1)

(95.7)

33.7 

-

Tax effect

(0.2)

(0.2)

9.1 

0.1 

(23.7)

(9.3)

-

Total 2001 Restatement-related items, net of tax

0.3 

10.4 

(14.1)

(10.1)

(97.3)

24.4 

-

Net income, excluding 2001 Restatement-related items

$ 344.5 

$ 309.4 

$ 248.3 

$ 35.1 

11.3

$ 61.1 

24.6

Diluted earnings per share, excluding 2001 Restatement-related items

$ 1.04 

$ 0.92 

$ 0.74 

$ 0.12 

13.0%

$ 0.18 

24.3%





Net Sales.  Increases in net sales resulted primarily from opening additional stores, including 620 net new stores in 2004, and a same-store sales increase of 3.2% for 2004 compared to 2003. Same-store sales calculations for a given period include only those stores that were open both at the end of that period and at the beginning of the preceding fiscal year. The increase in same-store sales accounted for $204.0 million of the increase in sales while stores opened since the beginning of 2003 were the primary contributors to the remaining $585.0 million sales increase during 2004. The increase in same-store sales is primarily attributable to an increase in the number of customer transactions.


The Company monitors its sales internally by the four major categories noted in the table above. The Company’s merchandising mix in recent years has shifted to faster-turning consumable products versus home products and clothing. This has been driven by customer wants and needs in the marketplace. As a result, over the past three years the highly consumable category has become a greater percentage of the Company’s overall sales mix while the percentages of the home products and basic clothing categories have declined. Accordingly, the Company’s sales increase by merchandise category in 2004 compared to 2003 was primarily attributable to the highly consumable category, which increased by $618.2 million, or 14.7%. The Company continually reviews its merchandise mix and adjusts it when deemed necessary as a part of its ongoing efforts to improve overall sales and gross profit. Thes e ongoing reviews may result in a shift in the Company’s merchandising strategy which could increase permanent markdowns in the future.


The Company’s sales increase in 2003 compared to 2002 resulted primarily from opening additional stores, including 587 net new stores in 2003, and a same-store sales increase of 4.0% for 2003 compared to 2002. The increase in same-store sales accounted for $228.3 million of the increase in sales while stores opened since the beginning of 2003 were the primary contributors to the remaining $543.3 million sales increase during 2003. The Company’s sales increase by merchandise category in 2003 compared to 2002 was primarily attributable to the seasonal category, which increased by $161.9 million, or 16.3%, and the highly consumable category, which increased by $531.9 million, or 14.5%.


Gross Profit.  The gross profit rate increased 17 basis points in 2004 as compared with 2003. Although the Company’s margin rate is pressured by sales mix shifts to more highly consumable items, which typically carry lower gross profit rates, the Company has been able to more than offset this through increases in gross markups on all merchandise categories. More specific factors include the following:

·

Higher initial mark-ups on merchandise received during 2004 as compared with 2003 (approximately 32 basis points of gross margin improvement). This improvement was achieved primarily from the positive impact of opportunistic purchasing, renegotiating product costs with several key suppliers, selective price increases, and an increase in various performance-based vendor rebates.

·

Higher average mark-ups on the Company’s beginning inventory in 2004 as compared to 2003 (approximately 20 basis points of gross margin improvement). This increased average mark-up represents the cumulative impact of higher margin purchases over time.





These components of margin, which both positively impacted the Company’s results, were partially offset by:


·

An increase in transportation expenses as a percentage of sales (approximately 23 basis points of gross margin decline). This increase resulted primarily from higher fuel costs in 2004 as compared to 2003.

·

A nonrecurring favorable inventory adjustment in 2003 representing a change in the Company’s estimated provision for shrinkage (approximately 6 basis points of gross margin decline).


The gross profit rate increased 111 basis points in 2003 as compared with 2002 primarily due to the following:

·

Higher initial mark-ups on merchandise received during 2003 as compared with 2002 (approximately 59 basis points of gross margin improvement). This improvement was achieved primarily from increased purchases of higher margin seasonal and home product items; a 31% increase in imported purchases, which carry higher than average mark-ups; and a 72% increase in various performance-based vendor rebates.

·

A reduction in the Company’s shrink provision from 3.52% in 2002 to 3.05% in 2003, calculated using retail dollars as a percentage of sales (approximately 41 basis points of gross margin improvement, at cost).  The Company made progress in reducing the shrink at problem stores during 2003 but generally fell short of corporate goals.

·

Higher average mark-ups on the Company’s beginning inventory in 2003 as compared to 2002 (approximately 18 basis points of gross margin improvement). This increased average mark-up represents the cumulative impact of higher margin purchases over time.

·

A reduction in transportation expenses as a percentage of sales (approximately 14 basis points of gross margin improvement). This reduction resulted primarily from system enhancements and improved process efficiencies in managing outbound freight costs, which contributed to an approximate 7% decline in outbound cost per carton delivered in 2003 as compared to 2002.


These components of margin, which all positively impacted the Company’s results, were partially offset by:


·

The impact of the Company’s LIFO valuation adjustments in the fourth quarters of 2003 versus 2002 (approximately 16 basis points of gross margin decline). In 2002, the Company recorded an $8.9 million LIFO adjustment, which had the effect of increasing gross margin and primarily resulted from the Company’s ability to lower its product costs through effective purchasing methods and the general lack of inflation during the period. The Company did not benefit from a comparable adjustment in 2003 primarily because the LIFO reserves in certain inventory departments had been reduced to nominal amounts, or zero, in 2002 or prior years.  

·

An increase in markdowns of 14 basis points.  The increase in markdowns was due principally to increased Christmas-related markdowns compared to those the





Company had taken in the past and, to a lesser extent, markdowns taken to assist with the sale of both discontinued and slower moving apparel items.


Selling, General and Administrative (“SG&A”) Expense.  The increase in SG&A expense as a percentage of sales in 2004 as compared with 2003 was due to a number of factors, including but not limited to increases in the following expense categories that were in excess of the 11.5 percent increase in sales: store occupancy costs (increased 17.4%) primarily due to rising average monthly rentals associated with the Company’s leased store locations; an increase in purchased services (increased 54.6%) due primarily to fees associated with the increased customer usage of debit cards; professional fees (increased 119.2%) primarily due to consulting fees associated with both the Company’s 2004 EZstore project and compliance with certain provisions of the Sarbanes-Oxley Act of 2002; and increased costs for inventory services (increased 88.2%) due to both an increased number of physical inventories and a higher average cost per physical inventory. Partially offsetting these increases was a reduction in accruals for employee bonus expenses (declined 21.3%) primarily related to higher bonus expense in 2003 related to the Company’s financial performance during 2003.

The increase in SG&A expense as a percentage of sales, excluding expenses relating to the 2001 Restatement (primarily professional fees), in 2003 as compared with 2002 was due to a number of factors, including but not limited to increases in the following expense categories that were in excess of the 12.6 percentage increase in sales: store labor (increased 14.6%) primarily due to increases in store training-related costs; the cost of workers’ compensation and other insurance programs (increased 29.8%) primarily due to an increase in medical inflation costs experienced by the Company compared to previous years; store occupancy costs (increased 16.0%) primarily due to rising average monthly rentals associated with the Company’s leased store locations; and higher bonus expense (increased 34.4%) related to the Company’s financial performance during 2003.

Penalty Expense and Litigation Settlement Proceeds.  As more fully discussed in Note 8 to the Consolidated Financial Statements, the Company accrued $10.0 million in 2003 with respect to a civil penalty related to its agreement in principle with the Securities and Exchange Commission (“SEC”) staff to settle the matters arising out of the Company’s 2001 Restatement.  In 2002, the Company recorded $29.5 million in net litigation settlement proceeds, which amount included $29.7 million in insurance proceeds associated with the settlement of class action and shareholder derivative litigation, offset by a $0.2 million settlement of a shareholder class action opt-out claim, all of which related to the 2001 Restatement.

Interest Expense. The decrease in interest expense in 2004 compared to 2003 is due primarily to capitalized interest of $3.6 million related to the Company’s DC construction and expansion projects in 2004 compared to $0.2 million in 2003 and a reduction in amortization of debt issuance costs of $2.2 million due in part to the amendment of the Company’s revolving credit facility in June 2004. The decrease in interest expense in 2003 as compared to 2002 is due primarily to debt reduction achieved during 2003. The average daily total debt outstanding over the past three years was as follows: 2004 - $280.1 million at an average interest rate of 8.5%; 2003 - $301.5 million at an average interest rate of 8.6%; and 2002 - $575.7 million at an average interest rate of 6.6%. The increase in the Company’s average interest rate from 2002 to





2003 is due primarily to the reduction of variable rate debt. All of the Company’s outstanding indebtedness at January 28, 2005 and January 30, 2004 was fixed rate debt.

Income Taxes.  The effective income tax rates for 2004, 2003 and 2002 were 35.6%, 37.3% and 36.1%, respectively. The 2004 rate was lower than the 2003 rate primarily due to a net reduction in certain contingent income tax liabilities of approximately $6.2 million recognized in the second quarter of 2004, when the Company adjusted its tax contingency reserve as the result of two state income tax examinations. The tax rate in 2003 was negatively impacted by the $10.0 million penalty expense in 2003, as discussed above, which was not deductible for income tax purposes.  The lower effective tax rate in 2002 was primarily due to the favorable resolution of certain state tax related items during 2002.

Liquidity and Capital Resources

Current Financial Condition / Recent Developments. During the past three years, the Company has generated an aggregate of approximately $1.33 billion in cash flows from operating activities. During that period, the Company has expanded the number of stores it operates by 32% (1,780 stores) and has incurred approximately $566 million in capital expenditures, primarily to support this growth. Also during this three-year period, the Company has reduced its long-term debt by approximately $464 million and has expended approximately $239 million for repurchases of its common stock.

The Company’s inventory balance represented approximately 48% of its total assets as of January 28, 2005. The Company’s proficiency in managing its inventory balances can have a significant impact on the Company’s cash flows from operations during a given fiscal year. For example, in 2004, changes in inventory balances represented a $219.4 million use of cash, as explained in more detail below, while in 2002, changes in inventory balances represented an $8.0 million source of cash.  Inventory turns increased from 3.8 times in 2002 to 4.0 times in both 2003 and 2004.

As described in Note 8 to the Consolidated Financial Statements, the Company is involved in a number of legal actions and claims, some of which could potentially result in material cash payments.  Adverse developments in those actions could materially and adversely affect the Company’s liquidity.  The Company also has certain income tax-related contingenciesus as more fully described below under “Critical Accounting Policies and Estimates”. Estimates of these contingent liabilities are included in the Company’s Consolidated Financial Statements. However, future negative developments could have a material adverse effect on the Company’s liquidity. See Notes 5 and 8 to the Consolidated Financial Statements.

On November 30, 2004, the Board of Directors authorized the Company to repurchase up to 10 million shares of its outstanding common stock in the open market or in privately negotiated transactions from time to time subject to market conditions. The objective of the share repurchase program is to enhance shareholder value by purchasing shares at a price that produces a return on investment that is greater than the Company's cost of capital. Additionally, share repurchases will be undertaken only if such purchases result in an accretive impact on the Company's fully diluted earnings per share calculation.  This authorization expires November 30,



Item 13 below.


2005. During 2004, the Company purchased approximately 0.5 million shares pursuant to this authorization at a total cost

(d)           Code of $10.9 million.


On March 13, 2003, the Board of Directors authorized the Company to repurchase up to 12 million shares of its outstanding common stock, with provisionsBusiness Conduct and objectives similar to the November 30, 2004 authorization discussed above. This authorization expired March 13, 2005. During 2003, the Company purchased approximately 1.5 million shares at a total cost of $29.7 million. During 2004, the Company purchased approximately 10.5 million shares at a total cost of $198.4 million. As of January 28, 2005, approximately 12.0 million shares had been purchased, substantially completing this share repurchase authorization. Share repurchases in 2004 increased diluted earnings per share by approximately $0.02.


The following table summarizes the Company’s significant contractual obligations as of January 28, 2005 (in thousands):


 

Payments Due by Period

Contractual obligations

Total

 

< 1 yr

 

1-3 yrs

 

3-5 yrs

 

> 5 yrs

Long-term debt (a)

$

200,000

  

$

-

  

$

-

  

$

-

  

$

200,000

 

Capital lease obligations

 

28,178

   

12,021

   

9,502

   

3,188

   

3,467

 

Financing obligations

 

91,555

   

1,886

   

4,628

   

4,943

   

80,098

 

Inventory purchase obligations

 

98,767

   

98,767

   

-

   

-

   

-

 

Interest (b)

 

193,822

   

26,592

   

50,660

   

48,720

   

67,850

 

Operating leases

 

1,165,045

   

251,462

   

369,636

   

220,869

   

323,078

 

Total contractual cash obligations

$

1,777,367

  

$

390,728

  

$

434,426

  

$

277,720

  

$

674,493

 
                    

(a)

As discussed below, represents unsecured notes whose holders have a redemption option in 2005, which could result in the accelerated payment of all or a portion of these obligations.

(b)

Represents obligations for interest payments on long-term debt, capital lease and financing obligations.


The Company has a $250 million revolving credit facility (the “Credit Facility”), which expires in June 2009. As of January 28, 2005, the Company had no outstanding borrowings and $8.7 million of standby letters of credit outstanding under the Credit Facility. The standby letters of credit reduce the borrowing capacity of the Credit Facility. The Credit Facility contains certain financial covenants, all of which the Company was in compliance with at January 28, 2005. See Note 6 to the Consolidated Financial Statements for further discussion of the Credit Facility.


The Company has $200 million (principal amount) of 8 5/8% unsecured notes due June 15, 2010. This indebtedness was incurred to assist in funding the Company’s growth. Interest on the notes is payable semi-annually on June 15 and December 15 of each year.  The note holders may elect to have these notes repaid on June 15, 2005, at 100% of the principal amount plus accrued and unpaid interest. Although the holders of these notes have the ability to require the Company to repurchase the notes in June 2005, the Company has classified this debt as long-term due to its intent and ability, in the event it were required to repurchase any portion of the notes, to refinance this indebtedness on a long-term basis, including through borrowings under the Credit Facility. The Company may seek, from time to time, to retire the notes through cash purchases on the open market, in privately negotiated transactions or otherwise. Such repurchases, if any, will depend on prevailing market conditions, the Company’s liquidity requirements, contractual restrictions and other factors. The amounts involved may be material.






Significant terms of the Company’s outstanding debt obligations could have an effect on the Company’s ability to incur additional debt financing.  The Credit Facility contains financial covenants, which include limits on certain debt to cash flow ratios, a fixed charge coverage test, and minimum allowable consolidated net worth.  The Credit Facility also places certain specified limitations on secured and unsecured debt.  The Company’s outstanding notes discussed above place certain specified limitations on secured debt and place certain limitations on the Company’s ability to execute sale-leaseback transactions. The Company has generated significant cash flows from its operations during recent years. The Company had peak borrowings under the Credit Facility of $73.1 million during 2004, all of which were repa id prior to January 28, 2005, and had no borrowings outstanding under the Credit Facility at any time during 2003. Therefore, the Company does not believe that any existing limitations on its ability to incur additional indebtedness will have a material impact on its liquidity. Notes 6 and 8 to the Consolidated Financial Statements contain additional disclosures related to the Company’s debt and financing obligations.

At January 28, 2005 and January 30, 2004, the Company had commercial letter of credit facilities totaling $215.0 million and $218.0 million, respectively, of which $98.8 million and $111.7 million, respectively, were outstanding for the funding of imported merchandise purchases.

The Company believes that its existing cash and short-term investments balances (totaling $275.8 million at January 28, 2005), cash flows from operations ($389.7 million generated in 2004), the Credit Facility ($241.3 million available at January 28, 2005) and its anticipated ongoing access to the capital markets, if necessary, will provide sufficient financing to meet the Company’s currently foreseeable liquidity and capital resource needs.

Cash flows provided by operating activities.  Cash flows from operating activities for 2004 compared to 2003 declined by $124.0 million. The most significant component of the change in cash flows from operating activities was an increase in inventory levels in 2004. Total merchandise inventories at the end of 2004 were $1.38 billion compared to $1.16 billion at the end of 2003, a 19 percent increase, or a 9 percent increase on a per store basis, with the remainder primarily attributable to growth in the number of stores. The largest portion of the increase in inventories resulted from the Company’s focus on improving in-stock levels of core merchandise at the stores. New initiatives, including the expansion of the perishable food program and the addition of certain core apparel items, magazines and Hispanic food items also contributed to the inventory i ncrease.  In addition, due to an early Easter in 2005, the Company received more seasonal merchandise for Spring 2005 before the end of fiscal 2004. In 2005, the Company plans to focus on lowering its per store inventory levels. Cash flows in 2004 increased by $45.3 million over 2003 related to changes in income taxes payable, primarily due to a large payment of federal income taxes for 2002 that was made in 2003. Cash flows in the 2004 period were positively impacted by an increase in net income of $45.2 million driven by improved operating results (as more fully discussed above under “Results of Operations”).

Cash flows from operations increased by $91.4 million for 2003 compared to 2002. In 2002, the Company paid $162.0 million in settlement of the class action lawsuit relating to the 2001 Restatement, as discussed in Note 8 to the Consolidated Financial Statements, which did not recur in 2003. Partially offsetting this cash outflow were 2002 tax benefits totaling





approximately $139.3 million, of which approximately $121.0 million either directly or indirectly related to the Company’s 2001 Restatement and subsequent litigation settlement.  The timing of these tax benefits was a significant component of the reduction of cash flows from deferred ($62.6 million) and current ($77.9 million) income taxes in 2003 compared to 2002. An increase in accrued liabilities resulted in a $45.3 million increase in 2003 cash flows compared to 2002 due in part to the accrued SEC penalty and increased 2003 bonuses described above, increased deferred compensation liabilities and increases in certain tax reserves.  Contributing to the increase in cash flows provided by operating activities in 2003 was an increase in net income of $36.7 million driven by the improved operating results discussed above (see “ ;Results of Operations”).

Cash flows used in investing activities. Significant components of the Company’s purchases of property and equipment in 2004 included the following approximate amounts: $101 million for distribution and transportation-related capital expenditures; $82 million for new stores; $26 million for certain fixtures in existing stores; $26 million for various systems-related capital projects; and $23 million for coolers in existing stores, which allow the stores to carry refrigerated products. During 2004, the Company opened 722 new stores and relocated or remodeled 80 stores. Distribution and transportation expenditures in 2004 included costs associated with the construction of the Company’s new DC in South Carolina as well as costs associated with the expansion of the Ardmore, Oklahoma and South Boston, Virginia DCs.

Net sales of short-term investments in 2004 of $25.8 million primarily reflect the Company’s investment activities in tax-exempt auction market securities.

The Company’s purchases of property and equipment in 2003 included the following approximate amounts: $63 million for new, relocated and remodeled stores; $22 million for systems-related capital projects; and $25 million for distribution and transportation-related capital expenditures. During 2003, the Company opened 673 new stores and relocated or remodeled 76 stores. Systems-related projects in 2003 included approximately $6 million for point-of-sale and satellite technology and $3 million related to debit/credit/EBT technology. Distribution and transportation expenditures in 2003 included approximately $19 million at the Ardmore, Oklahoma and South Boston, Virginia DCs primarily related to the ongoing expansion of those facilities.

Net purchases of short-term investments in 2003 of $67.2 million primarily reflect the Company’s investment activities in tax-exempt auction market securities.

During 2003, the Company purchased two secured promissory notes totaling $49.6 million which represent debt issued by a third party entity from which the Company leases its DC in South Boston, Virginia.  See Note 8 to the Company’s Consolidated Financial Statements.

The Company’s purchases of property and equipment in 2002 included the following approximate amounts: $51 million for new, relocated and remodeled stores; $30 million for systems-related capital projects; and $21 million for distribution and transportation-related capital expenditures. The Company opened 622 new stores and relocated or remodeled 73 stores in 2002.  Systems-related capital projects in 2002 included approximately $15 million for satellite technology and $3 million for point-of-sale cash registers.  Expenditures for distribution





and transportation consisted in part of $8 million for the purchase of new trailers and $5 million related to the installation of a dual sortation system in the Fulton, Missouri DC.

Capital expenditures during 2005 are projected to be approximately $350 million.  The Company anticipates funding its 2005 capital requirements with cash flows from operations and the Credit Facility, if necessary. Significant components of the 2005 capital plan include the completion of construction of the new DC in South Carolina and the expected commencement of construction of the Company’s ninth DC at an as-yet undetermined location; leasehold improvements and fixtures and equipment for 730 new stores, which includes 30 new Dollar General Market stores; the continued rollout of the Company’s EZstore project; and additional investments in technology and systems.  The Company plans to undertake these expenditures in order to improve its infrastructure and provide support for its anticipated growth.

Cash flows used in financing activities.  During 2004, the Company repurchased approximately 11.0 million shares of its common stock at a total cost of $209.3 million and paid cash dividends of $52.7 million, or $0.16 per share, on its outstanding common stock. The Company paid cash dividends of $46.9 million, or $0.14 per share, on its outstanding common stock during 2003. The Company repurchased approximately 1.5 million shares of its common stock during 2003 at a total cost of $29.7 million. The Company expended $15.9 million during 2003 to reduce its outstanding capital lease and financing obligations. These uses of cash were partially offset by proceeds from the exercise of stock options during 2004 and 2003 of $34.1 million and $49.5 million, respectively. The use of cash in 2002 primarily reflects the net repayment of $397.1 million in outstanding debt and the payment of $42 .6 million of cash dividends.  The net repayment of debt in 2002 was undertaken to strengthen the Company’s financial position and was accomplished by utilizing cash flow from operations and existing cash balances.


Critical Accounting Policies and Estimates


The preparation of financial statements in accordance with GAAP requires management to make estimates and assumptions that affect reported amounts and related disclosures. Management considers an accounting estimate to be critical if:


·

it requires assumptions to be made that were uncertain at the time the estimate was made; and

·

changes in the estimate or different estimates that could have been selected could have a material effect on the Company’s results of operations or financial condition.


Management has discussed the development and selection of its critical accounting estimates with the Audit Committee of the Company’s Board of Directors and the Audit Committee has reviewed the disclosures presented below relating to them.


In addition to the estimates presented below, there are other items within the Company’s financial statements that require estimation, but are not deemed critical as defined above. The Company believes these estimates are reasonable and appropriate. However, if actual experience differs from the assumptions and other considerations used, the resulting changes could have a material effect on the financial statements taken as a whole.






Merchandise Inventories. Merchandise inventories are stated at the lower of cost or market with cost determined using the retail last-in, first-out (“LIFO”) method.  Under the Company’s retail inventory method (“RIM”), the calculation of gross profit and the resulting valuation of inventories at cost are computed by applying a calculated cost-to-retail inventory ratio to the retail value of sales.  The RIM is an averaging method that has been widely used in the retail industry due to its practicality.  Also, it is recognized that the use of the RIM will result in valuing inventories at the lower of cost or market if markdowns are currently taken as a reduction of the retail value of inventories.


Inherent in the RIM calculation are certain significant management judgments and estimates including, among others, initial markups, markdowns, and shrinkage, which significantly impact the gross profit calculation as well as the ending inventory valuation at cost. These significant estimates, coupled with the fact that the RIM is an averaging process, can, under certain circumstances, produce distorted cost figures.  Factors that can lead to distortion in the calculation of the inventory balance include:


·

applying the RIM to a group of products that is not fairly uniform in terms of its cost and selling price relationship and turnover;


·

applying the RIM to transactions over a period of time that include different rates of gross profit, such as those relating to seasonal merchandise;


·

inaccurate estimates of inventory shrinkage between the date of the last physical inventory at a store and the financial statement date; and


·

inaccurate estimates of lower of cost or market (“LCM”) and/or LIFO reserves.


To reduce the potential of such distortions in the valuation of inventory, the Company’s RIM calculation through the end of 2004 utilized 10 departments in which fairly homogenous classes of merchandise inventories having similar gross margins were grouped.  In 2005, in order to further refine its RIM calculation, the Company expanded the number of departments it utilizes for its gross margin calculation from 10 to 23. The impact of this change on the Company’s future consolidated financial statements is not currently expected to be material to a given fiscal year, although a given quarter could be impacted based on the mix of sales in the quarter. Other factors that reduce potential distortion include the use of historical experience in estimating the shrink provision (see discussion below) and the utilization of an independent statistician to assist in the LIFO sampling proces s and index formulation. Also, on an ongoing basis, the Company reviews and evaluates the salability of its inventory and records LCM reserves, if necessary.


The Company calculates its shrink provision based on actual physical inventory results during the fiscal period and an accrual for estimated shrink occurring subsequent to a physical inventory through the end of the fiscal reporting period. This accrual is calculated as a percentage of sales and is determined by dividing the book-to-physical inventory adjustments recorded during the previous twelve months by the related sales for the same period for each store. Beginning in 2003, in an effort to improve this estimate, the Company began applying





store-specific shrink rates to store-specific sales generated subsequent to a given store’s physical inventory. In 2002, the Company applied a weighted-average shrink rate to all Company sales generated subsequent to physical inventories. To the extent that subsequent physical inventories yield different results than this estimated accrual, the Company’s effective shrink rate for a given reporting period will include the impact of adjusting the estimated results to the actual results. Although the Company performs physical inventories in all of its stores annually, the same stores do not necessarily get counted in the same reporting periods from year to year, which could impact comparability in a given reporting period.


During 2003, the Company implemented an item-level perpetual inventory system for financial reporting purposes. The new system provided better information regarding the type of inventory that the Company owned and improved the Company’s ability to estimate its shrink provision as discussed above. The utilization of this improved information in the Company’s RIM calculation resulted in a non-recurring inventory adjustment of approximately $7.8 million, which favorably impacted gross profit in the third quarter of 2003.


Property and Equipment.  Property and equipment are recorded at cost. The Company groups its assets into relatively homogeneous classes and generally provides for depreciation on a straight-line basis over the estimated average useful life of each asset class, except for leasehold improvements, which are amortized over the shorter of the applicable lease term or the estimated useful life of the asset. The valuation and classification of these assets and the assignment of useful depreciable lives involves significant judgments and the use of estimates. Property and equipment are reviewed for impairment periodically and whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable.


Self-Insurance Liability.  The Company retains a significant portion of the risk for its workers’ compensation, employee health insurance, general liability, property loss and automobile coverage. These costs are significant primarily due to the large employee base and number of stores. Provisions are made to this insurance liability on an undiscounted basis based on actual claim data and estimates of incurred but not reported claims developed by an independent actuary utilizing historical claim trends. If future claim trends deviate from recent historical patterns, the Company may be required to record additional expenses or expense reductions, which could be material to the Company’s future financial results.


Contingent Liabilities – Income Taxes. The Company is subject to routine income tax audits that occur periodically in the normal course of business. The Company estimates its contingent income tax liabilities based on its assessment of probable income tax-related exposures and the anticipated settlement of those exposures translating into actual future liabilities. The contingent liabilities are estimated based on both historical audit experiences with various state and federal taxing authorities and the Company’s interpretation of current income tax-related trends. If the Company’s income tax contingent liability estimates prove to be inaccurate, the resulting adjustments could be material to the Company’s future financial results.


Contingent Liabilities - Legal Matters.The Company is subject to legal, regulatory and other proceedings and claims. Reserves, if any, are established for these claims and proceedings based upon the probability and estimability of losses and to fairly present, in conjunction with





the disclosures of these matters in the Company’s financial statements and SEC filings, management’s view of the Company’s exposure. The Company reviews outstanding claims and proceedings with external counsel to assess probability and estimates of loss.  These assessments are re-evaluated each quarter or as new information becomes available to determine whether a reserve should be established or if any existing reserve should be adjusted. The actual cost of resolving a claim or proceeding ultimately may be substantially different than the amount of the recorded reserve.  In addition, because it is not permissible under GAAP to establish a litigation reserve until the loss is both probable and estimable, in some cases there may be insufficient time to establish a reserve prior to the actual incurrence of the loss (upon verdict and judgment at trial, for example, or in the case of a quickly negotiated settlement). See Note 8 to the Consolidated Financial Statements.


Effects of Inflation

The Company believes that inflation and/or deflation had a minimal impact on its overall operations during 2004, 2003 and 2002.

Accounting Pronouncements

In December 2004, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” which will require all companies to measure compensation cost for all share-based payments (including employee stock options) at fair value. This new standard will be effective for public companiesfor interim or annual periods beginning after June 15, 2005. Companies can adopt the new standard in one of two ways: (i) the modified prospective application, in which a company would recognize share-based employee compensation cost from the beginning of the fiscal period in which the recognition provisions are first applied as if the fair-value-based accounting method had been used to account for all employee awards granted, modified, or settled after the effective date and to any awards that were not f ully vested as of the effective date; or (ii) the modified retrospective application, in which a company would recognize employee compensation cost for periods presented prior to the adoption of SFAS No. 123R in accordance with the original provisions of SFAS No. 123 “Accounting for Stock-Based Compensation,” pursuant to which an entity would recognize employee compensation cost in the amounts reported in the pro forma disclosures provided in accordance with SFAS No. 123. The Company expects to adopt SFAS No. 123R during the third quarter of 2005 using the modified prospective application, and expects to incur incremental SG&A expense associated with the adoption of approximately $4 million to $8 million in 2005. See Note 1 to the Consolidated Financial Statements for disclosure of the pro forma effects of stock option grants as determined using the methodology prescribed under SFAS No. 123.


Forward Looking Statements / Risk Factors

Except for specific historical information, many of the matters discussed in this report and in the documents incorporated by reference into this report may express or imply projections of revenues or expenditures, statements of plans and objectives for future operations, growth or initiatives, statements of future economic performance, or statements regarding the outcome or impact of pending or threatened litigation. These and similar statements regarding events or





results which the Company expects will or may occur in the future are forward-looking statements concerning matters that involve risks, uncertainties and other factors which may cause the actual performance of the Company to differ materially from those expressed or implied by these statements.  All forward-looking information should be evaluated in the context of these risks, uncertainties and other factors. The words “believe,” “anticipate,” “project,” “plan,” “expect,” “estimate,” “objective,” “forecast,” “goal,” “intend,” “will likely result,” or “will continue” and similar expressions generally identify forward-looking statements. The Company believes the assumptions underlying these forward-looking statements are re asonable; however, any of the assumptions could be inaccurate, and therefore, actual results may differ materially from those projected in the forward-looking statements.  Factors and risks that may result in actual results differing from such forward-looking information include, but are not limited to those listed below, as well as other factors discussed throughout this document, including without limitation the factors described under “Critical Accounting Policies and Estimates.”

The Company’s business is moderately seasonal with the highest sales occurring during the fourth quarter. Adverse events during the fourth quarter could, therefore, affect the Company’s financial statements as a whole.  The Company realizes a significant portion of its net sales and net income during the holiday selling season.  In anticipation of the holidays, the Company purchases substantial amounts of seasonal inventory and hires many temporary employees.  If for any reason the Company’s net sales during the holiday selling season were to fall below seasonal norms, a seasonal merchandise inventory imbalance could result.  If such an imbalance were to occur, markdowns might be required to minimize this imbalance.  The Company’s profitability and operating results could be adversely affected by unanticipated markdown s.  

Adverse weather conditions or other disruptions, especially during the peak holiday season but also at other times, could also adversely affect the Company’s net sales and could make it more difficult for the Company to obtain sufficient quantities of merchandise from its suppliers.

Competition in the retail industry could limit the Company’s growth opportunities and reduce its profitability.  The Company competes in the discount retail merchandise business, which is highly competitive.  This competitive environment subjects the Company to the risk of reduced profitability resulting from reduced margins required to maintain the Company’s competitive position.  The Company competes with discount stores and with many other retailers, including mass merchandise, grocery, drug, convenience, variety and other specialty stores.  Some of the nation’s largest retail companies operate stores in areas where the Company operates.  The Company’s direct competitors in the dollar store retail category include Family Dollar, Dollar Tree, Fred’s, and various local, independent operators.  Competitors fr om other retail categories include CVS, Rite Aid, Walgreens, Eckerd, Wal-Mart and Kmart.  The discount retail merchandise business is subject to excess capacity and some of the Company’s competitors are much larger and have substantially greater resources than the Company.  The competition for customers has intensified in recent years as larger competitors, such as Wal-Mart, have moved into the Company’s geographic markets.  The Company remains vulnerable to the marketing power and high level of consumer recognition of these major national discount chains, and to the risk that these chains or others could venture into the “dollar store” industry in a significant way.  Generally, the Company expects an increase in competition.





The Company’s financial performance is sensitive to changes in overall economic conditions that may impact consumer spending.  A general slowdown in the United States economy may adversely affect the spending of the Company’s consumers, which would likely result in lower net sales than expected on a quarterly or annual basis.  Future economic conditions affecting disposable consumer income, such as employment levels, business conditions, fuel and energy costs, interest rates, and tax rates, could also adversely affect the Company’s business by reducing consumer spending or causing consumers to shift their spending to other products.

Existing military efforts and the possibility of war, acts of terrorism and rising fuel costs could adversely impact the Company.  Existing U.S. military efforts, as well as the involvement of the United States in other military engagements, or a significant act of terrorism on U.S. soil or elsewhere, could have an adverse impact on the Company by, among other things, disrupting its information or distribution systems, causing dramatic increases in fuel prices thereby increasing the costs of doing business, or impeding the flow of imports or domestic products to the Company.

The Company’s business is dependent on its ability to obtain attractive pricing and other terms from its vendors and to timely receive inventory.  The Company believes that it has generally good relations with its vendors and that it is generally able to obtain attractive pricing and other terms from vendors.  If the Company fails to maintain good relations with its vendors, it may not be able to obtain attractive pricing with the consequence that its net sales or profit margins would be reduced.  The Company may also face difficulty in obtaining needed inventory from its vendors because of interruptions in production or for other reasons, which would adversely affect the Company’s business.  Also, prolonged or repeated price increases of certain raw materials could affect our vendors’ product costs, and, ultimately, the Company ’s profitability.

The efficient operation of the Company’s business is heavily dependent on its information systems. The Company depends on a variety of information technology systems for the efficient functioning of its business.  The Company relies on certain software vendors to maintain and periodically upgrade many of these systems so that they can continue to support the Company’s business.  The software programs supporting many of the Company’s systems were licensed to the Company by independent software developers.  The inability of these developers or the Company to continue to maintain and upgrade these information systems and software programs would disrupt or reduce the efficiency of the Company’s operations if it were unable to convert to alternate systems in an efficient and timely manner.  In addition, costs and potential probl ems and interruptions associated with the implementation of new or upgraded systems and technology or with maintenance or adequate support of existing systems could also disrupt or reduce the efficiency of the Company’s operations.

The Company is subject to interest rate risk.  The Company is subject to market risk from exposure to changes in interest rates based on its financing, investing and cash management activities.  The Company may utilize its Credit Facility to fund working capital requirements, which is comprised of variable rate debt.  See “Quantitative and Qualitative Disclosures About Market Risk.”





The Company is dependent upon the smooth functioning of its distribution network and upon the capacity of its DCs.  The Company relies upon the ability to replenish depleted inventory through deliveries to its DCs from vendors, and from the DCs to its stores by various means of transportation, including shipments by air, sea and truck on the roads and highways of the United States.  Labor shortages in the trucking industry could negatively impact transportation costs.  In addition, long-term disruptions to the national and international transportation infrastructure that lead to delays or interruptions of service would adversely affect the Company’s business.  Moreover, to facilitate its expected growth, the Company will need additional DCs in the coming years.  If the Company were unable to locate sites for the new DCs or were unable to achieve functionality of the new DCs in the time frame expected, the Company’s ability to achieve the expected growth could be inhibited.

Construction and expansion projects relating to the Company’s DCs entail risks which could cause delays and cost overruns, such as: shortages of materials; shortages of skilled labor or work stoppages; unforeseen construction scheduling, engineering, environmental or geological problems; weather interference; fires or other casualty losses; and unanticipated cost increases.  The completion dates and anticipated costs of these projects could differ significantly from initial expectations for construction-related or other reasons.  The Company cannot guarantee that any project will be completed on time or within established budgets.  

The Company’s success depends to a significant extent upon the abilities of its senior management team and the performance of its employees. The loss of services of key members of the Company’s senior management team or of certain other key employees could negatively impact the Company’s business.  In addition, future performance will depend upon the Company’s ability to attract, retain and motivate qualified employees to keep pace with its expansion schedule. The inability to do so may limit the Company’s ability to effectively penetrate new market areas.

If the Company cannot open new stores on schedule, its growth will be impeded.   Delays in store openings could adversely affect the Company’s future operations by slowing new store growth, which may in turn reduce its revenue growth.  The Company’s ability to timely open new stores and to expand into additional states will depend in part on the following factors: the availability of attractive store locations; the ability to negotiate favorable lease terms; the ability to hire and train new personnel, especially store managers; the ability to identify customer demand in different geographic areas; general economic conditions; and the availability of sufficient funds for expansion. Many of these factors are beyond the Company’s control.

The inability to execute operating initiatives could impact the Company’s operating results.The Company is undertaking a significant number of operating initiatives in 2005 that have the potential to be disruptive in the short term if they are not implemented effectively.  Ineffective implementation or execution of some or all of these initiatives could negatively impact the Company’s operating results.  

The Company’s cost of doing business could increase as a result of changes in federal, state or local regulations.  Unanticipated changes in the federal or state minimum wage or living wage requirements or changes in other wage or workplace regulations could adversely impact the Company’s ability to meet financial targets.  In addition, changes in these requirements or in federal, state or local regulations governing the sale of the Company’s products, particularly





“over-the-counter” medications or health products, would increase the Company’s cost of doing business and, with respect to regulations governing the sale of products, could adversely and materially impact the Company’s sales results.

Rising insurance costs and loss experience could negatively impact profitability.  The costs of insurance (workers’ compensation insurance, general liability insurance, health insurance, property insurance and directors’ and officers’ liability insurance) and loss experience have risen in recent years. If such increases continue, they could have a negative impact on the Company’s profitability.

The Company’s reputation and financial condition could be affected by the SEC investigation.   As previously disclosed in the Company’s periodic reports filed with the SEC, the Company restated its audited financial statements for fiscal years 1999 and 1998, and certain unaudited financial information for fiscal year 2000, by means of its Form 10-K for the fiscal year ended February 2, 2001, which was filed on January 14, 2002 (the “2001 Restatement”).

The SEC has been conducting an investigation into the circumstances giving rise to the 2001 Restatement and, on January 8, 2004, the Company received notice that the SEC staff was considering recommending that the SEC bring a civil injunctive action against the Company for alleged violations of the federal securities laws in connection with circumstances relating to the 2001 Restatement.  The Company subsequently reached an agreement in principle with the SEC staff to settle the matter.  Under the terms of the agreement in principle, the Company will consent, without admitting or denying the allegations in a complaint to be filed by the SEC, to the entry of a permanent civil injunction against future violations of the antifraud, books and records, reporting and internal control provisions of the federal securities laws and related SEC rules and will pay a $10 million nondeductible civil penalty. The agreement with the SEC staff is subject to final approval by the court in which the SEC’s complaint is filed.  The Company accrued $10 million with respect to the penalty in its financial statements for the year ended January 30, 2004, and this accrual remains outstanding as of January 28, 2005. The Company can give no assurances that the court will approve this agreement.  If the agreement is not approved, the Company could be subject to different or additional penalties, both monetary and non-monetary, which could adversely affect the Company’s financial statements as a whole.  The publicity surrounding the SEC investigation and settlement also could affect the Company’s reputation and have an adverse impact on its financial statements as a whole.

Readers are cautioned not to place undue reliance on forward-looking statements made herein, since the statements speak only as of the date of this report.  Except as may be required by law, the Company undertakes no obligation to publicly update or revise any forward-looking statements contained herein to reflect events or circumstances occurring after the date of this report or to reflect the occurrence of unanticipated events.  Readers are advised, however, to consult any further disclosures the Company may make on related subjects in its documents filed with or furnished to the SEC or in its other public disclosures.





ITEM 7A.

QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Financial Risk Management

The Company is exposed to market risk primarily from adverse changes in interest rates.  To minimize such risk, the Company may periodically use financial instruments, including derivatives.  As a matter of policy, the Company does not buy or sell financial instruments for speculative or trading purposes and all financial instrument transactions must be authorized and executed pursuant to approval by the Board of Directors.  All financial instrument positions taken by the Company are used to reduce risk by hedging an underlying economic exposure.  Because of high correlation between the financial instrument and the underlying exposure being hedged, fluctuations in the value of the financial instruments are generally offset by reciprocal changes in the value of the underlying economic exposure.  The financial instruments used by the Company are s traightforward instruments with liquid markets.

The Company has cash flow exposure relating to variable interest rates associated with its revolving line of credit, and may periodically seek to manage this risk through the use of interest rate derivatives.  The primary interest rate exposure on variable rate obligations is based on the London Interbank Offered Rate (“LIBOR”).  

At January 28, 2005 and January 30, 2004, the fair value of the Company’s debt, excluding capital lease obligations, was approximately $278.7 million and $265.4 million, respectively (net of the fair value of a note receivable on the South Boston, Virginia DC of approximately $50.0 million and $48.9 million, respectively, as further discussed in Note 8 to the Consolidated Financial Statements), based upon the estimated market value of the debt at those dates.  Such fair value exceeded the carrying values of the debt at January 28, 2005 and January 30, 2004 by approximately $35.5 million and $21.7 million, respectively.

At February 1, 2002, the Company was party to an interest rate swap agreement with a notional amount of $100 million.  The Company designated this agreement as a hedge of its floating rate commitments relating to a portion of certain synthetic lease agreements that existed at that time.  Under the terms of the agreement, the Company paid a fixed rate of 5.60% and received a floating rate (LIBOR) on the $100 million notional amount through September 1, 2002.  The fair value of the interest rate swap agreement was $(2.6) million at February 1, 2002.  The counterparty to the Company’s interest rate swap agreement was a major financial institution.  The interest rate swap agreement expired on September 1, 2002. As of January 28, 2005, the Company was not party to any interest rate derivatives.

In 2002, as required by SFAS No. 133, the Company recorded the fair value of the interest rate swap in the balance sheet, with the offsetting, effective portion of the change in fair value recorded in Other comprehensive loss, a separate component of Shareholders’ equity in the Consolidated Financial Statements.  Amounts recorded in Other comprehensive loss were reclassified into earnings, as an adjustment to interest expense, in the same period during which the hedged synthetic lease agreements affected earnings.  





Based upon the Company’s variable rate borrowing levels, a 1% adverse change in interest rates would have resulted in a pre-tax reduction of earnings and cash flows of less than $0.1 million and approximately $1.7 million in 2004 and 2002, respectively, including the effects of interest rate swaps in 2002.  In 2003, the Company had no outstanding variable rate borrowings.  Based upon the Company’s outstanding indebtedness at January 28, 2005 and January 30, 2004, a 1% reduction in interest rates would have resulted in an increase in the fair value of the Company’s fixed rate debt of approximately $10.5 million and $14.8 million, respectively.






ITEM 8.

FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA


Report of Independent Registered Public Accounting Firm


To the Board of Directors and Shareholders of

Dollar General Corporation

Goodlettsville, Tennessee


Ethics.We have audited the accompanying consolidated balance sheets of Dollar General Corporation and subsidiaries as of January 28, 2005 and January 30, 2004, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended January 28, 2005. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits.


We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, onadopted a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.


In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Dollar General Corporation and subsidiaries as of January 28, 2005 and January 30, 2004, and the consolidated results of their operations and their cash flows for each of the three years in the period ended January 28, 2005, in conformity with U.S. generally accepted accounting principles.


As discussed in Note 2 to the consolidated financial statements, the accompanying consolidated balance sheet as of January 30, 2004 and consolidated statements of income, shareholders' equity, and cash flows for the years ended January 30, 2004 and January 31, 2003 have been restated to correct the accounting for leases.


We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Dollar General Corporation and subsidiaries’ internal control over financial reporting as of January 28, 2005, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated April 5, 2005 expressed an unqualified opinion on management's assessment and an adverse opinion on the effectiveness of internal control over financial reporting.


                                                                            /s/ Ernst & Young LLP

Nashville, Tennessee

April 5, 2005





CONSOLIDATED BALANCE SHEETS
(Dollars in thousands except per share amounts)

 

January 28,
2005

 

January 30,
2004

   

(Restated)

ASSETS

     

Current assets:

     

Cash and cash equivalents

$

232,830 

 

$

345,899 

Short-term investments

 

42,925 

  

68,726 

Merchandise inventories

 

1,376,537 

  

1,157,141 

Deferred income taxes

 

24,908 

  

30,413 

Prepaid expenses and other current assets

 

53,702 

  

50,036 

Total current assets

 

1,730,902 

  

1,652,215 

Net property and equipment

 

1,080,838 

  

957,632 

Other assets, net

 

29,264 

  

11,270 

Total assets

$

2,841,004 

 

$

2,621,117 

      

LIABILITIES AND SHAREHOLDERS’ EQUITY

     

Current liabilities:

     

Current portion of long-term obligations

$

12,860 

 

$

16,670 

Accounts payable

 

409,327 

  

383,791 

Accrued expenses and other

 

333,889 

  

303,156 

Income taxes payable

 

69,616 

  

45,725 

Total current liabilities

 

825,692 

  

749,342 

Long-term obligations

 

258,462 

  

265,337 

Deferred income taxes

 

72,385 

  

52,139 

Commitments and contingencies

     

Shareholders’ equity:

     

Series B junior participating preferred stock, stated
value $0.50 per share; Shares authorized:
10,000,000; Issued:  None

 

- 

  

- 

Common stock, par value $0.50 per share;
Shares authorized: 500,000,000; Issued:
2004-328,172,000; 2003-336,190,000

 

164,086 

  

168,095 

Additional paid-in capital

 

421,600 

  

376,930 

Retained earnings

 

1,102,457 

  

1,014,788 

Accumulated other comprehensive loss

 

(973)

  

(1,161)

  

1,687,170 

  

1,558,652 

Other shareholders’ equity

 

(2,705)

  

(4,353)

Total shareholders’ equity

 

1,684,465 

  

1,554,299 

Total liabilities and shareholders’ equity

$

2,841,004 

 

$

2,621,117 


The accompanying notes are an integral part of the consolidated financial statements.





CONSOLIDATED STATEMENTS OF INCOME

(Dollars in thousands except per share amounts)

 

For the years ended

 

January 28,
2005

 

January 30,
2004

 

January 31,
2003

   

(Restated)

 

(Restated)

            

Net sales

$

7,660,927 

  

$

6,871,992 

  

$

6,100,404 

 
            

Cost of goods sold

 

5,397,735 

   

4,853,863 

   

4,376,138 

 
            

Gross profit

 

2,263,192 

   

2,018,129 

   

1,724,266 

 
            

Selling, general and administrative

 

1,706,216 

   

1,500,103 

   

1,300,831 

 
            

Penalty expense and litigation settlement proceeds

 

- 

   

10,000 

   

(29,541)

 
            

Operating profit

 

556,976 

   

508,026 

   

452,976 

 
            

Interest income

 

(6,575)

   

(4,103)

   

(4,305)

 
            

Interest expense

 

28,794 

   

35,606 

   

46,944 

 
            

Income before income taxes

 

534,757 

   

476,523 

   

410,337 

 
            

Income taxes

 

190,567 

   

177,521 

   

147,986 

 
            

Net income

$

344,190 

  

$

299,002 

  

$

262,351 

 
            

Earnings per share:

           

        Basic

$

1.04 

  

$

0.89 

  

$

0.79 

 
            

        Diluted

$

1.04 

  

$

0.89 

  

$

0.78 

 
            

Weighted average shares:

           

         Basic

 

329,376 

   

334,697 

   

333,055 

 
            

         Diluted

 

332,068 

   

337,636 

   

335,050 

 
 



The accompanying notes are an integral part of the consolidated financial statements.





CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(Dollars in thousands except per share amounts)

 

Common Stock

Additional Paid-in Capital

Retained Earnings

Accumulated Other Comprehensive Loss

Other Shareholders’ Equity

Total

Balances, February 1, 2002

      

   (as previously reported)

$     166,359 

$         301,848 

$    579,265 

$               (3,228)

$         (2,526)

$   1,041,718 

Cumulative effect of restatement

      

   on prior years (See Note 2)

- 

- 

(18,028)

- 

- 

(18,028)

Balances, February 1, 2002 (restated)

$     166,359 

$         301,848 

$    561,237 

$               (3,228)

$        (2,526)

$   1,023,690 

Comprehensive income:

      

Net income

- 

- 

262,351 

- 

- 

262,351 

Net change in fair value of derivatives

- 

- 

- 

277 

- 

277 

Reclassification of net loss on derivatives

- 

- 

- 

1,602 

- 

1,602 

Comprehensive income

     

264,230 

Cash dividends, $0.13 per common share,

net of accruals

- 

- 

(31,991)

- 

- 

(31,991)

Issuance of common stock under stock incentive plans (710,000 shares)

355 

4,666 

- 

- 

- 

5,021 

Tax benefit from stock option exercises

- 

2,372 

- 

- 

- 

2,372 

Purchase of common stock by employee deferred compensation trust, net (27,000 shares)

- 

(98)

- 

- 

(347)

(445)

Amortization of unearned compensation on restricted stock and restricted stock units

- 

- 

- 

- 

131 

131 

Contribution of capital

- 

6,031 

- 

- 

- 

6,031 

Other equity transactions

(44)

(1,550)

- 

- 

- 

(1,594)

Balances, January 31, 2003 (restated)

$    166,670 

$         313,269 

$    791,597 

$               (1,349)

$        (2,742)

$   1,267,445 

Comprehensive income:

      

Net income

- 

- 

299,002 

- 

- 

299,002 

Reclassification of net loss on derivatives

- 

- 

- 

188 

- 

188 

Comprehensive income

     

299,190 

Cash dividends, $0.14 per common share

- 

- 

(46,883)

- 

- 

(46,883)

Issuance of common stock under stock incentive plans (4,240,000 shares)

2,120 

47,365 

- 

- 

- 

49,485 

Tax benefit from stock option exercises

- 

14,565 

- 

- 

- 

14,565 

Repurchases of common stock
(1,519,000 shares)

(759)

- 

(28,928)

- 

- 

(29,687)

Purchase of common stock by employee deferred compensation trust, net (11,000 shares)

- 

(157)

- 

- 

3 

(154)

Issuance of restricted stock (129,000 shares)

64 

1,904 

- 

- 

(1,968)

- 

Amortization of unearned compensation on restricted stock

- 

- 

- 

- 

354 

354 

Other equity transactions

- 

(16)

- 

- 

- 

(16)

Balances, January 30, 2004 (restated)

$    168,095 

$         376,930 

$ 1,014,788 

$               (1,161)

$        (4,353)

$   1,554,299 

Comprehensive income:

      

Net income

- 

- 

344,190 

- 

- 

344,190 

Reclassification of net loss on derivatives

- 

- 

- 

188 

- 

188 

Comprehensive income

     

344,378 

Cash dividends, $0.16 per common share

- 

- 

(52,682)

- 

- 

(52,682)

Issuance of common stock under stock incentive plans (2,875,000 shares)

1,437 

32,691 

- 

- 

- 

34,128 

Tax benefit from stock option exercises

- 

9,657 

- 

- 

- 

9,657 

Repurchases of common stock
(11,020,000 shares)

(5,510)

- 

(203,785)

- 

- 

(209,295)

Purchase of common stock by employee deferred compensation trust, net (25,000 shares)

- 

(92)

- 

- 

(377)

(469)

Issuance of restricted stock and restricted stock units (128,000 shares)

64 

2,398 

- 

- 

(2,462)

- 

Amortization of unearned compensation on restricted stock and restricted stock units

- 

- 

- 

- 

1,779 

1,779 

Deferred compensation obligation

- 

- 

- 

- 

2,708 

2,708 

Other equity transactions

- 

16 

(54)

- 

- 

(38)

Balances, January 28, 2005

$    164,086 

$         421,600 

$ 1,102,457 

$                  (973)

$        (2,705)

$   1,684,465 

The accompanying notes are an integral part of the consolidated financial statements.





CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

  

For the years ended

  

January 28,
2005

 

January 30,
2004

 

January 31,
2003

       

(Restated)

   

(Restated)

 

Cash flows from operating activities:

            

Net income

 

$

344,190 

  

$

299,002 

  

$

262,351 

 

Adjustments to reconcile net income to net cash provided by operating activities:

            

Depreciation and amortization

  

164,478 

   

154,457 

   

138,590 

 

Deferred income taxes

  

25,751 

   

18,611 

   

81,173 

 

Tax benefit from stock option exercises

  

9,657 

   

14,565 

   

2,372 

 

Litigation settlement

  

- 

   

- 

   

(162,000)

 

Change in operating assets and liabilities:

            

Merchandise inventories

  

(219,396)

   

(34,110)

   

7,992 

 

Prepaid expenses and other current assets

  

(3,666)

   

(16,304)

   

1,239 

 

Accounts payable

  

22,258 

   

33,265 

   

18,420 

 

Accrued expenses and other

  

35,048 

   

60,523 

   

15,269 

 

Income taxes

  

23,793 

   

(21,464)

   

56,458 

 

Other

  

(12,377)

   

5,166 

   

430 

 

Net cash provided by operating activities

  

389,736 

   

513,711 

   

422,294 

 

Cash flows from investing activities:

            

Purchases of property and equipment

  

(292,172)

   

(140,139)

   

(133,895)

 

Purchases of short-term investments

  

(221,700)

   

(201,950)

   

(2,500)

 

Sales of short-term investments

  

247,501 

   

134,725 

   

2,500 

 

Purchase of promissory notes

  

- 

   

(49,582)

   

- 

 

Proceeds from sale of property and equipment

  

3,324 

   

269 

   

481 

 

Net cash used in investing activities

  

(263,047)

   

(256,677)

   

(133,414)

 

Cash flows from financing activities:

            

Borrowings under revolving credit facility

  

195,000 

   

- 

   

- 

 

Repayments of borrowings under revolving credit facility

  

(195,000)

   

 - 

   

- 

 

Repayments of long-term obligations

  

(12,539)

   

(15,907)

   

(397,094)

 

Payment of cash dividends

  

(52,682)

   

(46,883)

   

(42,638)

 

Proceeds from exercise of stock options

  

34,128 

   

49,485 

   

5,021 

 

Repurchases of common stock

  

(209,295)

   

(29,687)

   

- 

 

Other financing activities

  

630 

   

73 

   

(5,702)

 

Net cash used in financing activities

  

(239,758)

   

(42,919)

   

(440,413)

 

Net increase (decrease) in cash and cash equivalents

  

(113,069)

   

 214,115 

   

(151,533)

 

Cash and cash equivalents, beginning of year

  

345,899 

   

131,784 

   

283,317 

 

Cash and cash equivalents, end of year

 

$

232,830 

  

$

345,899 

  

$

131,784 

 

Supplemental cash flow information:

            

Cash paid during year for:

            

Interest

 

$

26,748 

  

$

31,256 

  

$

41,015 

 

Income taxes

 

$

133,100 

  

$

165,248 

  

$

1,834 

 

Supplemental schedule of noncash investing and financing activities:

            

Purchases of property and equipment awaiting processing for payment, included in Accounts payable

 

$

12,921 

  

$

9,643

  

$

420 

 

Purchases of property and equipment under capital lease obligations

 

$

1,844 

  

$

996

  

$

8,453 

 

The accompanying notes are an integral part of the consolidated financial statements.





NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1.

Basis of presentation and accounting policies

Basis of presentation

These notes contain references to the years 2005, 2004, 2003 and 2002, which represent fiscal years ending or ended February 3, 2006, January 28, 2005, January 30, 2004 and January 31, 2003, respectively. Fiscal year 2005 will be a 53-week accounting period while 2004, 2003 and 2002 were 52-week accounting periods.  The Company’s fiscal year ends on the Friday closest to January 31. The consolidated financial statements include all subsidiaries of the Company, except for its not-for-profit subsidiary the assets and revenues of which are not material.  Intercompany transactions have been eliminated.

The Company leases four of its distribution centers (“DCs”) from lessors, which meets the definition of a Variable Interest Entity (“VIE”) as described by FASB Interpretation No. 46, “Consolidation of Variable Interest Entities” (“FIN 46”), as revised. Two of these DCs have been recorded as financing obligations whereby the property and equipment, along with the related lease obligations, are reflected in the consolidated balance sheets.  The other two DCs, excluding the equipment, have been recorded as operating leases in accordance with SFAS No. 98, “Accounting for Leases.”  The Company is not the primary beneficiary of these VIEs and, accordingly, has not included these entities in its consolidated financial statements.

Business description

The Company sells general merchandise on a retail basis through 7,320 stores (as of January 28, 2005) located in the southern, eastern and midwestern United States.  The Company has DCs in Scottsville, Kentucky; Ardmore, Oklahoma; South Boston, Virginia; Indianola, Mississippi; Fulton, Missouri; Alachua, Florida; and Zanesville, Ohio.  The Company also has a DC under construction near Jonesville, South Carolina.

The Company purchases its merchandise from a wide variety of suppliers. Approximately 10% of the Company’s purchases in 2004 were made from Procter and Gamble.  No other supplier accounted for more than 3% of the Company’s purchases in 2004.  

Cash and cash equivalents

Cash and cash equivalents include highly liquid investments with insignificant interest rate risk and original maturities of three months or less when purchased.  They primarily consist of money market funds, certificates of deposit and commercial paper.  The carrying amounts of these items are a reasonable estimate of their fair value due to the short maturity of these investments.

Payments due from banks for third-party credit card, debit card and electronic benefit transactions (“EBT”) classified as cash and cash equivalents totaled approximately $4.8 million and $1.1 million at January 28, 2005 and January 30, 2004, respectively.





The Company’s cash management system provides for daily investment of available balances and the funding of outstanding checks when presented for payment.  Outstanding but unpresented checks totaling approximately $112.3 million and $105.2 million at January 28, 2005 and January 30, 2004, respectively, have been included in Accounts payable in the consolidated balance sheets.  Upon presentation for payment, these checks are funded through available cash balances or the Company’s existing credit facility.

Investments in debt and equity securities


The Company accounts for its investment in debt and marketable equity securities in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 115, “Accounting for Certain Investments in Debt and Equity Securities” and accordingly, classifies them as held-to-maturity, available-for-sale, or trading.  Debt securities categorized as held-to-maturity are stated at amortized cost.  Debt and equity securities categorized as available-for-sale are stated at fair value, with any unrealized gains and losses, net of deferred income taxes, reported as a component of Accumulated other comprehensive loss.  Trading securities are stated at fair value, with changes in fair value recorded in income as a component of Selling, general and administrative expense.


In general, the Company invests excess cash in shorter-dated, highly liquid investments such as money market funds, certificates of deposit, and commercial paper.  Depending on the type of securities purchased (debt versus equity) as well as the Company’s intentions with respect to the potential sale of such securities before their stated maturity dates, such securities have been classified as held-to-maturity or available-for-sale.  Given the short maturities of such investments (except for those securities described in further detail below), the carrying amounts approximate the fair values of such securities.


Additionally, beginning in fiscal year 2003, the Company began investing in auction rate securities, which are debt instruments having longer-dated (in some cases, many years) legal maturities, but with interest rates that are generally reset every 28-35 days under an auction system.  Because auction rate securities are frequently re-priced, they trade in the market like short-term investments.  As available-for-sale securities, these investments are carried at fair value, which approximates cost given that the average duration that such securities are held by the Company is less than 40 days.  Despite the liquid nature of these investments, the Company categorizes them as short-term investments instead of cash and cash equivalents due to the underlying legal maturities of such securities.  However, they have been classified as current assets as they are generally avai lable to support the Company’s current operations. Auction rate securities of $67.2 million were reclassified from cash in the prior year financial statements to conform to the current year presentation.


The Company’s investment in the secured promissory notes issued by the third-party entity from which the Company leases its DC in South Boston, Virginia, as discussed in Note 8, has been classified as a held-to-maturity security.  The investments in mutual funds by participants in the Company’s supplemental retirement and compensation deferral plans discussed in Note 9 have been classified as trading securities. Historical cost information pertaining to such trading securities is not readily available to the Company since individuals hold these investments in compensation deferral plans.






On January 28, 2005 and January 30, 2004, held-to-maturity, available-for-sale and trading securities consisted of the following (in thousands):

    

Gross Unrealized

  

January 28, 2005

 

Cost

 

Gains

 

Losses

 

Estimated
Fair Value

Held-to-maturity securities

                

Bank and corporate debt

 

$

45,422

  

$

-

  

$

-

  

$

45,422

 

Other debt securities

  

48,179

   

1,808

   

-

   

49,987

 
   

93,601

   

1,808

   

-

   

95,409

 
                 

Available-for-sale securities

                

Equity securities

  

38,618

   

-

   

-

   

38,618

 

Other debt securities

  

42,425

   

-

   

-

   

42,425

 
   

81,043

   

-

   

-

   

81,043

 
                 

Trading securities

                

Equity securities

  

11,932

   

-

   

-

   

11,932

 
                 

Total debt and equity securities

 

$

186,576

  

$

1,808

  

$

-

  

$

188,384

 
                 


    

Gross Unrealized

  

January 30, 2004

 

Cost

 

Gains

 

Losses

 

Estimated
Fair Value

Held-to-maturity securities

                

Bank and corporate debt

 

$

261,604

  

$

-

  

$

-

  

$

261,604

 

Other debt securities

  

49,132

   

-

   

232

   

48,900

 
   

310,736

   

-

   

232

   

310,504

 
                 

Available-for-sale securities

                

Equity securities

  

16,000

   

-

   

-

   

16,000

 

Other debt securities

  

67,225

   

-

   

-

   

67,225

 
   

83,225

   

-

   

-

   

83,225

 
                 

Trading securities

                

Equity securities

  

10,919

   

-

   

-

   

10,919

 
                 

Total debt and equity securities

 

$

404,880

  

$

-

  

$

232

  

$

404,648

 
                 

On January 28, 2005 and January 30, 2004, these investments were included in the following accounts in the consolidated balance sheets (in thousands):



January 28, 2005

Held-to-Maturity Securities

 

Available-
for-Sale Securities

 

Trading

Securities

Cash and cash equivalents

$

44,922

  

$

38,618

  

$

-

 

Short-term investments

 

500

   

42,425

   

-

 

Other current assets

 

-

   

-

   

11,932

 

Current portion of long-term obligations (see Note 8)

 

1,048

   

-

   

-

 

Long-term obligations (see Note 8)

 

47,131

   

-

   

-

 
 

$

93,601

  

$

81,043

  

$

11,932

 







January 30, 2004

Held-to-Maturity Securities

 

Available-
for-Sale Securities

 

Trading

Securities

Cash and cash equivalents

$

260,103

  

$

16,000

  

$

-

 

Short-term investments

 

1,501

   

67,225

   

-

 

Other current assets

 

-

   

-

   

10,919

 

Current portion of long-term obligations (see Note 8)

 

971

   

-

   

-

 

Long-term obligations (see Note 8)

 

48,161

   

-

   

-

 
 

$

310,736

  

$

83,225

  

$

10,919

 


The contractual maturities of held-to-maturity and available-for-sale securities as of January 28, 2005 were as follows (in thousands):


 

Held-to-Maturity Securities

 

Available-for-Sale Securities

 

Cost

Fair Value

 

Cost

Fair Value

Less than one year

$

45,422

 

$

45,422

  

$

-

 

$

-

 

One to three years

 

-

  

-

   

-

  

-

 

Greater than three years

 

48,179

  

49,987

   

42,425

  

42,425

 

Equity securities

 

-

  

-

   

38,618

  

38,618

 
 

$

93,601

 

$

95,409

  

$

81,043

 

$

81,043

 


For the years ended January 28, 2005, January 30, 2004, and January 31, 2003, gross realized gains and losses on the sales of available-for-sale securities were not material.  The cost of securities sold is based upon the specific identification method.

Merchandise inventories

Inventories are stated at the lower of cost or market with cost determined using the retail last-in, first-out (“LIFO”) method. The excess of current cost over LIFO cost was approximately $6.3 million at January 28, 2005 and $6.5 million at January 30, 2004. Current cost is determined using the retail first-in, first-out method.  LIFO reserves decreased $0.2 million in 2004, increased $0.7 million in 2003 and decreased $8.9 million in 2002.  Costs directly associated with warehousing and distribution are capitalized into inventory.

Pre-opening costs

Pre-opening costs for new stores are expensed as incurred.

Property and equipment

Property and equipment are recorded at cost.  The Company provides for depreciation and amortization on a straight-line basis over the following estimated useful lives:

Land improvements

20

Buildings

39-40

Furniture, fixtures and equipment

3-10







Improvements of leased properties are amortized over the shorter of the life of the applicable lease term or the estimated useful life of the asset.


Impairment of long-lived assets

When indicators of impairment are present, the Company evaluates the carrying value of long-lived assets, other than goodwill, in relation to the operating performance and future undiscounted cash flows or the appraised values of the underlying assets.  The Company adjusts the net book value of the underlying assets based upon an analysis of the sum of expected future cash flows compared to the book value, and may also consider appraised values.  Assets to be disposed of are adjusted to the fair value less the cost to sell if less than the book value.  The Company recorded impairment charges of approximately $0.5 million and $0.6 million in 2004 and 2003, respectively, and $4.7 million prior to 2002 to reduce the carrying value of the Homerville, Georgia DC (which was closed in fiscal 2000 and sold in 2004).  The Company also recorded impairment char ges of approximately $0.2 million in each of 2004 and 2003 to reduce the carrying value of certain of its stores based upon negative sales trends and cash flows at these locations. These charges are included in Selling, general and administrative (“SG&A”) expense.

Other assets

Other assets consist primarily of debt issuance costs which are amortized over the life of the related obligations, utility and security deposits, life insurance policies and goodwill.

Vendor rebates

The Company records vendor rebates, primarily consisting of new store allowances and volume purchase rebates, when realized.  The rebates are recorded as a reduction to inventory purchases, at cost, which has the effect of reducing cost of goods sold, as prescribed by Emerging Issues Task Force (“EITF”) Issue No. 02-16, “Accounting by a Customer (including a Reseller) for Certain Consideration Received from a Vendor” (“EITF 02-16”).

Operating leases

Contingent rentals. The Company recognizes contingent rental expense when the achievement of specified sales targets are considered probable, in accordance with EITF Issue No. 98-9, “Accounting for Contingent Rent.” The amount expensed but not paid as of January 28, 2005 and January 30, 2004 was approximately $8.6 million and $8.9 million, respectively, and is included in Accrued expenses and other in the consolidated balance sheets. (See Notes 4 and 8).

Deferred rent. The Company records rental expense on a straight-line basis over the base, non-cancelable lease term commencing on the date that the Company takes physical possession of the property.  Any difference between the calculated expense and the amounts actually paid are reflected as a liability in Accrued expenses and other in the consolidated balance sheets and totaled approximately $18.0 million and $14.0 million at January 28, 2005 and January 30, 2004, respectively.





Insurance claims provisions

The Company retains a significant portion of risk for its workers' compensation, employee health, general liability, property and automobile claim exposures.  Accordingly, provisions are made for the Company's estimates of such risks.  Actuaries are utilized to determine the undiscounted future claim costs for the workers' compensation, general liability, and health claim risks.  To the extent that subsequent claim costs vary from those estimates, future results of operations will be affected. The Greater Cumberland Insurance Company (“GCIC”), a Vermont-based wholly-owned captive insurance subsidiary of the Company, charges the operating subsidiary companies premiums to insure the retained workers' compensation and non-property general liability exposures.  GCIC currently insures no unrelated third-party risk.

Fair value of financial instruments

The carrying amounts reflected in the consolidated balance sheets for cash, cash equivalents, short-term investments, receivables and payables approximate their respective fair values.  At January 28, 2005 and January 30, 2004, the fair value of the Company’s debt, excluding capital lease obligations, was approximately $278.7 million and $265.4 million, respectively, (net of the fair value of a note receivable on the South Boston, Virginia DC of approximately $50.0 million and $48.9 million, respectively, as discussed in Note 8) based upon the estimated market value of the debt at those dates.  Such fair value exceeded the carrying values of the debt at January 28, 2005 and January 30, 2004 by approximately $35.5 million and $21.7 million, respectively. Fair values are based primarily on quoted prices for those or similar instruments.  A discussion o f the carrying value and fair value of the Company’s derivative financial instruments is included in the section entitled “Derivative financial instruments” below.

Derivative financial instruments

The Company accounts for derivative financial instruments in accordance with the provisions of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities”, as amended by SFAS Nos. 137, 138 and 149 and interpreted by numerous Financial Accounting Standards Board (“FASB”) Issues. These statements require the Company to recognize all derivative instruments on the balance sheet at fair value, and contain accounting rules for hedging instruments, which depend on the nature of the hedge relationship.

The Company has historically used derivative financial instruments primarily to reduce its exposure to adverse fluctuations in interest rates and, to a much lesser extent, other market exposures.

As a matter of policy, the Company does not buy or sell financial instruments, including derivatives, for speculative or trading purposes and all financial instrument transactions must be authorized and executed pursuant to the approval of the Board of Directors. All financial instrument positions taken by the Company are used to reduce risk by hedging an underlying economic exposure and are structured as straightforward instruments with liquid markets. The Company primarily executes derivative transactions with major financial institutions.





For a portion of fiscal year 2002, the Company was party to an interest rate swap agreement with a notional amount of $100 million. The Company designated this agreement as a hedge of the floating rate commitments relating to a portion of certain synthetic lease agreements that existed at that time.  Under the terms of the agreement, the Company paid a fixed rate of 5.60% and received a floating rate (LIBOR) on the $100 million notional amount through September 1, 2002. This interest rate swap matured in September 2002, and, as of January 28, 2005, the Company had no outstanding derivative financial instruments. While outstanding, this derivative was 100% effective in hedging the floating rate commitments relating to the underlying exposure being hedged. Accordingly, no hedge ineffectiveness was recognized by the Company relating to this h edging relationship.

The following table summarizes activity in Accumulated other comprehensive loss during 2004 related to derivative transactions used by the Company in prior periods to hedge cash flow exposures relating to certain debt transactions (in thousands):

 

Before-Tax

Amount

 

Income Tax

 

After-Tax

Amount

Accumulated net losses as of January 30, 2004

$

(1,825)

  

$

664 

  

$

(1,161)

 

Net losses reclassified from Other comprehensive loss into earnings

 

286 

   

(98)

   

188 

 

Accumulated net losses as of January 28, 2005

$

(1,539)

  

$

566 

  

$

(973)

 


The balance remaining in Accumulated other comprehensive loss at January 28, 2005 relates solely to deferred losses realized in June 2000 on the settlement of an interest rate derivative that was designated and effective as a cash flow hedge of the Company’s forecasted issuance of its $200 million of fixed rate notes in June 2000 (see Note 6). This amount will be reclassified into earnings as an adjustment to the effective interest expense on the fixed rate notes through their maturity date in June 2010. The Company estimates that it will reclassify into earnings during the next twelve months approximately $0.2 million of the net amount recorded in Other comprehensive loss as of January 28, 2005.


Stock-based compensation

The Company has a shareholder-approved stock incentive plan under which stock options, restricted stock, restricted stock units and other equity-based awards may be granted to officers, directors and key employees.  Stock options currently are granted under this plan at the market price on the grant date and generally vest ratably over a four-year period, with certain exceptions as further described in Note 10. All stock options granted under this plan have a ten-year life subject to earlier termination upon death, disability or cessation of employment.  Options granted prior to 2002, either pursuant to this plan or pursuant to other shareholder-approved stock incentive plans from which the Company no longer grants awards, are subject to time-based vesting or a combination of Company performance-based and time-based vesting, and generally have a ten-year life.  In addition, prior to June 2003, the plan provided for automatic annual stock option grants to non-employee directors pursuant to a non-discretionary formula.  Those stock options vested one year after the grant date and generally have a ten-year life.





The Company accounts for stock option grants in accordance with Accounting Principles Board Opinion No. 25, “Accounting for StockIssued to Employees” (“APB No. 25”), and related interpretations. Under APB No. 25, compensation expense is generally not recognized for plans in which the exercise price of the stock options equals the market price of the underlying stock on the date of grant and the number of shares subject to exercise is fixed. Had compensation cost for the Company’s stock-based compensation plans been determined based on the fair value at the grant date for awards under these plans consistent with the methodology prescribed under SFAS No. 123 (with compensation expense amortized ratably over the applicable vesting periods), net income and earnings per share would have been reduced to the pro forma amounts indicated in the following table.



(Amounts in thousands except per share data)

2004

 

2003

 

2002

Net income – as reported

$

344,190

 

$

299,002

 

$

262,351

Less pro forma effect of stock option grants

 

10,724

  

7,867

  

15,217

Net income – pro forma

$

333,466

 

$

291,135

 

$

247,134

Earnings per share – as reported

        

Basic

$

1.04

 

$

0.89

 

$

0.79

Diluted

$

1.04

 

$

0.89

 

$

0.78

Earnings per share – pro forma

        

Basic

$

1.01

 

$

0.87

 

$

0.74

Diluted

$

1.00

 

$

0.86

 

$

0.74


Prior to 2002, the Company modified its stock incentive plans to extend the exercise period for outstanding stock option grants from one to three years for estates of deceased employees, to the extent that the stock options were fully vested at the date of death.  However, this modification did not extend the ten-year maximum contractual exercise term following the date of grant.  In accordance with the provisions of APB No. 25, as interpreted, this modification has resulted in the recording of compensation expense, using the intrinsic-value based method of accounting, only for those vested stock options held by estates of employees which would benefit from the extended exercise period.  On the modification date, the Company could not estimate whether and to what extent estates of deceased employees would benefit from this modification and, accordingly, n o compensation expense was recorded during 2001.  However, in subsequent periods, the Company has recognized and will continue to recognize compensation expense for those estates of deceased employees that benefit from the extended exercise period, and it is possible that such compensation expense could materially affect future consolidated financial statements. Total compensation expense relating to modifications of the Company’s stock option plans was less than $0.1 million in each of 2004, 2003 and 2002.

As allowed by the stock incentive plans, the Company has historically extended the exercise period for outstanding stock option grants to three years from the date of cessation of employment with the Company for former employees who meet certain “early retirement” criteria which may include their age and years of service, to the extent that their stock options were fully vested at the date their employment ended. However, this practice does not extend the ten-year maximum contractual exercise term following the date of grant.

The Company may periodically award restricted stock or restricted stock units to officers and other key employees under the stock incentive plan.  The terms of the stock incentive plan limit the total number of shares of restricted stock and restricted stock units eligible for issuance





thereunder to a maximum of 4 million shares.  Restricted stock awards consist of a fixed number of shares of common stock that generally vest ratably over three years.  Restricted stock units represent the right to receive one share of common stock for each unit upon vesting and  generally vest ratably over three years.  In addition, the stock incentive plan was amended in June 2003 to provide for the automatic annual grant of 4,600 restricted stock units to each non-employee director (6,000 restricted stock units to any non-employee director serving as Chairman) in lieu of the automatic annual stock option grants discussed previously. The initial grant of these restricted stock units was made in 2004.  These units generally vest one year after the grant date, subject to earlier vesting upon retirement or other circumst ances described in the plan, but no payout shall be made until the individual has ceased to be a member of the Board of Directors.  Dividends or dividend equivalents, as the case may be, are paid or accrued on the grants of restricted stock and restricted stock units at the same rate that dividends are paid to shareholders generally.

The Company accounts for restricted stock grants in accordance with APB No. 25 and related interpretations.  Under APB No. 25, the Company calculates compensation expense as the difference between the market price of the underlying stock on the date of grant and the purchase price, if any, and recognizes such amount on a straight-line basis over the period in which the restricted stock award is earned by the recipient.  The Company recognized compensation expense relating to its restricted stock awards of approximately $1.8 million, $0.4 million and $0.1 million in 2004, 2003 and 2002, respectively. (See Note 10).

Revenue and gain recognition

The Company recognizes sales at the time the sale is made to the customer. The Company records gain contingencies when realized.

Advertising costs

Advertising costs are expensed as incurred and were $7.9 million, $5.4 million and $7.1 million in 2004, 2003 and 2002, respectively.  These costs primarily related to targeted circulars supporting new stores and in-store signage.

Interest during construction

To assure that interest costs properly reflect only that portion relating to current operations, interest on borrowed funds during the construction of property and equipment is capitalized.  Interest costs capitalized were approximately $3.6 million, $0.2 million and $0.1 million in 2004, 2003 and 2002, respectively.

Income taxes

The Company reports income taxes in accordance with SFAS No. 109, “Accounting for Income Taxes.”  Under SFAS No. 109, the asset and liability method is used for computing future income tax consequences of events that have been recognized in the Company’s consolidated financial statements or income tax returns.  Deferred income tax expense or benefit is the net change during the year in the Company’s deferred income tax assets and liabilities.





Management estimates

The preparation of financial statements and related disclosures in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting periods.  Actual results could differ from those estimates.

 Accounting pronouncements

In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment,” which will require all companies to measure compensation cost for all share-based payments (including employee stock options) at fair value. This new standard will be effective for public companiesfor interim or annual periods beginning after June 15, 2005. Companies can adopt the new standard in one of two ways: (i) the modified prospective application, in which a company would recognize share-based employee compensation cost from the beginning of the fiscal period in which the recognition provisions are first applied as if the fair-value-based accounting method had been used to account for all employee awards granted, modified, or settled after the effective date and to any awards that were not fully vested as of the effective date; or (ii) the modified retrospective application, in which a company woul d recognize employee compensation cost for periods presented prior to the adoption of SFAS No. 123R in accordance with the original provisions of SFAS No. 123 “Accounting for Stock-Based Compensation,” pursuant to which an entity would recognize employee compensation cost in the amounts reported in the pro forma disclosures provided in accordance with SFAS No. 123. The Company expects to adopt SFAS No. 123R during the third quarter of 2005, using the modified prospective application and expects to incur incremental expense associated with the adoption of approximately $4 million to $8 million in 2005. See “Stock-based compensation” above for additional disclosures pertaining to the pro forma effects of stock option grants as determined using the methodology prescribed under SFAS No. 123.


Reclassifications

Certain reclassifications of the 2003 and 2002 amounts have been made to conform to the 2004 presentation, including the reclassification of certain short-term investments which were previously classified as cash and cash equivalents as further described above.

2.

Restatement of Financial Statements


Following a review of the Company’s lease accounting and leasehold amortization practices, the Company identified areas where its practices differed from the views expressed by the Securities and Exchange Commission (“SEC”) in a letter released on February 7, 2005. The Company determined that it would change its practices, as discussed below, to conform to the SEC’s views and GAAP. The Company determined that, because the cumulative adjustments resulting from these corrections would have been material to the financial statements for the year ended January 28, 2005, it was required to restate its financial statements for fiscal years 2000 through 2003 (the “Restatement”). The Restatement was technically required even though the





adjustments for each individual year are not material to that year’s previously reported results (including previously reported 2004 results) and have no impact on the Company’s current or future cash flows.


Previously, the Company amortized all leasehold improvements over eight years, which was estimated to be the approximate useful life of the asset to the Company, given the nature of the assets and historical lease renewal practices. Under the corrected method, the Company has changed its practice to amortize leasehold improvements over the shorter of eight years or the applicable non-cancelable lease term. In addition, the Company previously recognized straight-line rent expense for leases beginning on the earlier of the store opening date or the rent payment commencement date, which had the effect of excluding the period used for preparing the store for opening (approximately 30 days) from the calculation of the period over which rent was expensed. Under the corrected method, the Company has changed its practice to include the period of time needed to prepare the store for opening in its calc ulation of straight-line rent.  


The following is a summary of the line items impacted by the Restatement for the 2003 Consolidated Balance Sheet and the 2003 and 2002 Consolidated Statements of Income and Shareholders’ Equity (in thousands, except per share data):

 

January 30, 2004

 

As PreviouslyReported

Adjustments

Restated

Net property and equipment

$

989,224 

 

$

(31,592)

 

$

957,632 

 

Accrued expenses and other

 

297,616 

  

5,540 

  

303,156 

 

Deferred income tax liability (long-term)

 

66,650 

  

(14,511)

  

52,139 

 

Retained earnings

 

1,037,409 

  

(22,621)

  

1,014,788 

 

Total shareholders' equity

 

1,576,920 

  

(22,621)

  

1,554,299 

 

Total liabilities and shareholders' equity

 

2,652,709 

  

(31,592)

  

2,621,117 

 


 

January 31, 2003

 

As PreviouslyReported

Adjustments

Restated

Total shareholders’ equity

$

1,288,068 

 

$

(20,623)

 

$

1,267,445 

 


 

February 1, 2002

 

As PreviouslyReported

Adjustments

Restated

Total shareholders’ equity

$

1,041,718 

 

$

(18,028)

 

$

1,023,690

 


 

For the year ended January 30, 2004

 

As PreviouslyReported

Adjustments

Restated

Selling, general and administrative

$

1,496,866 

 

$

3,237 

 

$

1,500,103 

 

Operating profit

 

511,263 

  

(3,237)

  

508,026 

 

Income before income taxes

 

479,760 

  

(3,237)

  

476,523 

 

Income taxes

 

178,760 

  

(1,239)

  

177,521 

 

Net income

 

301,000 

  

(1,998)

  

299,002 

 

Diluted earnings per share

 

0.89 

  

-  

  

0.89 

 





 

For the year ended January 31, 2003

 

As PreviouslyReported

Adjustments

Restated

Selling, general and administrative

$

1,296,542 

 

$

4,289 

 

$

1,300,831 

 

Operating profit

 

457,265 

  

(4,289)

  

452,976 

 

Income before income taxes

 

414,626 

  

(4,289)

  

410,337 

 

Income taxes

 

149,680 

  

(1,694)

  

147,986 

 

Net income

 

264,946 

  

(2,595)

  

262,351 

 

Diluted earnings per share

 

0.79 

  

- 

  

0.78 

 


3.

Property and equipment

Property and equipment is recorded at cost and summarized as follows:

(In thousands)

2004

 

 2003

Land and land improvements

$

145,194

 

$

145,605

Buildings

 

333,667

  

333,765

Leasehold improvements

 

191,103

  

170,895

Furniture, fixtures and equipment

 

1,196,094

  

1,039,946

Construction in progress

 

74,277

  

19,511

  

1,940,335

  

1,709,722

Less accumulated depreciation and amortization

 

859,497

  

752,090

Net property and equipment

$

1,080,838

 

$

957,632


Depreciation expense related to property and equipment was approximately $163.1 million, $150.9 million and $139.0 million in 2004, 2003 and 2002, respectively. Amortization of capital lease assets is included in depreciation expense.

4.

Accrued expenses and other

Accrued expenses and other consist of the following:

(In thousands)

2004

 

 2003

Compensation and benefits

$

72,815

 

$

78,374

Insurance

 

118,326

  

97,104

Taxes (other than taxes on income)

 

39,639

  

35,859

Other

 

103,109

  

91,819

 

$

333,889

 

$

303,156





5.

Income taxes

The provision for income taxes consists of the following:

(In thousands)

2004

 

2003

 

2002

Current:

        

Federal

$

155,497 

 

$

145,072 

 

$

55,646 

Foreign

 

1,169 

  

- 

  

- 

State

 

8,150 

  

13,838 

  

11,167 

  

164,816 

  

158,910 

  

66,813 

Deferred:

        

Federal

 

21,515 

  

17,224 

  

81,741 

Foreign

 

21 

  

- 

  

- 

State

 

4,215 

  

1,387 

  

(568)

  

25,751 

  

18,611 

  

81,173 

 

$

190,567 

 

$

177,521 

 

$

147,986 


A reconciliation between actual income taxes and amounts computed by applying the federal statutory rate to income before income taxes is summarized as follows:

 

  2004

 

  2003

 

  2002

U.S. federal statutory rate on
earnings before income taxes

$

187,165 

 

35.0 

%

 

$

166,783 

 

35.0 

%

 

$

143,618 

 

35.0 

%

State income taxes, net of federal income tax benefit

 

8,168 

 

1.5 

%

  

10,773 

 

2.3 

%

  

6,426 

 

1.6 

%

Jobs credits, net of federal income taxes

 

(5,544)

 

 (1.0)

%

  

(3,817)

 

(0.8)

%

  

(2,745)

 

(0.7)

%

Increase (decrease) in valuation allowance

 

(106)

 

 (0.0)

%

  

(582)

 

(0.1)

%

  

463 

 

0.1 

%

Non-deductible penalty (see
Note 8)

 

- 

 

- 

   

3,500 

 

0.7 

%

  

- 

 

- 

 

Other

 

884 

 

0.1 

%

  

864 

 

0.2 

%

  

224 

 

0.1 

%

 

$

190,567 

 

35.6 

%

 

$

177,521 

 

37.3 

%

 

$

147,986 

 

 36.1 

%


Sources of deferred tax assets and deferred tax liabilities are as follows:


(In thousands)

2004

 

2003

Deferred tax assets:

     

Deferred compensation expense

$

17,310 

 

$

20,466 

Accrued expenses and other

 

8,889 

  

7,521 

Workers compensation-related insurance liabilities

 

25,950 

  

9,198 

Deferred gain on sale/leasebacks

 

2,624 

  

2,775 

Other

 

3,755 

  

4,105 

State tax net operating loss carryforwards

 

9,180 

  

9,916 

State tax credit carryforwards

 

1,982 

  

1,568 

  

69,690 

  

55,549 

Less valuation allowance

 

(2,126)

  

(2,232)

Total deferred tax assets

 

67,564 

  

53,317 

Deferred tax liabilities:

     

Property and equipment

 

(82,807)

  

(60,091)

Inventories

 

(31,635)

  

(14,017)

Other

 

(599)

  

(935)

Total deferred tax liabilities

 

(115,041)

  

(75,043)

Net deferred tax liabilities

$

(47,477)

 

$

(21,726)





State net operating loss carryforwards as of January 28, 2005, totaled approximately $223 million and will expire between 2005 and 2024.  The Company also has state credit carryforwards of approximately $3.0 million that will expire between 2006 and 2016.  The valuation allowance has been provided principally for certain state loss carryforwards and state tax credits.  The change in the valuation allowance was a decrease of $0.1 million and $0.6 million and an increase of $0.5 million in 2004, 2003, and 2002, respectively.  Approximately $1.0 million of the 2003 valuation allowance reduction was due to certain state tax law changes during the year which caused the future recognition of certain state tax credit carryforwards to be considered more likely than not to occur, thereby resulting in the reduction of a valuation allowance created in an earli er year.  Based upon expected future income and available tax planning strategies, management believes that it is more likely than not that the results of operations will generate sufficient taxable income to realize the deferred tax assets after giving consideration to the valuation allowance.

The Company estimates its contingent income tax liabilities based on its assessment of probable income tax-related exposures and the anticipated settlement of those exposures translating into actual future liabilities. As of January 28, 2005 and January 30, 2004, the Company’s accrual for these contingent liabilities, included in Income taxes payable in the consolidated balance sheets, was approximately $13.5 million and $16.9 million, respectively, and the related accrued interest included in Accrued expenses and other in the consolidated balance sheets was approximately $6.9 million and $6.6 million respectively.

6.

Current and long-term obligations

Current and long-term obligations consist of the following:

(In thousands)

January 28, 2005

 

January 30, 2004

8 5/8% Notes due June 15, 2010, net of discount of $232 and $275, at January 28, 2005 and January 30, 2004, respectively

$

199,768 

   

$

199,725 

 

Capital lease obligations (see Note 8)

 

28,178 

    

38,228 

 

Financing obligations (see Note 8)

 

43,376 

    

44,054 

 
  

271,322 

    

282,007 

 

Less: current portion

 

(12,860)

    

(16,670)

 

Long-term portion

$

258,462 

   

$

265,337 

 


In June 2004, the Company amended its existing revolving credit facility (the “Credit Facility”). Under the terms of the amendment, the Credit Facility has a current maximum commitment of $250 million and expires in June 2009.  The amended Credit Facility contains provisions that would allow the maximum commitment to be increased to up to $400 million upon mutual agreement of the Company and its lenders. The Credit Facility, as amended, is unsecured. The Company pays interest on funds borrowed under the amended Credit Facility at rates that are subject to change based upon the ratio of the Company’s debt to EBITDA (as defined in the Credit Facility).  The Company has two interest rate options, base rate (which is usually equal to prime rate) or LIBOR.  Under the amended terms of the Credit Facility, the facility fees can range from 12.5 to 37.5 basis points; the all-in drawn margin under the LIBOR option can range from LIBOR plus 87.5 to 212.5 basis points; and the all-in drawn margin under the base rate option can range from the base rate plus 12.5 to 62.5 basis points. During 2004, the Company had peak borrowings of $73.1 million under the Credit Facility, and had no borrowings





during 2003. The Credit Facility contains financial covenants, which include limits on certain debt to cash flow ratios, a fixed charge coverage test, and minimum allowable consolidated net worth ($1.39 billion at January 28, 2005).  As of January 28, 2005, the Company was in compliance with all of these covenants. As of January 28, 2005, the Company had no outstanding borrowings and $8.7 million of standby letters of credit outstanding under the Credit Facility.

At January 28, 2005 and January 30, 2004, the Company had commercial letter of credit facilities totaling $215.0 and $218.0 million, respectively, of which $98.8 million and $111.7 million, respectively, were outstanding for the funding of imported merchandise purchases.

In 2000, the Company issued $200 million principal amount of 8 5/8% Notes due June 2010 (the “Notes”). The Notes require semi-annual interest payments in June and December of each year through June 15, 2010, at which time the entire balance becomes due and payable.  In addition, the Notes may be redeemed by the holders thereof at 100% of the principal amount, plus accrued and unpaid interest, on June 15, 2005.  Although the holders of the Notes have the ability to require the Company to repurchase the notes in June 2005, the Company has classified this debt as long-term due to its intent and ability, in the event it were required to repurchase any portion of the Notes, to refinance this indebtedness on a long-term basis, including through borrowings under the Credit Facility. The Notes contain certain restrictive covenants.  At January 28, 2005, the Company was in compliance with all such covenants.

7.

Earnings per share

The amounts reflected below are in thousands except per share data.

 

2004

 

Net

Income

 


Shares

     Per Share

    Amount

Basic earnings per share

$

344,190 

  

329,376

 

$

1.04

 

Effect of dilutive stock options

    

2,692

    

Diluted earnings per share

$

344,190 

  

332,068

 

$

1.04

 


 

2003

 

Net

Income

 


Shares

    Per Share

   Amount

Basic earnings per share

$

299,002 

  

334,697

 

$

0.89

 

Effect of dilutive stock options

    

2,939

    

Diluted earnings per share

$

299,002 

  

337,636

 

$

0.89

 


 

2002

 

Net

Income

 


Shares

    Per Share

   Amount

Basic earnings per share

$

262,351 

  

333,055

 

$

0.79 

 

Effect of dilutive stock options

    

1,995

    

Diluted earnings per share

$

262,351 

  

335,050

 

$

0.78 

 






Basic earnings per share was computed by dividing net income by the weighted average number of shares of common stock outstanding during the year.  Diluted earnings per share was determined based on the dilutive effect of stock options using the treasury stock method.

Options to purchase shares of common stock that were outstanding at the end of the respective fiscal year, but were not included in the computation of diluted earnings per share because the options’ exercise prices were greater than the average market price of the common shares, were 7.3 million, 5.1 million and 18.3 million in 2004, 2003, and 2002, respectively.

8.

Commitments and contingencies

As of January 28, 2005, the Company was committed under capital and operating lease agreements and financing obligations for most of its retail stores, four of its DCs, and certain of its furniture, fixtures and equipment.  The majority of the Company’s stores are subject to short-term leases (usually with initial or primary terms of three to five years) with multiple renewal options when available.  The Company also has stores subject to build-to-suit arrangements with landlords, which typically carry a primary lease term of between 7 and 10 years with multiple renewal options. Approximately half of the stores have provisions for contingent rentals based upon a percentage of defined sales volume.  Certain leases contain restrictive covenants.  As of January 28, 2005, the Company was in compliance with such covenants.

In January 1999 and April 1997, the Company sold its DCs located in Ardmore, Oklahoma and South Boston, Virginia, respectively, for 100% cash consideration.  Concurrent with the sale transactions, the Company leased the properties back for periods of 23 and 25 years, respectively.  The transactions have been recorded as financing obligations rather than sales as a result of, among other things, the lessor’s ability to put the properties back to the Company under certain circumstances.  The property and equipment, along with the related lease obligations, associated with these transactions are recorded in the consolidated balance sheets.

In May 2003, the Company purchased two secured promissory notes (the “DC Notes”) from Principal Life Insurance Company totaling $49.6 million. These DC Notes represent debt issued by a third party entity from which the Company leases its DC in South Boston, Virginia. This existing lease is recorded as a financing obligation in the consolidated financial statements. The DC Notes are being accounted for as “held to maturity” debt securities in accordance with the provisions of SFAS No. 115.  However, by acquiring these DC Notes, the Company is holding the debt instruments pertaining to its lease financing obligation and, because a legal right of offset exists, has reflected the acquired DC Notes as a reduction of its outstanding financing obligations in its consolidated financial statements in accordance with the provisions of FASB Interpretation No. 39, “Offsetting of Amounts Related to Certain Contracts – An Interpretation of APB Opinion No. 10 and FASB Statement No. 105.”  There was no gain or loss recognized as a result of this transaction.

Future minimum payments as of January 28, 2005, for capital leases, financing obligations and operating leases are as follows:






(In thousands)

Capital

leases

 

Financing obligations

 

  Operating

      leases

2005

$

13,966 

 

$

 9,283 

 

$

251,462 

 

2006

 

7,400 

  

 9,354 

  

206,635 

 

2007

 

3,972 

  

 9,564 

  

163,001 

 

2008

 

2,499 

  

 9,510 

  

124,567 

 

2009

 

1,427 

  

 8,915 

  

96,302 

 

Thereafter

 

5,905 

  

136,885 

  

323,078 

 
     

 

    

Total minimum payments

 

35,169 

  

 183,511 

 

$

1,165,045 

 

Less: imputed interest

 

(6,991)

  

(91,956)

    

Present value of net minimum lease payments

 

28,178 

  

 91,555 

    

Less: purchased promissory notes

 

- 

  

(48,179)

    
  

28,178 

  

43,376 

    

Less: current portion, net

 

(12,021)

  

(839)

    

Long-term portion

$

16,157 

 

$

42,537 

    


Capital leases were discounted at an effective interest rate of approximately 8.8% at January 28, 2005.  The gross amount of property and equipment recorded under capital leases and financing obligations at January 28, 2005 and January 30, 2004, was $183.8 million and $184.4 million, respectively.  Accumulated depreciation on property and equipment under capital leases and financing obligations at January 28, 2005 and January 30, 2004, was $94.5 million and $81.8 million, respectively.  

Rent expense under all operating leases was as follows:

(In thousands)

2004

 

2003

 

2002

Minimum rentals

$

253,364

  

$

217,704

  

$

187,568

 

Contingent rentals

 

15,417

   

14,302

   

15,500

 
 

$

268,781

  

$

232,006

  

$

203,068

 


Legal proceedings

Restatement-Related Proceedings.  As previously disclosed in the Company’s periodic reports filed with the SEC, the Company restated its audited financial statements for fiscal years 1999 and 1998, and certain unaudited financial information for fiscal year 2000, by means of its Form 10-K for the fiscal year ended February 2, 2001, which was filed on January 14, 2002 (the “2001 Restatement”).

The SEC conducted an investigation into the circumstances giving rise to the 2001 Restatement and, on January 8, 2004, the Company received notice that the SEC staff was considering recommending that the SEC bring a civil injunctive action against the Company for alleged violations of the federal securities laws in connection with circumstances relating to the restatement.  The Company subsequently reached an agreement in principle with the SEC staff to settle the matter.  Under the terms of the agreement in principle, the Company, without admitting or denying the allegations in a complaint to be filed by the SEC, will consent to the entry of a permanent civil injunction against future violations of the antifraud, books and records, reporting and internal control provisions of the federal securities laws and related SEC rules and will pay a





$10 million non-deductible civil penalty. The Company is not entitled to seek reimbursement from its insurers with regard to this settlement.

The Company has been informed that the SEC approved the agreement and intends to file its Complaint and the proposed Final Judgment and Consent and Undertakings of Dollar General Corporation with the United States District Court for the Middle District of Tennessee. The agreement and order are subject to final approval by the Court.  The Company accrued $10 million with respect to the penalty in its financial statements for the year ended January 30, 2004, and this accrual remains outstanding as of January 28, 2005.  The Company can give no assurances that the Court will approve this agreement and order.  If the agreement and order are not approved, the Company could be subject to different or additional penalties, both monetary and non-monetary, which could materially and adversely affect the Company’s financial statements as a whole.  


In addition, as previously discussed in the Company’s periodic reports filed with the SEC, the Company settled in the second quarter of 2002 the lead shareholder derivative action relating to the 2001 Restatement that had been filed in Tennessee State Court.  All other pending state and federal derivative cases were subsequently dismissed during the third quarter of fiscal 2002. The settlement of the shareholder derivative lawsuits resulted in a net payment to the Company, after attorney’s fees payable to the plaintiffs’ counsel, of approximately $25.2 million, which was recorded as income during the third quarter of 2002. The Company also settled the federal consolidated 2001 Restatement-related class action lawsuit in the second quarter of fiscal 2002. The $162 million settlement, which was expensed in the fourth quarter of 2000, was paid in the fi rst half of fiscal 2002. The Company received from its insurers $4.5 million in respect of such settlement in July 2002, which was recorded as income during the second quarter of 2002.

Plaintiffs representing fewer than 1% of the shares traded during the class period chose to opt out of the federal class action settlement. One such plaintiff chose to pursue recovery against the Company individually.  In 2002, the Company settled and paid that claim and recognized an expense of $0.2 million in respect of that agreement.

Other Litigation.  On March 14, 2002, a complaint was filed in the United States District Court for the Northern District of Alabama (Edith Brown, on behalf of herself and others similarly situated v. Dolgencorp. Inc., and Dollar General Corporation, CV02-C-0673-W (“Brown”)) to commence a collective action against the Company on behalf of current and former salaried store managers.  The complaint alleges that these individuals were entitled to overtime pay and should not have been classified as exempt employees under the Fair Labor Standards Act (“FLSA”).  Plaintiffs seek to recover overtime pay, liquidated damages, declaratory relief and attorneys’ fees.  

On January 12, 2004, the court certified an opt-in class of plaintiffs consisting of all persons employed by the Company as store managers at any time since March 14, 1999, who regularly worked more than 50 hours per week and either: (1) customarily supervised less than two employees at one time; (2) lacked authority to hire or discharge employees without supervisor approval; or (3) sometimes worked in non-managerial positions at stores other than the one he or she managed. The Company’s attempt to appeal this decision on a discretionary basis to the 11th Circuit Court of Appeals was denied.  





Notice was sent to prospective class members and the deadline for individuals to opt in to the lawsuit was May 31, 2004.  Approximately 5,000 individuals opted in.  The Court has entered a scheduling order that governs the discovery and remaining phases of the case.

Three additional lawsuits,Tina Depasquales v. Dollar General Corp. (Southern District of Georgia, Savannah Division, CV 404-096, filed May 12, 2004),Karen Buckley v. Dollar General Corp. (Southern District of Ohio, C-2-04-484, filed June 8, 2004), andSheila Ann Hunsucker v. Dollar General Corp. et al.(Western District of Oklahoma, Civ-04-165-R, filed February 19, 2004), were filed asserting essentially the same claims as the Browncase, all of which have since been consolidated in the Northern District of Alabama where theBrown litigation is pending. The Company believes that the consolidation will not affect the scheduling order or extend any of the deadlines in theBrown case.

The Company believes that its store managers are and have been properly classified as exempt employees under the FLSA and that the action is not appropriate for collective action treatment.  The Company intends to vigorously defend the action.  However, no assurances can be given that the Company will be successful in defending this action on the merits or otherwise, and, if not, the resolution could have a material adverse effect on the Company’s financial statements as a whole.

The Company is involved in other legal actions and claims arising in the ordinary course of business.  The Company currently believes that such other litigation and claims, both individually and in the aggregate, will be resolved without a material effect on the Company’s financial statements as a whole.  However, litigation involves an element of uncertainty.  Future developments could cause these actions or claims to have a material adverse effect on the Company’s financial statements as a whole.

9.

Benefit plans

Effective January 1, 1998, the Company established a 401(k) savings and retirement plan.  Balances in two earlier plans were transferred into this plan.  All employees who had completed 12 months of service, worked 1,000 hours per year, and were at least 21 years of age were eligible to participate in the plan.  Employee contributions, up to 6% of annual compensation, were matched by the Company at the rate of $0.50 on the dollar.  The Company also contributed a discretionary amount annually to the plan equal to 2% of each employee’s annual compensation. Effective January 1, 2003, the plan was amended to allow all eligible employees to participate in the plan and to contribute up to 25% of annual compensation from their date of hire up to a maximum of $12,000 in calendar year 2003 and a maximum of $13,000 in calendar year 2004; the Company match of employee contributions was changed to a rate of $1.00 for each $1.00 contributed up to 5% of annual salary (upon completion of 12 months and a minimum of 1,000 hours of service); and the Company’s discretionary annual contribution to the plan of 2% of annual compensation was eliminated.  Effective January 1, 2005, the plan was amended to allow for catch-up employee contributions and to clarify certain provisions.  All active employees are fully vested in all contributions to the plan.  Expense for the plan was approximately $4.9 million in 2004, $2.7 million in 2003 and $5.9 million in 2002.





Effective January 1, 1998, the Company also established a supplemental retirement plan and a compensation deferral plan for a select group of management and highly compensated employees.  The supplemental retirement plan is a noncontributory defined contribution plan with annual Company contributions ranging from 2% to 12% of base pay plus bonus depending upon age plus years of service and job grade.  Under the compensation deferral plan, participants may defer up to 65% of base pay (reduced by any deferrals to the 401(k) Plan) and up to 100% of bonus pay and the Company matches base pay deferrals at a rate of 100% of base pay deferral, up to 5% of annual salary, offset by the amount of match in the 401(k) Plan.  Effective January 1, 2000, both the supplemental retirement plan and compensation deferral plan were amended and restated so that such p lans were combined into one master plan document. Effective January 1, 2003, the plan document was amended to clarify certain provisions and to mirror the 401(k) plan employer contribution provisions that became effective on January 1, 2003, as described above. Effective November 1, 2004, the plan document was amended to modify eligibility, comply with pending federal legislation, and enhance investment offerings.  An employee may be designated for participation in one or both of the plans, according to the eligibility requirements of the plans.  All participants are 100% vested in their compensation deferral plan accounts.  Supplemental retirement plan accounts generally vest at the earlier of the participant’s attainment of age 50 or the participant’s being credited with 10 or more “years of service” or upon termination of employment due to death or “total and permanent disability” or upon a “change in control,” all as defined in the plan.  Compen sation expense for these plans was approximately $0.6 million in 2004, $0.5 million in 2003 and $0.2 million in 2002.

Beginning September 2000, the supplemental retirement plan and compensation deferral plan assets are invested at the option of the participant in either an account that mirrors the performance of a fund or funds selected by the Compensation Committee of the Company’s Board of Directors or its delegate (the “Mutual Fund Options”), or in an account which mirrors the performance of the Company’s common stock (the “Common Stock Option”).  Pursuant to a provision in the November 1, 2004 amendment that was effective January 1, 2005, investments in the Common Stock Option cannot be subsequently diversified and investments in the Mutual Fund Options cannot be subsequently transferred into the Common Stock Option.

In accordance with a participant’s election, a participant’s compensation deferral plan and supplemental retirement plan account balances will be paid in cash by (a) lump sum, (b) monthly installments over a 5, 10 or 15-year period or (c) a combination of lump sum and installments. The vested amount will be payable at the time designated by the plan upon the participant’s termination of employment or retirement, except that participants may elect to receive an in-service lump sum distribution of vested amounts credited to the compensation deferral account, provided that the date of distribution is a date that is no sooner than five years after the end of the year in which amounts are deferred. In addition, a participant who is an employee may request to receive an “unforeseeable emergency hardship” in-service lump sum distribution of vested amou nts credited to his compensation deferral account. Effective January 1, 2005 for active participants, account balances deemed to be invested in the Mutual Fund Options are payable in cash and account balances deemed to be invested in the Common Stock Option are payable in shares of Dollar General common stock and cash in lieu of fractional shares.  Prior to January 1, 2005, all account balances were payable in cash.





The Mutual Funds Options are stated at fair market value, which is based on quoted market prices, and are included in Other current assets.  In accordance with EITF 97-14 “Accounting for Deferred Compensation Arrangements Where Amounts Earned Are Held in a Rabbi Trust and Invested,” the Company’s stock is recorded at historical cost and included in Other shareholders’ equity.  The deferred compensation liability related to the Company stock for active plan participants was reclassified to stockholders’ equity and subsequent changes to the fair value of the obligation will not be recognized, in accordance with the provisions of EITF 97-14. The deferred compensation liability related to the Mutual Funds Options is recorded at the fair value of the investments held in the trust and is included in Accrued expenses and other in the consolidated balance sheets.

During 2003, the Company established two supplemental executive retirement plans, each with one executive participant.  During 2004, one of these plans was terminated in connection with the termination of that participant’s employment.  The Company accounts for the remaining plan in accordance with SFAS No. 87, “Employers’ Accounting for Pensions”, as amended by SFAS No. 132, “Employers’ Disclosures about Pensions and Other Postretirement Benefits”, and supplemented by SFAS No. 130, “Reporting Comprehensive Income”, but has not included additional disclosures due to their immateriality.

Non-employee directors may defer all or a part of any fees normally paid by the Company to them pursuant to a voluntary nonqualified compensation deferral plan.  The compensation eligible for deferral includes the annual retainer, meeting and other fees, as well as any per diem compensation for special assignments, earned by a director for his or her service to the Company’s Board of Directors or one of its committees.  The compensation deferred is credited to a liability account, which is then invested at the option of the director, in either an account that mirrors the performance of a fund selected by the Compensation Committee (the “Mutual Fund Options”), or in an account which mirrors the performance of the Company’s common stock (the “Common Stock Option”).  In accordance with a director’s election, the deferred co mpensation will be paid in a lump sum or in monthly installments over a 5, 10 or 15-year period, or a combination of both, at the time designated by the plan upon a director’s resignation or termination from the Board. However, a director may request to receive an “unforeseeable emergency hardship” in-service lump sum distribution of amounts credited to his account in accordance with the terms of the directors’ deferral plan.  All deferred compensation will be immediately due and payable upon a “change in control” (as defined in the directors’ deferral plan) of the Company. Effective January 1, 2005, account balances deemed to be invested in the Mutual Fund Options are payable in cash and account balances deemed to be invested in the Common Stock Option are payable in shares of Dollar General common stock and cash in lieu of fractional shares.  Prior to January 1, 2005, all account balances were payable in cash.

10.

Stock-based compensation

The Company has a shareholder-approved stock incentive plan under which restricted stock, restricted stock units, stock options and other equity-based awards may be granted to officers, directors and key employees.





All stock options granted in 2004, 2003 and 2002 under the terms of the Company’s stock incentive plan were non-qualified stock options issued at a price equal to the fair market value of the Company’s common stock on the date of grant.  Non-qualified options granted under these plans have expiration dates no later than 10 years following the date of grant.

Under the plan, stock option grants are made to key management employees including officers, as well as other employees, as determined by the Compensation Committee of the Board of Directors.  The number of options granted is directly linked to the employee’s job classification.  Beginning in 2002, vesting provisions for options granted under the plan changed from a combination of Company performance-based vesting and time-based vesting to time-based vesting only.  All options granted in 2004, 2003 and 2002 under the plan vest ratably over a four-year period, except for a grant made to the CEO in 2003, two-thirds of which vested after one year and one-third of which vests after two years.

Under the plan, restricted stock and restricted stock units (which represent the right to receive one share of common stock for each unit upon vesting) may be granted to employees, including officers, as determined by the Compensation Committee of the Board of Directors. In addition, the plan provides for the automatic annual grant of 4,600 restricted stock units to each non-employee director.  In 2004 and 2003, the Company awarded a total of 166,300 and 50,000 shares of restricted stock and restricted stock units to certain plan participants at a weighted average fair value of $19.26 and $19.37 per share, respectively.  The difference between the market price of the underlying stock on the date of grant and the purchase price, which was set at zero for all restricted stock and restricted stock unit awards in 2004 and 2003, was recorded as unearned compensatio n expense, which is a component of Other shareholders’ equity, and is being amortized to expense on a straight-line basis over the restriction period.  The restricted stock and restricted stock units granted to employees in 2004 and 2003 under the plan vest and become payable ratably over a three-year period.  The restricted stock units granted to outside directors generally vest one year after the grant date subject to acceleration of vesting upon retirement or other circumstances set forth in the plan, but no payout shall be made until the individual has ceased to be a member of the Board of Directors.  Under the stock incentive plan, recipients of restricted stock are entitled to receive cash dividends and to vote their respective shares, but are prohibited from selling or transferring restricted shares prior to vesting.  Recipients of restricted stock units are entitled to accrue dividend equivalents on the units but are not entitled to vote, sell or transfer the shares underlyin g the units prior to both vesting and payout.  The maximum number of shares of restricted stock or restricted stock units eligible for issuance under the terms of this plan has been capped at 4,000,000.  At January 28, 2005, 3,763,451 shares of restricted stock or restricted stock units were available for grant under the plan.

During 2003, the Company also granted stock options and restricted stock in transactions that were not made under the stock incentive plan. The Company awarded 78,865 shares of restricted stock as a material inducement to employment to its CEO at a fair value of $12.68 per share.  The difference between the market price of the underlying stock and the purchase price on the date of grant, which was set as zero for this restricted stock award, was recorded as unearned compensation expense, and is being amortized to expense on a straight-line basis over the restriction period of five years.  The CEO is entitled to receive cash dividends and to vote these shares, but is prohibited from selling or transferring shares prior to vesting.  Also during





the first quarter of 2003, the Company awarded the CEO, as a material inducement to employment, an option to purchase 500,000 shares at an exercise price of $12.68 per share. The option generally vests at a rate of 166,666 shares on the second anniversary of the grant date and 333,334 shares on the third anniversary of the grant date, subject to accelerated vesting as provided in Mr. Perdue’s Employment Agreement or in the plan.  The option will terminate no later than 10 years from the grant date.  

Pro forma information regarding net income and earnings per share, as disclosed in Note 1, has been determined as if the Company had accounted for its employee stock-based compensation plans under the fair value method of SFAS No. 123. The fair value of options granted during 2004, 2003 and 2002 was $6.36, $5.45 and $6.15, respectively. The fair value of each stock option grant was estimated on the date of grant using the Black-Scholes option pricing model with the following assumptions:

 

2004

 

2003

 

2002

Expected dividend yield

 

 0.9

%

  

0.9

%

  

0.8

%

Expected stock price volatility

 

 35.5

%

  

36.9

%

  

35.3

%

Weighted average risk-free interest rate

 

 3.5

%

  

2.7

%

  

3.9

%

Expected life of options (years)

 

 5.0

   

3.7

   

6.5

 


A summary of the balances and activity for all of the Company’s stock option awards for the last three fiscal years is presented below:

 

Shares
Issued

 

Weighted Average
Exercise Price

Balance, February 1, 2002

 

 25,970,762 

   

$

15.65

 

Granted

 

 4,146,986 

    

15.83

 

Exercised

 

 (690,515)

    

6.90

 

Canceled

 

 (2,510,662)

    

17.35

 

Balance, January 31, 2003

 

 26,916,571 

    

15.73

 

Granted

 

 4,705,586 

    

18.39

 

Exercised

 

 (4,240,438)

    

11.68

 

Canceled

 

 (2,450,429)

    

17.76

 

Balance, January 30, 2004

 

 24,931,290 

    

16.75

 

Granted

 

 2,250,900 

    

18.88

 

Exercised

 

 (2,874,828)

    

11.87

 

Canceled

 

 (1,758,030)

    

18.97

 

Balance, January 28, 2005

 

 22,549,332 

   

$

17.42

 


The following table summarizes information about all stock options outstanding at January 28, 2005:


 

Options Outstanding

Options Exercisable

Range of

Number

Weighted Average Remaining

Weighted Average

Number

Weighted  Average Exercise

Exercise Prices

Outstanding

Contractual Life

Exercise Price

Exercisable

Price

$  4.27 - $10.68

1,107,229 

1.8

$

6.83

1,051,419

$

6.74

$10.73 - $17.31

9,268,565 

5.9

14.86

6,060,665

14.90

$17.64 - $23.90

12,173,538 

6.4

20.33

6,724,375

20.78

$  4.27 - $23.90

22,549,332 

6.0

$

17.42

13,836,459

$

17.14






At January 28, 2005, there were approximately 8.3 million shares available for grant under the Company’s stock incentive plan.  At January 30, 2004 and January 31, 2003, respectively, there were approximately 15.0 million and 17.0 million exercisable options outstanding.


11.

Capital stock

The Company has a Shareholder Rights Plan (the “Plan”) under which Series B Junior Participating Preferred Stock Purchase Rights (the “Rights”) were issued for each outstanding share of common stock.  The Rights were attached to all common stock outstanding as of March 10, 2000, and will be attached to all additional shares of common stock issued prior to the Plan’s expiration on February 28, 2010, or such earlier termination, if applicable.  The Rights entitle the holders to purchase from the Company one one-hundredth of a share (a “Unit”) of Series B Junior Participating Preferred Stock (the “Preferred Stock”), no par value, at a purchase price of $100 per Unit, subject to adjustment.  Initially, the Rights will attach to all certificates representing shares of outstanding common stock, and no separate Rights Certificates will be distributed.  The Rights will become exercisable upon the occurrence of a triggering event as defined in the Plan.

On November 30, 2004, the Board of Directors authorized the Company to repurchase up to 10 million shares of its outstanding common stock. Purchases may be made in the open market or in privately negotiated transactions from time to time subject to market conditions. The objective of the share repurchase program was to enhance shareholder value by purchasing shares at a price that produces a return on investment that is greater than the Company's cost of capital. Additionally, share repurchases generally will be undertaken only if such purchases result in an accretive impact on the Company's fully diluted earnings per share calculation. This authorization expires November 30, 2005. During 2004, the Company purchased approximately 0.5 million shares pursuant to this authorization at a total cost of $10.9 million.

On March 13, 2003, the Board of Directors authorized the Company to repurchase up to 12 million shares of its outstanding common stock in the open market or in privately negotiated transactions from time to time subject to market conditions. The objective of the share repurchase program is consistent with the November 2004 repurchase program as described above. This authorization expired March 13, 2005. During 2003, approximately 1.5 million shares were repurchased at a total cost of $29.7 million. During 2004, the Company purchased approximately 10.5 million shares at a total cost of $198.4 million. As of January 28, 2005, approximately 12.0 million shares had been purchased, substantially completing this share repurchase authorization.

12.

Related party transactions

 In 2002, Cal Turner, the Company’s then Chairman and Chief Executive Officer, made voluntary payments to the Company totaling approximately $6.8 million in cash.  Of such amount, approximately $6.0 million represented the value on April 10, 2002 of stock Mr. Turner acquired on April 7, 1999 and April 20, 2000 upon the exercise of stock options (net of the strike price of such options) and approximately $0.8 million represented the value of performance-based bonuses received by Mr. Turner in April 1999 and April 2000.  Mr. Turner voluntarily





paid such amounts to the Company because the options vested and the performance bonuses were paid based on performance measures that were attained under the Company’s originally reported financial results for the period covered by the 2001 Restatement.  Those measures would not have been attained under the subsequently restated results.  The Company recorded the approximately $6.0 million receipt as a contribution of capital, which was recorded as an increase in Additional paid-in capital included in shareholders’ equity as of January 31, 2003.  The Company recorded the approximately $0.8 million receipt as a reduction of SG&A expenses during the third quarter of 2002.

13.

Segment reporting

The Company manages its business on the basis of one reportable segment.  See Note 1 for a brief description of the Company’s business.  As of January 28, 2005, all of the Company’s operations were located within the United States with the exception of an immaterial Hong Kong subsidiary formed to assist in the process of importing certain merchandise that began operations in early 2004.  The following data is presented in accordance with SFAS No. 131, “Disclosures about Segments of an Enterprise and Related Information.”

(In thousands)

2004

 

2003

 

2002

Classes of similar products:

           

Net sales:

           

Highly consumable

$

4,825,051

  

$

4,206,878

  

$

3,674,929

 

Seasonal

 

1,263,991

   

1,156,114

   

994,250

 

Home products

 

879,476

   

860,867

   

808,518

 

Basic clothing

 

692,409

   

648,133

   

622,707

 
 

$

7,660,927

  

$

6,871,992

  

$

6,100,404

 


14.

Quarterly financial data (unaudited)

The following is selected unaudited quarterly financial data for the fiscal years ended January 28, 2005 and January 30, 2004.  Each quarter listed below was a 13-week accounting period.  Amounts are in thousands except per share data.  

Quarter

First

 

Second

 

Third

 

Fourth

2004:

               

Net sales

$

1,747,959

  

$

1,836,243

  

$

1,879,187

  

$

2,197,538

 

Gross profit

 

512,250

   

536,980

   

553,985

   

659,977

 

Net income

 

67,849

   

71,322

   

71,126

   

133,893

 

Diluted earnings per share

 

0.20

   

0.22

   

0.22

   

0.41

 

Basic earnings per share

 

0.20

   

0.22

   

0.22

   

0.41

 
                

2003:

               

Net sales

$

1,569,064

  

$

1,651,094

  

$

1,685,346

  

$

1,966,488

 

Gross profit

 

451,906

   

472,830

   

516,897

   

576,496

 

Net income

 

60,332

   

59,936

   

77,903

   

100,831

 

Diluted earnings per share

 

$0.18

   

$0.18

   

$0.23

   

$0.30

 

Basic earnings per share

 

$0.18

   

$0.18

   

$0.23

   

$0.30

 






The second quarter 2004 net income and related per share amounts above include a favorable income tax adjustment of approximately $6.2 million which resulted from net reductions in certain contingent income tax liabilities. The fourth quarter 2003 net income and related per share amounts above include the accrual of a nondeductible civil penalty of $10.0 million related to the preliminary settlement of an SEC investigation (see Note 8). As discussed in Note 2, the Company restated its financial statements, reducing its previously reported 2003 net income by $2.0 million, which is reflected in the fourth quarter above. The third quarter 2003 net income and related per share amounts above include a favorable, non-recurring pre-tax inventory adjustment of approximately $7.8 million based upon the utilization of information provided by the Company’s new item level pe rpetual inventory system.


15.

Guarantor subsidiaries

All of the Company’s subsidiaries, except for its not-for-profit subsidiary whose assets and revenues are not material, (the “Guarantors”) have fully and unconditionally guaranteed on a joint and several basis the Company’s obligations under certain outstanding debt obligations.  Each of the Guarantors is a direct or indirect wholly owned subsidiary of the Company.  In order to participate as a subsidiary guarantor on certain of the Company’s financing arrangements, a subsidiary of the Company has entered into a letter agreement with certain state regulatory agencies to maintain a minimum balance of stockholders’ equity of $50 million in excess of the Company’s debt it has guaranteed, or $500 million as of January 28, 2005.  The subsidiary of the Company was in compliance with such agreement as of January 28, 2005.

The following consolidating schedules present condensed financial information on a combined basis.  Dollar amounts are in thousands.






 

As of January 28, 2005

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

                

BALANCE SHEET:

               

ASSETS

               

Current assets:

               

Cash and cash equivalents

$

127,170 

  

$

105,660 

  

$

- 

  

$

232,830 

 

Short-term investments

 

42,425 

   

500 

   

- 

   

42,925 

 

Merchandise inventories

 

- 

   

1,376,537 

   

- 

   

1,376,537 

 

Deferred income taxes

 

10,024 

   

14,884 

   

- 

   

24,908 

 

Prepaid expenses and other current assets

 

23,305 

   

1,740,029 

   

(1,709,632)

   

53,702 

 

Total current assets

 

202,924 

   

3,237,610 

   

(1,709,632)

   

1,730,902 

 
                

Property and equipment, at cost

 

184,618 

   

1,755,717 

   

- 

   

1,940,335 

 

Less accumulated depreciation
and amortization

 

78,661 

   

780,836 

   

- 

   

859,497 

 

Net property and equipment

 

105,957 

   

974,881 

   

- 

   

1,080,838 

 
                

Other assets, net

 

3,376,578 

   

58,373 

   

(3,405,687)

   

29,264 

 
                

Total assets

$

3,685,459 

  

$

4,270,864 

  

$

(5,115,319)

  

$

2,841,004 

 
                

LIABILITIES AND SHAREHOLDERS’ EQUITY

               

Current liabilities:

               

Current portion of long-term
obligations

$

4,399 

  

$

8,461 

  

$

- 

  

$

12,860 

 

Accounts payable

 

1,763,024 

   

355,904 

   

(1,709,601)

   

409,327 

 

Accrued expenses and other

 

37,378 

   

296,511 

   

- 

   

333,889 

 

Income taxes payable

 

- 

   

69,647 

   

(31)

   

69,616 

 

Total current liabilities

 

1,804,801 

   

730,523 

   

(1,709,632)

   

825,692 

 
                

Long-term obligations

 

190,769 

   

1,261,998 

   

(1,194,305)

   

258,462 

 
                

Deferred income taxes

 

5,424 

   

66,961 

   

- 

   

72,385 

 
                

Shareholders’ equity:

               

Preferred stock

 

- 

   

- 

   

- 

   

- 

 

Common stock

 

164,086 

   

23,853 

   

(23,853)

   

164,086 

 

Additional paid-in capital

 

421,600 

   

1,243,468 

   

(1,243,468)

   

421,600 

 

Retained earnings

 

1,102,457 

   

944,061 

   

(944,061)

   

1,102,457 

 

Accumulated other comprehensive loss

 

(973)

   

- 

   

- 

   

(973)

 
  

1,687,170 

   

2,211,382 

   

(2,211,382)

   

1,687,170 

 

Other shareholders’ equity

 

(2,705)

   

- 

   

- 

   

(2,705)

 

Total shareholders’ equity

 

1,684,465 

   

2,211,382 

   

(2,211,382)

   

1,684,465 

 
                

Total liabilities and shareholders’ equity

$

3,685,459 

  

$

4,270,864 

  

$

(5,115,319)

  

$

2,841,004 

 





 

As of January 30, 2004

(Restated)

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

                

BALANCE SHEET:

               

ASSETS

               

Current assets:

               

Cash and cash equivalents

$

285,007 

  

$

60,892 

  

$

- 

  

$

345,899 

 

Short-term investments

 

67,225 

   

1,501 

   

- 

   

68,726 

 

Merchandise inventories

 

- 

   

1,157,141 

   

- 

   

1,157,141 

 

Deferred income taxes

 

15,412 

   

15,001 

   

- 

   

30,413 

 

Prepaid expenses and other current assets

 

21,363 

   

2,323,390 

   

(2,294,717)

   

50,036 

 

Total current assets

 

389,007 

   

3,557,925 

   

(2,294,717)

   

1,652,215 

 
                

Property and equipment, at cost

 

183,843 

   

1,525,879 

   

- 

   

1,709,722 

 

Less accumulated depreciation
and amortization

 

81,281 

   

670,809 

   

- 

   

752,090 

 

Net property and equipment

 

102,562 

   

855,070 

   

- 

   

957,632 

 
                

Other assets, net

 

3,668,873 

   

41,247 

   

(3,698,850)

   

11,270 

 
                

Total assets

$

4,160,442 

  

$

4,454,242 

  

$

(5,993,567)

  

$

2,621,117 

 
                

LIABILITIES AND SHAREHOLDERS’ EQUITY

               

Current liabilities:

               

Current portion of long-term
obligations

$

7,772 

  

$

8,898 

  

$

- 

  

$

16,670 

 

Accounts payable

 

2,350,375 

   

323,251 

   

(2,289,835)

   

383,791 

 

Accrued expenses and other

 

48,394 

   

254,764 

   

(2)

   

303,156 

 

Income taxes payable

 

- 

   

50,605 

   

(4,880)

   

45,725 

 

Total current liabilities

 

2,406,541 

   

637,518 

   

(2,294,717)

   

749,342 

 
                

Long-term obligations

 

194,306 

   

1,892,342 

   

(1,821,311)

   

265,337 

 
                

Deferred income taxes

 

5,296 

   

46,843 

   

- 

   

52,139 

 
                

Shareholders’ equity:

               

Preferred stock

 

- 

   

- 

   

- 

   

- 

 

Common stock

 

168,095 

   

23,853 

   

(23,853)

   

168,095 

 

Additional paid-in capital

 

376,930 

   

1,243,478 

   

(1,243,478)

   

376,930 

 

Retained earnings

 

1,014,788 

   

610,208 

   

(610,208)

   

1,014,788 

 

Accumulated other comprehensive loss

 

(1,161)

   

- 

   

- 

   

(1,161)

 
  

1,558,652 

   

1,877,539 

   

(1,877,539)

   

1,558,652 

 

Other shareholders’ equity

 

(4,353)

   

- 

   

- 

   

(4,353)

 

Total shareholders’ equity

 

1,554,299 

   

1,877,539 

   

(1,877,539)

   

1,554,299 

 
                

Total liabilities and shareholders’ equity

$

4,160,442 

  

$

4,454,242 

  

$

(5,993,567)

  

$

2,621,117 

 







 

For the year ended January 28, 2005

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

                

STATEMENTS OF INCOME:

               

Net sales

$

171,369 

  

$

7,660,927 

  

$

(171,369)

  

$

7,660,927 

 

Cost of goods sold

 

- 

   

5,397,735 

   

- 

   

5,397,735 

 

Gross profit

 

171,369 

   

2,263,192 

   

(171,369)

   

2,263,192 

 

Selling, general and administrative

 

138,111 

   

1,739,474 

   

(171,369)

   

1,706,216 

 

Operating profit

 

33,258 

   

523,718 

   

- 

   

556,976 

 

Interest income

 

(6,182)

   

(393)

   

- 

   

(6,575)

 

Interest expense

 

21,435 

   

7,359 

   

- 

   

28,794 

 

Income before income taxes

 

18,005 

   

516,752 

   

- 

   

534,757 

 

Income taxes

 

7,667 

   

182,900 

   

- 

   

190,567 

 

Equity in subsidiaries’ earnings, net of taxes

 

333,852 

   

- 

   

(333,852)

   

- 

 

Net income

$

344,190 

  

$

333,852 

  

$

(333,852)

  

$

344,190 

 


 

For the year ended January 30, 2004

(Restated)

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

                

STATEMENTS OF INCOME:

               

Net sales

$

169,467 

  

$

6,871,992 

  

$

(169,467)

  

$

6,871,992 

 

Cost of goods sold

 

- 

   

4,853,863 

   

- 

   

4,853,863 

 

Gross profit

 

169,467 

   

2,018,129 

   

(169,467)

   

2,018,129 

 

Selling, general and administrative

 

132,445 

   

1,537,125 

   

(169,467)

   

1,500,103 

 

Penalty expense

 

10,000 

   

- 

   

- 

   

10,000 

 

Operating profit

 

27,022 

   

481,004 

   

- 

   

508,026 

 

Interest income

 

(3,720)

   

(383)

   

- 

   

(4,103)

 

Interest expense

 

25,336 

   

10,270 

   

- 

   

35,606 

 

Income before income taxes

 

5,406 

   

471,117 

   

- 

   

476,523 

 

Income taxes

 

6,560 

   

170,961 

   

- 

   

177,521 

 

Equity in subsidiaries’ earnings, net of taxes

 

300,156 

   

- 

   

(300,156)

   

- 

 

Net income

$

299,002 

  

$

300,156 

  

$

(300,156)

  

$

299,002 

 







 

For the year ended January 31, 2003

(Restated)

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

                

STATEMENTS OF INCOME:

               

Net sales

$

130,152 

  

$

6,100,404 

  

$

(130,152)

  

$

6,100,404 

 

Cost of goods sold

 

- 

   

4,376,138 

   

- 

   

4,376,138 

 

Gross profit

 

130,152 

   

1,724,266 

   

(130,152)

   

1,724,266 

 

Selling, general and administrative

 

114,903 

   

1,316,080 

   

(130,152)

   

1,300,831 

 

Litigation settlement proceeds

 

(29,541)

   

- 

   

- 

   

(29,541)

 

Operating profit

 

44,790 

   

408,186 

   

- 

   

452,976 

 

Interest income

 

(3,213)

   

(1,092)

   

- 

   

(4,305)

 

Interest expense

 

30,143 

   

16,801 

   

- 

   

46,944 

 

Income before income taxes

 

17,860 

   

392,477 

   

- 

   

410,337 

 

Income taxes

 

6,634 

   

141,352 

   

- 

   

147,986 

 

Equity in subsidiaries’ earnings, net of taxes

 

251,125 

   

- 

   

(251,125)

   

- 

 

Net income

$

262,351 

  

$

251,125 

  

$

(251,125)

  

$

262,351 

 









 

For the year ended January 28, 2005

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

STATEMENTS OF CASH FLOWS:

               

Cash flows from operating activities:

               

Net income

$

344,190 

  

$

333,852 

  

$

(333,852)

  

$

344,190 

 

Adjustments to reconcile net income to net cash provided by operating activities:

               

Depreciation and amortization

 

17,181 

   

147,297 

   

- 

   

164,478 

 

Deferred income taxes

 

5,516 

   

20,235 

   

- 

   

25,751 

 

Tax benefit from stock option exercises

 

9,657 

   

- 

   

- 

   

9,657 

 

Equity in subsidiaries’ earnings, net

 

(333,852)

   

- 

   

333,852 

   

- 

 

Change in operating assets and liabilities:

               

Merchandise inventories

 

- 

   

(219,396)

   

- 

   

(219,396)

 

Prepaid expense and other current assets

 

652 

   

(4,318)

   

- 

   

(3,666)

 

Accounts payable

 

10,665 

   

11,593 

   

- 

   

22,258 

 

Accrued expenses and other

 

(8,351)

   

43,399 

   

- 

   

35,048 

 

Income taxes

 

4,751 

   

19,042 

   

- 

   

23,793 

 

Other

 

(3,126)

   

(9,251)

   

- 

   

(12,377)

 

Net cash provided by operating activities

 

47,283 

   

342,453 

   

- 

   

389,736 

 
                

Cash flows from investing activities:

               

Purchases of property and equipment

 

(20,443)

   

(271,729)

   

- 

   

(292,172)

 

Purchases of short-term investments

 

(220,200)

   

(1,500)

   

- 

   

(221,700)

 

Sales of short-term investments

 

245,000 

   

2,501 

   

- 

   

247,501 

 

Proceeds from sale of property and equipment

 

3 

   

3,321 

   

- 

   

3,324 

 

Net cash provided by (used in) investing activities

 

4,360 

   

(267,407)

   

- 

   

(263,047)

 
                

Cash flows from financing activities:

               

Borrowings under revolving credit facility

 

195,000 

   

- 

   

- 

   

195,000 

 

Repayments of borrowings under revolving credit facility

 

(195,000)

   

- 

   

- 

   

(195,000)

 

Repayments of long-term obligations

 

(7,847)

   

(4,692)

   

- 

   

(12,539)

 

Payment of cash dividends

 

(52,682)

   

- 

   

- 

   

(52,682)

 

Proceeds from exercise of stock options

 

34,128 

   

- 

   

- 

   

34,128 

 

Repurchases of common stock

 

(209,295)

   

- 

   

- 

   

(209,295)

 

Changes in intercompany note balances, net

 

25,586 

   

(25,586)

   

- 

   

- 

 

Other financing activities

 

630 

   

- 

   

- 

   

630 

 

Net cash used in financing activities

 

(209,480)

   

(30,278)

   

- 

   

(239,758)

 
                

Net increase (decrease) in cash and cash equivalents

 

(157,837)

   

44,768 

   

- 

   

(113,069)

 

Cash and cash equivalents, beginning of year

 

285,007 

   

60,892 

   

- 

   

345,899 

 

Cash and cash equivalents, end of year

$

127,170 

  

$

105,660 

   

- 

  

$

232,830 

 








 

For the year ended January 30, 2004

(Restated)

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

STATEMENTS OF CASH FLOWS:

               

Cash flows from operating activities:

               

Net income

$

299,002 

  

$

300,156 

  

$

(300,156)

  

$

299,002

 

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

               

Depreciation and amortization

 

19,961 

   

134,496 

   

- 

   

154,457 

 

Deferred income taxes

 

(2,102)

   

20,713 

   

- 

   

18,611 

 

Tax benefit from stock option exercises

 

14,565 

   

- 

   

- 

   

14,565 

 

Equity in subsidiaries’ earnings, net

 

(300,156)

   

- 

   

300,156 

   

- 

 

Change in operating assets and liabilities:

               

Merchandise inventories

 

- 

   

(34,110)

   

- 

   

(34,110)

 

Prepaid expenses and other current assets

 

(7,323)

   

(8,981)

   

- 

   

(16,304)

 

Accounts payable

 

(50,489)

   

83,754 

   

- 

   

33,265 

 

Accrued expenses and other

 

15,752 

   

44,771 

   

- 

   

60,523 

 

Income taxes

 

4,079 

   

(25,543)

   

- 

   

(21,464)

 

Other

 

1,610 

   

3,556 

   

- 

   

5,166 

 

Net cash provided by (used in) operating activities

 

(5,101)

   

518,812 

   

- 

   

513,711 

 
                

Cash flows from investing activities:

               

Purchases of property and equipment

 

(15,526)

   

(124,613)

   

- 

   

(140,139)

 

Purchases of short-term investments

 

(199,950)

   

(2,000)

   

- 

   

(201,950)

 

Sales of short-term investments

 

132,725 

   

2,000 

   

- 

   

134,725 

 

Purchase of promissory notes

 

(49,582)

   

- 

   

- 

   

(49,582)

 

Proceeds from sale of property and equipment

 

39 

   

230 

   

- 

   

269 

 

Contribution of capital

 

(10)

   

- 

   

10 

   

- 

 

Net cash used in investing activities

 

(132,304)

   

(124,383)

   

10 

   

(256,677)

 
                

Cash flows from financing activities:

               

Repayments of long-term obligations

 

(7,753)

   

(8,154)

   

- 

   

(15,907)

 

Payment of cash dividends

 

(46,883)

   

- 

   

- 

   

(46,883)

 

Proceeds from exercise of stock options

 

49,485 

   

- 

   

- 

   

49,485 

 

Repurchases of common stock

 

(29,687)

   

- 

   

- 

   

(29,687)

 

Issuance of common stock, net

 

- 

   

10 

   

(10)

   

- 

 

Changes in intercompany note balances, net

 

384,378 

   

(384,378)

   

- 

   

- 

 

Other financing activities

 

73 

   

- 

   

- 

   

73 

 

Net cash provided by (used in) financing activities

 

349,613 

   

(392,522)

   

(10)

   

(42,919)

 
                

Net increase in cash and cash equivalents

 

212,208 

   

1,907 

   

- 

   

214,115 

 

Cash and cash equivalents, beginning of year

 

72,799 

   

58,985 

   

- 

   

131,784 

 

Cash and cash equivalents, end of year

$

285,007 

  

$

60,892 

  

$

- 

  

$

345,899 

 








 

For the year ended January 31, 2003

(Restated)

 

DOLLAR GENERAL CORPORATION

 

GUARANTOR SUBSIDIARIES

 

ELIMINATIONS

 

CONSOLIDATED

TOTAL

STATEMENTS OF CASH FLOWS:

               

Cash flows from operating activities:

               

Net income

$

262,351 

  

$

251,125 

  

$

(251,125)

  

$

262,351 

 

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

               

Depreciation and amortization

 

15,222 

   

123,368 

   

- 

   

138,590 

 

Deferred income taxes

 

63,204 

   

17,969 

   

- 

   

81,173 

 

Tax benefit from stock option exercises

 

2,372 

   

- 

   

- 

   

2,372 

 

Litigation settlement

 

(162,000)

   

- 

   

- 

   

(162,000)

 

Equity in subsidiaries’ earnings, net

 

(251,125)

   

- 

   

251,125 

   

- 

 

Change in operating assets and liabilities:

               

Merchandise inventories

 

- 

   

7,992 

   

- 

   

7,992 

 

Prepaid expenses and other current assets

 

(5,605)

   

6,844 

   

- 

   

1,239 

 

Accounts payable

 

42,617 

   

(24,197)

   

- 

   

18,420 

 

Accrued expenses and other

 

(20,857)

   

36,126 

   

- 

   

15,269 

 

Income taxes

 

(10,493)

   

66,951 

   

- 

   

56,458 

 

Other

 

27,197 

   

(26,767)

   

- 

   

430 

 

Net cash provided by (used in) operating activities

 

(37,117) 

   

459,411 

   

- 

   

422,294 

 
                

Cash flows from investing activities:

               

Purchases of property and equipment

 

(12,949)

   

(120,946)

   

- 

   

(133,895)

 

Purchases of short-term investments

 

- 

   

(2,500)

   

- 

   

(2,500)

 

Sales of short-term investments

 

- 

   

2,500 

   

- 

   

2,500 

 

Proceeds from sale of property and equipment

 

270 

   

211 

   

- 

   

481 

 

Contribution of capital

 

(317,602)

   

- 

   

317,602 

   

- 

 

Net cash used in investing activities

 

(330,281)

   

(120,735)

   

317,602 

   

(133,414)

 
                

Cash flows from financing activities:

               

Repayments of long-term obligations

 

(73,361)

   

(323,733)

   

- 

   

(397,094)

 

Payment of cash dividends

 

(42,638)

   

- 

   

- 

   

(42,638)

 

Proceeds from exercise of stock options

 

5,021 

   

- 

   

- 

   

5,021 

 

Issuance of common stock, net

 

- 

   

317,602 

   

(317,602)

   

- 

 

Changes in intercompany note balances, net

 

339,338 

   

(339,338)

   

- 

   

- 

 

Other financing activities

 

(5,702)

   

- 

   

- 

   

(5,702)

 

Net cash provided by (used in) financing activities

 

222,658 

   

(345,469)

   

(317,602)

   

(440,413)

 
                

Net decrease in cash and cash equivalents

 

(144,740)

   

(6,793)

   

- 

   

(151,533)

 

Cash and cash equivalents, beginning of year

 

217,539 

   

65,778 

   

- 

   

283,317 

 

Cash and cash equivalents, end of year

$

72,799 

  

$

58,985 

  

$

- 

  

$

131,784 

 







ITEM 9.

CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE


Not Applicable.

ITEM 9A.

CONTROLS AND PROCEDURES

(a)

Disclosure Controls and Procedures.  The Company maintains disclosure controls and procedures that are designed to ensure that information relating to the Company and its consolidated subsidiaries required to be disclosed in the Company’s periodic filings under the Exchange Act is recorded, processed, summarized and reported in a timely manner in accordance with the requirements of the Exchange Act, and that such information is accumulated and communicated to management, including the Company’s Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure. The Company carried out an evaluation, under the supervision and with the participation of management, including the Chief Executive Officer and the Chief Financial officer, of the effectiveness of the design and operation of these di sclosure controls and procedures, as such term is defined in Exchange Act Rule 13a-15(e).  As discussed more fully in Management’s Annual Report on Internal Control Over Financial Reporting set out below, management identified a material weakness relating to the Company’s internal controls that arose from the Company’s inappropriate interpretation of GAAP relating to accounting for leases and leasehold improvements. Accordingly, the Company determined to restate certain of its previously issued financial statements to reflect the Company’s correction of those accounting practices. The effects of this restatement are not material to previously reported results and have no impact on the Company’s current or future cash flows.  Based solely on the foregoing facts and circumstances, the Chief Executive Officer and the Chief Financial Officer each concluded that the Company’s disclosure controls and procedures were not effective as of January 28, 2005.

(b)

Management’s Annual Report on Internal Control Over Financial Reporting.  Management of the Company is responsible for establishing and maintaining effective internal control over financial reporting as defined in Rules 13a-15(f) under the Securities Exchange Act of 1934. The Company's internal control over financial reporting is designed to provide reasonable assurance that the controls and procedures will meet their objectives regarding the preparation and fair presentation of published financial statements.


Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation.


Management assessed the effectiveness of the Company's internal control over financial reporting as of January 28, 2005. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework.  The assessment identified a material weakness in the Company's internal control that arose from the Company’s inappropriate interpretation of GAAP relating to accounting for leases and leasehold improvements, as described more fully below. A





material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected.


As more fully discussed in Note 2 to the Consolidated Financial Statements, the Company restated its previously issued financial statements as a result of correcting its accounting practices relating to the amortization of certain leasehold improvements and the recognition of rent expense. The restatement was technically required even though the adjustments for each individual year are not material to that year’s previously reported results and have no impact on the Company’s current or future cash flows. Near the end of its fiscal year, after reviewing numerous press releases issued by other companies and other public comments pertaining to these topics and after discussing the matter with its external auditors, the Company undertook a new review of its operating lease accounting and leasehold amortization practices. This review, together with the views on the matters expressed by t he SEC in a February 7, 2005 letter to the Chairman of the AICPA Center for Public Company Audit Firms, led to the Company’s conclusion that its historical accounting practices in these areas were not in accordance with GAAP. These historical practices were specifically reviewed on several occasions in the past by the Company’s management, external auditors and Audit Committee of the Board of Directors. In addition, the Company’s practices were similar to those used by many other retail and restaurant companies. Although the Company corrected these errors prior to the filing of its Form 10-K for the 2004 fiscal year, thus remediating its only material weakness, they were not effectively remediated prior to January 28, 2005. Accordingly, the Company concluded that it had a material weakness, namely the incorrect interpretation and application of GAAP relating to the two lease-related matters discussed above.


Based on management's assessment, management concluded that, as of January 28, 2005, due solely to the material weakness related to the accounting for leases and leasehold improvements, the Company's internal control over financial reporting was not effective.


Management's assessment of the effectiveness of internal control over financial reporting as of January 28, 2005, has been audited by Ernst & Young LLP, the independent registered public accounting firm who also audited the Company's consolidated financial statements. Ernst & Young's attestation report on management's assessment of the Company's internal control over financial reporting is contained below.






(c)

Attestation Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting.


Report of Independent Registered Public Accounting Firm

on Internal Control Over Financial Reporting


To the Board of Directors and Shareholders of

Dollar General Corporation

Goodlettsville, Tennessee


We have audited management's assessment, included in the accompanying Management's Annual Report on Internal Control Over Financial Reporting, that Dollar General Corporation and subsidiaries did not maintain effective internal control over financial reporting as of January 28, 2005, because of the effect of a material weakness in the Company’s internal control that arose from the Company’s incorrect interpretation and application of generally accepted accounting principles relating to accounting for leases and leasehold improvements, based on criteria established in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). Dollar General Corporation’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of in ternal control over financial reporting. Our responsibility is to express an opinion on management's assessment and an opinion on the effectiveness of the Company's internal control over financial reporting based on our audit.


We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.


A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide re asonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company's assets that could have a material effect on the financial statements.






Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.


A material weakness is a control deficiency, or combination of control deficiencies, that results in more than a remote likelihood that a material misstatement of the annual or interim financial statements will not be prevented or detected. The following material weakness has been identified and included in management’s assessment. Subsequent to January 28, 2005, management concluded that its historical accounting practices relating to operating leases and leasehold amortization were not in accordance with generally accepted accounting principles due to ineffective controls over the interpretation and application of generally accepted accounting principles.  Management also concluded that such incorrect interpretation and application of generally accepted accounting principles constituted a material weakness in internal control over financial reporting as of January 28, 2005.  A s a result of this material weakness in internal control, management concluded that rental expense and leasehold amortization expense, as well as the related balance sheet accounts, were understated and that previously issued financial statements should be restated. See Note 2 to the consolidated financial statements for a full discussion of the effects of these changes to the Company's consolidated financial statements. This material weakness was considered in determining the nature, timing, and extent of audit tests applied in our audit of the 2004 consolidated financial statements, and this report does not affect our report dated April 5, 2005 on those consolidated financial statements.


In our opinion, management's assessment that Dollar General Corporation and subsidiaries did not maintain effective internal control over financial reporting as of January 28, 2005, is fairly stated, in all material respects, based on the COSO control criteria. Also, in our opinion, because of the effect of the material weakness described above on the achievement of the objectives of the control criteria, Dollar General Corporation and subsidiaries have not maintained effective internal control over financial reporting as of January 28, 2005, based on the COSO control criteria.


We do not express an opinion or any other form of assurance on management’s statements included in the fourth paragraph of the accompanying Management's Annual Report on Internal Control Over Financial Reporting.


/s/ Ernst & Young LLP


Nashville, Tennessee
April 5, 2005






(d)

Changes in Internal Control Over Financial Reporting.  There have been no changes during the quarter ended January 28, 2005 in the Company’s internal control over financial reporting (as defined in Exchange Act Rule 13a-15(f)) that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.  See Management’s Annual Report on Internal Control Over Financial Reporting, set forth in Item 9A(b) above, for a discussion of a change in internal controls effected by management after January 28, 2005 to correct a material weakness arising from its interpretation of GAAP for operating lease accounting and leasehold amortization practices.

ITEM 9B.

OTHER INFORMATION

None.

PART III

ITEM 10.

DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT

The Company makes available free of charge within the Investing section of its Internet website atwww.dollargeneral.com, and in print to any shareholder who requests, the Company’s Corporate Governance Principles, the charters of the standing committees of the Board of Directors, and the Code of Business Conduct and Ethics adopted bythat applies to our principal executive officer, principal financial officer, principal accounting officer or controller, or persons performing similar functions. We will either post this Code on our Internet website at www.dollargeneral.com or, if not so posted, provide a copy of the Board and applicableCode to all Company directors, officers and employees. Requests for copies may be directedany person without charge upon written request to Dollar General Corporation, c/o Investor Relations Dollar General Corporation,Department, 100 Mission Ridge, Goodlettsville, TN 37072,37072.  We intend to provide any required disclosure of any amendment to or telephone (615) 855-4000. The Company intends to disclose any amendments towaiver from the Code of Business Conduct and Ethics, and any waiver from a provision of that Code grantedapplies to the Company’s Chief Executive Officerour principal executive officer, principal financial officer, principal accounting officer or Chief Financial Officer,controller, or persons performing similar functions, on the Company’s Internet website within three business dayswww.dollargeneral.com promptly following the amendment or waiver.  The CompanyWe may elect to disclose any such amendment or waiver in a report on Form 8-K filed with the SEC either in addition to or in lieu of the website disclosure. The information contained on or connected to the Company’sour Internet website is not incorporated by reference into this Form 10-Kreport and should not be considered part of this or any other report that the Company fileswe file with or furnishesfurnish to the SEC.

ITEM 11.  EXECUTIVE COMPENSATION
(a)           Executive Compensation.  We refer to the persons included in the Summary Compensation Table below as our “named executive officers” (or “NEOs”). In addition, references to “2007” mean our fiscal year ended February 1, 2008, references to the “Merger” mean our merger that occurred on July 6, 2007 discussed more fully elsewhere in this document, references to the “Merger Agreement” mean the agreement governing the Merger and references to “Project Alpha” refer to certain strategic initiatives discussed in the “Executive Overview” section of "Management’s Discussion and Analysis of Financial Condition and Results of Operations” in this document.
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Compensation Discussion and Analysis
Executive Compensation Philosophy and Objectives

We strive to attract, retain and motivate persons with superior ability, to reward outstanding performance, and to align our NEOs’ and shareholders’ long-term interests. Our material compensation principles applicable to 2007 NEO compensation included the following, all of which are discussed in more detail in “Elements of 2007 NEO Compensation” below:

·  We generally target total compensation at the benchmarked median of our market comparator group, but we make adjustments based on circumstances, such as unique job descriptions and our particular niche in the retail sector, that are not reflected in the market data. For competitive reasons, our levels of total compensation or for any component of compensation may exceed median.
·  We set base salaries to reflect the responsibilities, experience and contributions of the NEOs and the salaries for comparable benchmarked positions, subject to minimums set forth in employment agreements.
·  We emphasize pay for performance and reward NEOs who enhance our performance. We accomplish this by linking cash incentives to the achievement of our financial goals and through subjective evaluations of the NEOs’ contributions to the achievement of our business goals.
·  We promote ownership of our common stock to align the interests of our NEOs with those of our shareholders.

Beginning in 2004 (2003 with respect to Mr. David Perdue), the Compensation Committee authorized employment agreements with NEOs which, among other things, set forth minimum levels of certain compensation components because the Committee believed, based on benchmarking data, that such arrangements were a common protection offered to NEOs at comparable companies and because contracts were needed to ensure continuity and to retain NEOs to execute changes necessary to meet our strategic objectives. The Committee also wanted to give standard protections to both the NEOs and to us upon the termination of any NEO’s employment.

Compensation Process

Oversight of 2007 NEO Compensation.  Prior to the Merger, the Compensation Committee was responsible for recommending CEO compensation to the independent directors of our Board and for approving compensation of other NEOs. The independent directors of the Board retained sole authority to determine CEO compensation. Prior to the Merger, the Committee members were Messrs. Dennis Bottorff, Reginald Dickson and E. Gordon Gee. Subsequent to the Merger, our Board made all executive compensation decisions until a new Compensation Committee was established in March 2008.

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Use of Outside Advisors in Determining NEO Compensation.  Prior to the Merger, the Compensation Committee selected Hewitt Associates as its compensation consultant. Hewitt also provides consulting services to our human resources group, both with respect to management’s work in connection with NEO compensation (as described below under “Management’s Role in Determining or Recommending 2007 NEO Compensation”) and in connection with general employee compensation and benefits matters.

Prior to the Merger, the Committee approved a written agreement with Hewitt describing the general terms of the working relationship. In particular, Hewitt may perform compensation consulting services upon management or Committee request, which services may include competitive market pay analyses, support regarding legal, regulatory or accounting considerations impacting compensation programs, redesign of those programs, assistance with market data, trends and competitive practices, meeting preparation and attendance and other miscellaneous work.

Management’s Role in Determining or Recommending 2007 NEO Compensation. Prior to the Merger, management assisted Hewitt in gathering and analyzing relevant competitive data and identifying and evaluating various alternatives for 2007 compensation. Mr. Perdue (while he served as CEO) and Ms. Challis Lowe regularly provided their recommendations in Compensation Committee meetings regarding NEO compensation and assisted Hewitt in making presentations to the Committee. Mr. Perdue participated fully with the Committee in assessing NEO performance and made recommendations on the compensation level for each NEO pay component prior to the Merger. No member of management attended the Committee’s own private session.

In connection with the Merger, NEOs were represented by legal counsel who negotiated on their behalf with KKR and its legal counsel with respect to the terms of the new long-term incentive plan.  Such negotiations did not address the amounts or value of the grants to be given under that plan upon the closing of the Merger.  Messrs. Richard Dreiling and David Beré also were represented by legal counsel in negotiations with respect to the terms of their employment agreements and compensation.

While the Board and the Committee valued and welcomed the input of management, Board and Committee members ultimately made all 2007 NEO compensation decisions.

Use of Market Benchmarking Data in Determining 2007 NEO Compensation.  To attract and retain NEOs who we believe will enhance our long-term business results, we must pay compensation that is competitive with the external market for executive talent. We believe that the primary NEO talent market consists of retail companies with revenues and business models similar to ours because those companies have executive positions similar in breadth, complexity and scope of responsibility to our NEO positions. For 2007, the Compensation Committee directed Hewitt to provide data on total and individual compensation elements from its proprietary salary survey database and from the proxy statements of selected retail companies that met these criteria. We refer to this combined group as the market comparator group. In 2007, this group consisted of Advance Auto Parts, AutoZone, Family Dollar, Kohl’s, Limited Brands, Long Drug Stores, Nordstrom, OfficeMax, Office Depot, RadioShack, Staples, J.C. Penney, The
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Gap, Federated Department Stores, Blockbuster, The Pantry, Ross Stores, and SuperValue Inc. Hewitt was also asked to provide proxy statement information for certain other significantly larger retail companies (Wal-Mart, Target, Walgreen’s and CVS) to be used as additional reference points in assessing the appropriateness of our NEOs’ compensation levels.

The Committee believed that the median of the competitive market generally was the appropriate target for an NEO’s total compensation, although the target for each compensation component relative to the competitive market varied.

Elements of 2007 NEO Compensation

We provide compensation in the form of base salary, short-term incentives, long-term incentives, benefits and perquisites. As discussed in more detail below, the Compensation Committee believed that each of these elements was a necessary component of an NEO’s compensation package and was consistent with compensation programs at competing companies. Prior to the Merger, the Committee reviewed base salary, short-term incentives, and long-term incentives at least annually and other elements periodically when material changes were considered.

Base Salary.    Base salary generally promotes the recruiting and retention functions of our compensation principles by reflecting the salaries for comparable positions in the competitive marketplace. The Committee believed that we would be unable to attract or retain quality NEOs in the absence of competitive base salary levels. For this reason, base salary constitutes a significant portion of an NEO’s total compensation. Base salary also furthers our pay for performance role of our philosophy because, as a threshold matter, an NEO is not eligible for a salary increase unless he or she achieves a satisfactory overall performance evaluation.

In determining each NEO’s 2007 base salary, the Committee reviewed with Mr. Perdue his evaluation of each NEO’s individual performance. The evaluations included a review of performance versus goals established earlier in 2006, except for Mr. Beré who did not have established goals because he was hired near the end of fiscal 2006.  Because the Committee agreed with Mr. Perdue’s conclusion that each NEO performed satisfactorily overall in 2006, each NEO was eligible as a threshold matter for a salary increase.

The Committee also reviewed the benchmarking data provided by Hewitt, as described above, and considered certain provisions in the Merger Agreement limiting the aggregate employee base salary increase pool to no more than 3%. Because Hewitt’s data showed that existing base salaries with a 3% increase would continue to approximate the market median, the Committee approved a 3% base salary increase for each NEO in 2007.

Subsequent to the fiscal 2007 year end but prior to the filing of this document, the new Compensation Committee considered the 2008 base salary increases for each NEO.  Mr. Dreiling, with Mr. Beré’s input, reviewed the 2007 individual performance of each NEO, including a review of performance versus goals established earlier in 2007. Because Mr. Dreiling determined that each NEO performed satisfactorily overall in 2007, as a threshold matter each NEO was eligible for a salary increase.

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The Committee reviewed benchmarking data provided by Hewitt of a market comparator group substantially similar to the group used for purposes of 2007 compensation decisions (with the addition of Payless Shoe Source, Retail Ventures and Big Lots and the removal of Office Depot and RadioShack). This benchmarking data showed that there was a significant movement in the market median for Ms. Guion’s position and, as a result, the Committee adjusted her pay accordingly. The Committee approved 3% base salary increases for all NEOs (other than Mr. Dreiling, who did not receive a base salary increase since he was hired shortly before the end of the 2007 fiscal year, and Ms. Guion, who received an approximate 15.5% base salary increase for the reason discussed above) in order to maintain base salaries at the median of the market comparator group.

Short-Term Incentive Plan.    Our short-term incentive plan, called Teamshare, serves to motivate NEOs to achieve certain objective financial goals that are established early in the fiscal year. As is the case with base salary, as a threshold matter an NEO may not receive a Teamshare payout unless he or she receives a satisfactory overall performance evaluation, even if the Teamshare financial goal is attained. Accordingly, Teamshare fulfills a part of our pay for performance philosophy while aligning our NEOs’ and shareholders’ interests.  Teamshare also helps us meet our recruiting and retention objectives by providing compensation opportunities that are consistent with those prevalent in our market comparator group.

(a)  2007 Teamshare Structure.  Teamshare authorizes the payment of cash bonuses, calculated as a percentage of base salary, based on our performance measured against a financial performance measure established early in the fiscal year. “Threshold,” “target” and “maximum” performance goals are set, along with corresponding potential payout percentages.  Payouts are prorated between threshold and maximum levels in relation to actual performance results.

In 2007, the Compensation Committee had decided to re-evaluate its historical use of net income as the Teamshare performance measure given changes in our business strategy, but before that evaluation could occur we announced the proposed Merger and agreed to consult with KKR on significant changes to certain of our normal business practices. KKR requested, and the Committee agreed, to adopt a metric based principally upon earnings before interest, taxes, depreciation and amortization (EBITDA) as the sole 2007 Teamshare performance measure. After discussions with KKR, the Committee set this performance target for 2007 at $570 million, which was equal to our annual financial objective. Consistent with prior practice and after consultation with KKR, the Committee also set the threshold and maximum levels at 90% and 110%, respectively, of the target level. The Committee considered the Teamshare performance target to be challenging and generally consistent with the level of difficulty of achievement associated with our performance-based awards for prior years.  We did not achieve the threshold Teamshare performance level in fiscal years 2006 or 2005. We achieved Teamshare performance levels between threshold and target in fiscal years 2004 and 2002 and at maximum in fiscal year 2003.

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The Committee directed that our Teamshare 2007 EBITDA performance measure be computed using numbers from our issued financial statements, adjusted to exclude:

·  consulting, accounting, legal, valuation, banking, filing, disclosure and similar costs, fees and expenses directly related to the consideration, negotiation, approval and consummation of the Merger and related financing and any related litigation or settlement of any related litigation;
·  costs and expenses constituting severance payments and benefits incurred during the 12 month period following the date of shareholder approval of the Merger; and
·  the impact of any unplanned items of a non-recurring or extraordinary nature.

The Committee then set the potential Teamshare payout range for the NEOs, other than Mr. Perdue and Mr. Dreiling (see “Compensation of Mr. Perdue” and “Compensation of Mr. Dreiling” below) and Mr. Beré (see below), at the following base salary percentages: 32.5% (threshold), 65% (target), and 130% (maximum). In determining this range, the Committee reviewed Hewitt’s benchmarking information regarding competitive target incentives for comparable positions in our market comparator group. This analysis showed that our existing target salary payout percentages generally exceeded the market median, but that our total direct compensation would remain at or slightly above the market median because our long-term incentive compensation remains significantly below the market median. The Committee also continued to rely on Hewitt’s prior year benchmarking data which indicated that the typical practice was to set the threshold payout percentage at half of the target and the maximum payout percentage at twice the target. Accordingly, the Committee made no changes to the potential payout range for those NEOs from the prior year.

Mr. Beré assumed the position of Interim CEO upon Mr. Perdue’s resignation on July 6, 2007.  At that time, the Board set Mr. Beré’s potential Teamshare payout percentages at 35% (threshold), 140% (target) and 280% (maximum) of base salary upon achievement of EBITDA-based performance levels of $630 million (threshold), $700 million (target), and $770 million (maximum).  Mr. Beré’s performance target level, as well as the calculation of the related EBITDA-based performance metric, were chosen to match the level used for vesting purposes for the performance-based options (discussed below under “Long-Term Incentive Program”) granted to the NEOs on July 6, 2007. Threshold and maximum performance levels were set at 90% and 110% of the target level. Mr. Beré’s fiscal 2007 bonus opportunity was not based on a prorated graduated scale for performance between the threshold and target and the target and maximum levels.

(b)  2007 Teamshare Results.  Mr. Dreiling, with Mr. Beré’s input, reviewed the 2007 individual performance of each NEO, including a review of performance versus goals established earlier in 2007. Because Mr. Dreiling determined that each NEO performed satisfactorily overall in 2007, as a threshold matter each NEO was eligible to receive a 2007 Teamshare payout to the extent we achieved the relevant EBITDA performance target. In March 2008, our new Compensation Committee approved an EBITDA calculation for this purpose between the “target” and “maximum” performance levels. Accordingly, each NEO received a Teamshare payout in the amount reflected in the “Non-Equity Incentive Plan Compensation” column of the Summary Compensation Table at the following percentages of base salary:  Mr. Dreiling, 127% (based on an annualization of his partial fiscal 2007 salary); Mr. Beré, 140%;  and Mr. Tehle,  Mr. Buley,  Ms. Guion and Ms. Lowe, 82.6%.
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Long-Term Incentive Program.    Long-term equity incentives motivate NEOs to focus on long-term success for shareholders. These incentives also provide a balance between short-term and long-term goals. Prior to the Merger, we delivered these incentives as equity grants structured to recognize stock price changes. The Compensation Committee targeted a certain economic value to be delivered through these incentives which an NEO would realize only if our stock price increased. Long-term incentives are also important to our compensation program’s recruiting and retention objectives because most of the companies in our market comparator group offer them.  Following the Merger, our long-term incentives are designed to compensate NEOs for a long-term commitment to us, while motivating sustained increases in our financial performance.

Prior to the Merger, the Committee typically made equity grant decisions when it reviewed other compensation decisions and evaluated NEO performance, and it was our practice to establish option exercise prices as the closing market price on the grant date. We typically released our annual earnings and other financial results shortly thereafter, but the grants were made regardless of whether earnings were favorable or unfavorable. In accordance with our usual practice, the Committee made pre-Merger 2007 annual equity grant decisions prior to the annual earnings release but after the announcement of the proposed Merger.

Because Hewitt’s benchmarking data indicated that our target long-term incentive values for NEOs (other than Mr. Perdue) were significantly below the median of our market comparator group, the Committee decided in fiscal 2006 to increase that value by approximately 20-25% for fiscal 2006 compensation. At the same time, the Committee also decided to change the options/restricted stock units (“RSUs”) allocation from the previous 80%/20% to 70%/30% for fiscal 2006 compensation, which, according to Hewitt, more closely aligned with market practice. In 2007, the Committee decided to further adjust the relationship of options and RSUs to reflect a 50%/50% allocation of the economic value for 2007 long-term incentive grants which Hewitt advised continued to further align with market practice.

The Committee’s decision regarding the 2007 equity grant mix also took into account the limited availability of shares for use under the shareholder-approved option program existing at that time.  If the options/RSUs mix continued unchanged from 2006, there likely would not have been enough shares for equity grants through fiscal 2008, the year the plan was scheduled to terminate by its terms.  The Committee believed the best way to address that issue, while also assisting with retention and motivation of NEOs and maintaining alignment with shareholder interests, was to adjust the options/RSUs grant mix.

In connection with the Merger, all outstanding equity awards became fully vested and were settled in cash, canceled or rolled over, as described below. Unless they elected to roll over their existing options, each NEO received in exchange for each option an amount in cash, without interest and less applicable withholding taxes, equal to $22.00 less the exercise price of each option. Additionally, each NEO received in exchange for each RSU or share of restricted stock an amount in cash, without interest and less applicable withholding taxes, equal to $22.00.
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Certain NEOs elected to roll over their existing options in connection with the Merger (the “Rollover Options”). The exercise price of the Rollover Options and the number of shares underlying the Rollover Options were adjusted as a result of the Merger to provide their pre-Merger value equivalents. The Rollover Options otherwise continue under the terms of the equity plan under which they were issued.

On July 6, 2007, our Board adopted the 2007 Stock Incentive Plan for Key Employees (the “2007 Plan”).  For certain designated employees, including NEOs, the Board required a personal financial investment in Dollar General in order for the employee to be eligible to receive an option grant under the 2007 Plan. That investment could be made in the form of cash, rollover of stock and/or rollover of in-the-money options issued prior to the Merger. Each NEO (other than Mr. Perdue who resigned and Mr. Dreiling who is discussed separately below) met the personal investment requirement and, accordingly, received option grants under the 2007 Plan.

The options granted under the 2007 Plan are divided so that half are time-vested and half are performance-vested based on a comparison of an EBITDA-based performance metric, as described below, against pre-set goals for that performance metric. The combination of time and performance based vesting of these awards is designed to compensate executives for long-term commitment to us, while motivating sustained increases in our financial performance. The options have an exercise price of $5 per share, which was the fair market value on the grant date.

The time-vested options vest and become exercisable ratably on each of the five anniversary dates of July 6, 2007 solely based upon continued employment with us over that time period. The performance-vested options are eligible to vest and become exercisable ratably if the Board determines in good faith that we achieve specified annual performance targets based on EBITDA and adjusted as described below. For fiscal 2007 that target was $700 million, which was based on our annual financial plan and anticipated permitted adjustments, primarily to account for unique expenses related to the Merger and costs associated with Project Alpha.  If a performance target for a given fiscal year is not met, the performance-based options may still vest and become exercisable on a “catch up” basis if, at the end of a subsequent fiscal year through fiscal 2012, a specified cumulative EBITDA-based performance target is achieved. Because the performance targets are based on our long-term financial plan, we believe these levels, while attainable, require strong performance and execution. We consider these performance targets to be slightly more difficult to achieve than financial performance targets associated with Teamshare compensation in prior years.

For purposes of calculating performance targets for our long-term incentive program, “EBITDA” means earnings before interest, taxes, depreciation and amortization plus transaction, management and/or similar fees paid to KKR and/or its affiliates. In addition, the Board is required to fairly and appropriately adjust the calculation of EBITDA to reflect, to the extent not contemplated in our financial plan, the following: acquisitions, divestitures, any change required by generally accepted accounting principles (“GAAP”) relating to share-based compensation or for other changes in GAAP promulgated by accounting standard setters that, in each case, the Board in good faith determines require adjustment to the EBITDA performance metric we use for our long-term incentive program. For 2007 performance targets, the Board also is required to
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make a good faith determination of adjustments to EBITDA for Project Alpha costs and other non-recurring expenses after consulting with the CEO and CFO. Adjustments to EBITDA for purposes of calculating performance targets or our long-term incentive program may not in all circumstances be identical to adjustments to EBITDA for other purposes, including our Teamshare targets and the covenants contained in our principal financial agreements. Accordingly, comparability of such measures is limited.

In March 2008, the Compensation Committee determined that the specified adjusted EBITDA performance target had been achieved for fiscal 2007 and, as a result, acknowledged the vesting of 20% of the performance-based options.

Benefits and Perquisites.    We provide benefits and limited perquisites to NEOs for retention and recruiting purposes, to promote tax efficiency for the NEOs, and to replace benefit opportunities lost due to regulatory limits. We also provide NEOs with benefits and perquisites as additional forms of compensation that are believed to be consistent and competitive with benefits and perquisites provided to similar positions in our market comparator group and our industry. The Compensation Committee believed these benefits and perquisites help to attract and retain NEOs. Along with certain benefits offered to NEOs on the same terms that are offered to all of our salaried employees (such as health and welfare benefits and matching contributions under our 401(k) plan), we provide NEOs with certain additional benefits and perquisites.

We allow NEOs to participate in the Compensation Deferral Plan (the “CDP”) and the defined contribution Supplemental Executive Retirement Plan (the “SERP”, and together with the CDP, the “CDP/SERP Plan”). During his tenure with us, Mr. Perdue was eligible to participate in the CDP but not the SERP due to his participation in an individual defined benefit supplemental executive retirement plan. Mr. Perdue’s defined benefit supplemental executive retirement plan was provided as part of Mr. Perdue’s inducement package to join Dollar General in 2003 and was one of the compensation components necessary at that time to attract him to serve as our CEO. In addition, in January 2006 our Board approved the establishment of a grantor trust to hold certain assets in connection with Mr. Perdue’s supplemental executive retirement plan in the event of a change in control.

We provide each NEO a life insurance benefit equal to 2.5 times his or her base salary to a maximum of $3 million. We pay the premiums and gross up the NEO’s income to pay the tax cost of this benefit. We also provide each NEO a disability insurance benefit that provides income replacement of 60% of base salary up to a maximum monthly benefit of $20,000 ($25,000 for Mr. Perdue). We pay the cost of this benefit and gross up the NEO’s income to pay the tax cost of this benefit to the extent necessary to replace benefit level caps in the group plan applicable to all salaried employees.

Each NEO may choose either a leased automobile or a fixed monthly automobile allowance. All NEOs except Mr. Beré and Ms. Lowe chose the automobile allowance option in 2007. Mr. Beré and Ms. Lowe chose the lease option under which we provide a company-leased automobile, pay for gasoline, repairs, service, and insurance and provide a gross-up payment to pay the tax cost of the imputed income.

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We also provide a relocation assistance program to NEOs similar to that offered to certain other employees. In 2007, we incurred relocation expenses in accordance with this policy for Mr. Buley and Mr. Dreiling (as discussed below in “Compensation of Mr. Dreiling”).  The significant differences of the relocation assistance available to NEOs from the relocation assistance available to other employees are as follows:

·  We provide a pre-move allowance of 5% of the NEO’s annual base salary (we cap this allowance at $5,000 for other employees);
·  We provide home sale assistance by offering to purchase the NEO’s prior home at an independently determined appraised value in the event the prior home is not sold to an outside buyer (we do not offer this service to other employees);
·  We reimburse NEOs for all reasonable and customary home purchase closing costs (we limit our reimbursement to other employees to 2% of the purchase price to a maximum of $2,500) except for loan origination fees which are limited to 1%; and
·  We provide 60 days of temporary living expenses (we limit temporary living expenses to 30 days for all other employees).

As an exception to the NEO relocation policy, the Committee extended the temporary housing benefit in 2007 to Mr. Beré beyond the 60 day limit due to uncertainties arising from the Merger.

Compensation of Mr. Perdue

While Mr. Perdue’s compensation reflected an emphasis on achieving both short and long-term performance results, more emphasis was placed on long-term performance goals.  This is generally typical for CEO compensation structures as it aligns their compensation more directly with that of shareholders, i.e., the creation of long-term economic value in the company.  As a result of the risk associated with the long-term component being such a large portion of his total compensation and as a part of the decision to extend Mr. Perdue’s employment contract with us, his compensation was benchmarked closer to the 75th percentile of the market comparator group.

In 2007, the Committee reviewed Mr. Perdue’s assessment of his overall performance to determine as a threshold matter his eligibility for a base salary increase. This review included Mr. Perdue’s performance versus his previously established 2006 goals, which included measures relating to the sell off of inventory and the closing of stores as a part of Project Alpha; increasing the discipline in the planning and buying process including private label development and SKU rationalization; enhanced domestic sourcing and continued reduction of costs through the supply chain; enhancing the customer experience in the store through shrink reduction, reduced store manager turnover and the development of measurements of store standards; and the development of a store strategic growth plan.  Because the Committee was satisfied with Mr. Perdue’s overall performance, he was eligible for a 2007 salary increase.

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The Committee also reviewed Hewitt’s benchmarking data, as described above, and considered certain provisions contained in the Merger Agreement limiting the aggregate employee base salary increase pool to no more than 3%. Hewitt’s data showed that Mr. Perdue’s existing base salary with a 3% increase would continue to approximate market median, and the Committee determined that Mr. Perdue would receive a 3% base salary increase for 2007.

The process followed in determining Mr. Perdue’s 2007 Teamshare structure and 2007 long-term incentives was substantially similar to that described above regarding other NEOs, except that the ultimate decisions were made by the independent directors of the Board upon Committee recommendation. In addition, the Board and the Committee were contractually bound by the target (100%) and maximum (200%) Teamshare payout percentages contained in Mr. Perdue’s employment agreement approved prior to 2007.

With respect to Mr. Perdue’s long-term incentive compensation, the Committee chose to use the same 50%/50% options/RSUs allocation of economic value as it used for other NEOs in 2007.  Hewitt’s benchmarking data indicated that the amounts to be granted to Mr. Perdue would approximate the 75th percentile of our market comparator group, keeping his total direct compensation near the same percentile. In connection with the Merger, Mr. Perdue’s outstanding equity awards became fully vested and were settled in cash in the same manner described for the other NEOs.

Mr. Perdue resigned from Dollar General effective July 6, 2007. We treated the resignation as one for “good reason” after a change-in-control under his employment agreement. He executed a release and became entitled to certain severance payments and benefits which are triggered by such a resignation under his employment agreement, subject to his continued compliance with certain terms (including restrictive covenants) of the employment agreement. He was also entitled to payments under his defined benefit supplemental executive retirement plan and the CDP.

Compensation of Mr. Dreiling

Mr. Dreiling entered into a five-year employment agreement to become CEO and a member of our Board effective January 21, 2008.  Key compensatory provisions of the agreement include:

·  Annual base salary of $1,000,000.
·  Annual bonus payout range of 50% (threshold), 100% (target) and 200% (maximum) of base salary based upon EBITDA performance.  Mr. Dreiling is eligible to earn a prorated 2007 bonus for the number of days worked in fiscal 2007.  For 2008, Mr. Dreiling is guaranteed to earn at least a threshold level bonus.
·  A signing bonus of $2,000,000.
·  Equity grants consisting of 890,000 shares of restricted stock and options to purchase 2.5 million shares of Dollar General at $5 per share (the fair market value on the grant date). The restricted stock is scheduled to vest upon the earlier to occur of the last day of fiscal 2011, a change in control, an initial public offering, termination without cause or due to death or disability, or resignation with good reason. Half of the
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options are time-vested and the other half are performance-vested. These options vest upon the same terms as the other options that have been granted under the 2007 Plan.
·  Payment of the premiums on his personal long-term disability insurance policy.
·  Use of our plane for Mr. Dreiling and his spouse up to nine trips per year between our headquarters and his permanent residence in California.
·  Reimbursement and gross-up for taxes of all closing costs and expenses, including broker’s fees, loan origination and/or loan discount fees (not to exceed 2 points in total), and attorney fees incurred to purchase a residence in the Nashville, Tennessee area and for up to 2 months’ lease cancellation on his apartment in the New York metropolitan area.  Reimbursement and/or payment of and gross-up for taxes of temporary living expenses for 120 days as well as 2 house hunting trips not to exceed 7 nights/8 days. Relocation also includes the payment of packing, loading, transporting, storing and delivering his household goods including the movement of 1 car and a miscellaneous expense allowance equal to $50,000 less applicable taxes.
·  Reimbursement of legal fees up to $35,000, grossed-up for taxes, incurred in negotiating and preparing the employment agreement and documents associated with Mr. Dreiling’s equity grants.
·  Payment of monthly membership fees and costs related to his membership in professional clubs selected by him, grossed-up for any taxes. 

Mr. Dreiling was chosen for the CEO position after a lengthy and careful search. The Board firmly believes he is the right leader for the Company as we move forward.  The terms of his employment agreement summarized above were settled after negotiation with Mr. Dreiling, and the Board believes that they are fair and appropriate given CEO compensation and benefits at comparable companies and given Mr. Dreiling’s experience and leadership ability.  These arrangements were also necessary to entice Mr. Dreiling to resign from his previous employer and to give him the opportunity to offset the potential financial gain he would be foregoing by leaving that employer.

Severance and Change-in-Control Agreements

As noted above, we have employment agreements with our NEOs that among other things provide for each NEO’s rights upon a termination of employment. We believe that reasonable severance and change-in-control benefits are appropriate to protect the NEO against circumstances over which he or she does not have control and as consideration for the promises of non-competition, non-solicitation and non-interference that we require in our employment agreements. Furthermore, we believe change-in-control severance payments align NEO and shareholder interests by enabling NEOs to evaluate a transaction in the best interests of our shareholders and our other constituents without undue concern over whether the transaction may jeopardize the NEO’s own employment.

All of our change-in-control provisions operate under a double trigger, requiring both a change-in-control and a termination event, except for the provisions related to long-term equity incentives under our 2007 Plan.  Under the 2007 Plan, (1) all time-vested options will vest and become immediately exercisable as to 100% of the shares of common stock subject to such options immediately prior to a change-in-control and (2) all performance–vested options will
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vest and become immediately exercisable as to 100% of the shares of common stock subject to such options immediately prior to a change-in-control if, as a result of the change–in-control, (x) investment funds affiliated with KKR realize a specified internal rate of return on 100% of their aggregate investment, directly or indirectly, in our equity securities (the “Sponsor Shares”) and (y) the investment funds affiliated with KKR earn a specified cash return on 100% of the Sponsor Shares; provided, however, that in the event that a change-in-control occurs in which more than 50% but less than 100% of our common stock or other voting securities or the common stock or other voting securities of Buck Holdings, L.P. is sold or otherwise disposed of, then the performance-vested options will become vested up to the same percentage of Sponsor Shares on which investment funds affiliated with KKR achieve a specified internal rate of return on their aggregate investment and earn a specified return on their Sponsor Shares. The Merger constituted a change-in-control for purposes of our pre-Merger plans and arrangements.

Deductibility of NEO Compensation

Section 162(m) of the Internal Revenue Code generally disallows a tax deduction to public companies for compensation over $1 million paid in any fiscal year to an NEO that is not performance-based compensation. We believe that compensation paid in 2007 associated with stock options under our 1998 Stock Incentive Plan would generally be fully deductible for federal income tax purposes. However, in certain situations (such as time-vested RSUs) the Compensation Committee approved compensation that did not meet these requirements in order to ensure competitive levels of total compensation for our NEOs. Because our common stock is no longer publicly traded, the Board did not consider Section 162(m) with respect to 2007 compensation paid after the Merger.

Compensation Committee Report

Our Compensation Committee has reviewed and discussed with management the Compensation Discussion and Analysis required by Item 10402(b) of Regulation S-K and, based on such review and discussions, the Compensation Committee recommended to the Board that the Compensation Discussion and Analysis be included in this document.

This report has been furnished by:

·  Michael M. Calbert, Chairman
·  Raj Agrawal
·  Adrian Jones

The Compensation Committee Report is deemed furnished, not filed, in this document and will not be deemed to be incorporated by reference into any filing under the Securities Act or the Exchange Act as a result of furnishing the Compensation Committee Report in this manner.

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Summary Compensation Table

The following table summarizes compensation paid to or earned by our NEOs in each of fiscal 2007 and 2006.



Name and Principal PositionYear 
Salary
($)(2)
  
Bonus
($)(3)
  
Stock
Awards
($)(4)
  
Option Awards
($)(5)
  
Non-Equity Incentive Plan Compensation ($)(6)
  
Change in Pension Value and Nonqualified Deferred Compensation Earnings
($)
  
All Other Compensation
($)
  
Total
($)
 
Richard W. Dreiling,
Chief Executive Officer(1)
2007  34,615   2,000,000   36,777   42,174   41,760   --   62,141(7)  2,217,467 
David A. Perdue,
Former Chairman &
Chief Executive Officer(1)
2007  488,390   --   8,259,225   1,690,873   --   4,179,884(8)  11,238,529(9)  25,856,901 
2006  1,037,540   --   1,472,904   87,582   --   677,541(8)  151,448   3,427,015 
David L. Beré,
President and Chief Operating Officer(1)
2007  717,528   --   974,231   1,381,712   1,009,400   --   187,046(10)  4,269,917 
David M. Tehle,
Executive Vice President &
Chief Financial Officer
2007  594,523   --   632,162   1,149,922   493,213   --   130,464(11)  3,000,284 
2006  580,022   188,500   235,247   194,127   --   --   121,126   1,319,022 
Beryl J. Buley,
Division President, Merchandising, Marketing  & Supply Chain
2007  589,398   --   690,116   1,065,045   488,962   --   111,234(12)  2,944,755 
2006  575,022   186,875   183,223   180,669   --   --   273,801   1,399,590 
Kathleen R. Guion,
Division President,
Store Operations &
Store Development
2007  512,520   --   521,453   917,214   425,184   --   115,011(13)  2,491,382 
2006  500,019   162,500   206,455   154,982   --   --   151,971   1,175,927 
Challis M. Lowe,
Executive Vice President,
Human Resources
2007  420,266   --   512,771   768,251   348,651   --   118,133(14)  2,168,072 
2006  404,182   133,250   130,813   117,933   --   --   174,322   960,500 

(1)  Mr. Dreiling was hired on January 21, 2008. Mr. Perdue resigned effective July 6, 2007.  Mr. Beré was hired as our President and Chief Operating Officer in December 2006, was appointed interim Chief Executive Officer upon Mr. Perdue’s resignation on July 6, 2007, and resumed his position as President and Chief Operating Officer when Mr. Dreiling was hired as our Chief Executive Officer.
(2)  All NEOs (excluding Mr. Dreiling) deferred a portion of their fiscal 2007 salaries under the CDP. The amounts of such deferrals are included in the Nonqualified Deferred Compensation Table. Each NEO (excluding Mr. Dreiling) also contributed a portion of his or her fiscal 2007 salary to our 401(k) Plan. All NEOs for which fiscal 2006 salaries are reported in this column deferred a portion of their fiscal 2006 salaries under the CDP and contributed a portion of their salaries to our 401(k) Plan.
(3)  The amount for Mr. Dreiling represents the signing bonus paid pursuant to his employment agreement.  The 2006 amounts represent a one-time discretionary bonus awarded to these NEOs for fiscal 2006.
(4)  Represents the dollar amount recognized during the fiscal year for financial statement reporting purposes in accordance with Statement of Financial Accounting Standards 123R (“SFAS 123R”), but disregarding the estimate of forfeitures related to service-based vesting conditions, for outstanding awards of restricted stock and restricted stock units (“RSUs”).  Prior to the Merger, the expense was recorded on a straight-line basis over the restriction period based on the market price of the underlying stock on the grant date. There were no forfeitures of restricted stock or RSUs held by the NEOs during fiscal 2007 or fiscal 2006. For more information regarding the assumptions used in the valuation of these awards, see Note 9 of the annual consolidated financial statements included in this document. As a result of the Merger, all restricted stock and RSU awards outstanding immediately before the Merger vested and, therefore, all remaining compensation expense associated with those awards was recognized in fiscal 2007 in accordance with SFAS 123R.
(5)  Represents the dollar amount recognized during the fiscal year for financial statement reporting purposes in accordance with SFAS 123R, but disregarding the estimate of forfeitures related to service-based vesting conditions, for stock options. Option awards granted before February 4, 2006 were valued on the applicable grant date under the fair value method of SFAS 123 and those granted on or after that date were valued under the fair value method of SFAS 123R using the Black-Scholes option pricing model with the following assumptions:
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March 15,
2005
  
September 1,
2005
  
January 24,
2006
  
March 16,
2006
  
March 23,
2007
  
July 7,
2007
 
Expected dividend yield  .85%  .85%  1.0%  .82%  .91%  0%
Expected stock price volatility  27.4%  25.9%  24.7%  28.7%  18.5%  42.3%
Risk-free interest rate  4.25%  3.71%  4.31%  4.7%  4.5%  4.9%
Expected life of options (years)  5.0   5.0   4.5   5.7   5.7   7.5 
Exercise price $22.35  $18.51  $16.94  $17.54  $21.25  $5.00 
Stock price on date of grant $22.35  $18.51  $16.94  $17.54  $21.25  $5.00 
For more information regarding the assumptions used in the valuation of these awards, see Note 9 of the annual consolidated financial statements included in this document.  As a result of the Merger, all options outstanding immediately before the Merger vested and, therefore, all compensation expense associated with those awards was recognized in fiscal 2007 in accordance with SFAS 123R.  Mr. Tehle and Ms. Guion had 63,000 and 50,300 options, respectively, that were forfeited as a result of the Merger.  There were no forfeitures of options held by NEOs in fiscal 2006.
(6)  Represents amounts earned pursuant to our Teamshare bonus program for fiscal 2007.  See the discussion of the “Short-Term Incentive Plan”, “Compensation of Mr. Dreiling” and “Compensation of Mr. Perdue” in “Compensation Discussion and Analysis” above.  Messrs. Beré and Buley and Ms. Guion deferred 5%, 20% and 5%, respectively of their fiscal 2007 bonus payments under the CDP in fiscal 2008. No amounts were earned under our Teamshare bonus program for fiscal 2006 because we did not meet the financial performance level required for a payout.
(7)  Represents the incremental cost of providing certain perquisites, including $61,414 for amounts associated with relocation and $727 for an automobile allowance.  The aggregate incremental cost related to Mr. Dreiling’s relocation amount was calculated as follows: $50,000 as a miscellaneous cash allowance, $4,000 for the cost to transport a personal vehicle from New Jersey to his home in California, $4,803 for temporary living expenses, $1,129 for transportation costs incurred in connection with house hunting trips and $1,482 for meal expenses incurred in connection with temporary living.
(8)  The 2007 amount represents the aggregate change in the actuarial present value of the accumulated benefit under Mr. Perdue's SERP from February 2, 2007 to February 1, 2008.  Because Mr. Perdue resigned effective July 6, 2007, the fiscal 2007 year-end actuarial present value of the accumulated benefit is equal to the benefit paid to him in fiscal 2007. The 2006 amount represents the aggregate change in the actuarial present value of the accumulated benefit under Mr. Perdue’s SERP from February 4, 2006 to February 2, 2007.
(9)  Includes $6,798,000 for severance paid in connection with Mr. Perdue’s resignation pursuant to his employment agreement, $2,681,201 for the reimbursement of excise taxes related to the severance payment, $78,438 for unused vacation at the time of Mr. Perdue’s resignation, $1,489,398 for the reimbursement of excise taxes related to the payment made to Mr. Perdue for his defined benefit SERP, $71,327 for the tax reimbursement of excise taxes related to the payment of interest on Mr. Perdue’s defined benefit SERP, $24,892 for a lump sum payment in lieu of COBRA payments on behalf of Mr. Perdue, $9,818 for reimbursement of taxes related to the lump sum payment in lieu of COBRA payments, $19,908 for the reimbursement of taxes related to the COBRA gross up payment, $11,249 for premiums paid under our life and disability insurance programs, $17,753 for our match contributions to the CDP, $6,667 for our match contributions to the 401(k) Plan, $6,452 for tax reimbursements related to life and disability insurance premiums, and $23,426 which represents the incremental cost of providing certain perquisites, including $11,280 for personal use of the company plane and other amounts, which individually did not equal the greater of $25,000 or 10% of total perquisites, including an annual automobile allowance, a medical physical examination and a Merger closing gift. We incurred no incremental cost in connection with the occasional travel of Mr. Perdue’s spouse on our plane while accompanying him on travel.
(10)  Includes $7,806 for premiums paid under our life and disability insurance programs, $53,683 for our contributions to the SERP, $32,872 for our match contributions to the CDP, $2,854 for our match contributions to the 401(k) Plan, $4,477 for the reimbursement of taxes related to life and disability insurance premiums, $21,336 for the reimbursement of taxes related to relocation, $4,906 for reimbursement of taxes related to the personal use of a company-leased automobile, and $59,112 which represents the incremental cost of providing certain perquisites, including $37,200 for temporary living expenses (calculated as rent and utility payments) associated with relocation, $18,601 for personal use of a company-leased vehicle, and other amounts which individually did not equal the greater of $25,000 or 10% of total perquisites, including a medical physical examination, expenses related to Mr. Beré’s and his spouse’s attendance at sporting events, and a Merger closing gift. We incurred no incremental cost in connection with the occasional travel of Mr. Beré’s family members on our plane while accompanying him on business travel.
(11)  Includes $6,412 for premiums paid under our life and disability insurance programs, $58,618 for our contributions to the SERP, $18,403 for our match contributions to the CDP, $11,198 for our match contributions to the 401(k) Plan, $3,678 for tax reimbursements related to life and disability insurance premiums, and $32,155 which represents the incremental cost of providing certain perquisites, including $21,000 for an annual automobile allowance and other amounts which individually did not equal the greater of $25,000 or 10% of total perquisites, including a directed donation to a charity, expenses incurred in connection with his personal use of our plane, and expenses related to Mr. Tehle’s and his guests’ attendance at sporting events.
(12)  Includes $3,294 for premiums paid under our life and disability insurance programs, $34,868 for our contributions to the SERP, $18,148 for our match contributions to the CDP, $11,174 for our match contributions to the 401(k) Plan, $1,890 for the reimbursement of taxes related to life and disability insurance premiums, $2,182 for the reimbursement of taxes related to relocation, and $39,678 which represents the incremental cost of providing certain perquisites, including  $21,000 for an annual automobile allowance, $6,069 for an expense related to selling his prior home, $5,000 for a directed charitable donation and other amounts which individually did not equal the greater of $25,000 or 10% of total perquisites, including expenses relating to Mr. Buley’s and his guests’ attendance at sporting events, a fee to attend a Young Presidents’ Organization meeting and a medical physical examination. We incurred no incremental cost in connection with the occasional travel of Mr. Buley’s spouse on our plane while accompanying him on business travel.
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(13)  Includes $9,447 for premiums paid under our life and disability insurance programs, $50,533 for our contributions to the SERP, $14,314 for our match contributions to the CDP, $10,789 for our match contributions to the 401(k) Plan, $3,397 for tax reimbursements related to life and disability insurance premiums, and $26,531 which represents the incremental cost of providing certain perquisites, including $21,000 for an annual automobile allowance, a $5,000 directed charitable donation and other amounts which individually did not equal the greater of $25,000 or 10% of total perquisites, including expenses relating to Ms. Guion’s attendance at a sporting event.

(14)  Includes $11,754 for premiums paid under our life and disability insurance programs, $41,437 for our contributions to the SERP, $9,712 for our match contributions to the CDP, $11,213 for our match contributions to the 401(k) Plan, $4,227 for the reimbursement of taxes related to life and disability insurance premiums, $8,429 for reimbursement of taxes related to the personal use of a company-leased automobile, and $31,361 which represents the incremental cost of providing certain perquisites, including $22,887 for personal use of a company-leased vehicle, a $5,000 directed charitable donation, and other amounts which individually did not equal the greater of $25,000 or 10% of total perquisites, including expenses relating to Ms. Lowe’s and her guests’ attendance at sporting or other entertainment events and minimal hotel incidental charges incurred by her spouse while accompanying her on business travel.  We incurred no incremental cost in connection with the occasional travel of Ms. Lowe’s spouse on our plane while accompanying her on business travel.

Grants of Plan-Based Awards During Fiscal 2007

The table below sets forth information regarding grants of plan-based awards to our NEOs in fiscal 2007.  The grants include RSUs and options granted pursuant to our 1998 Stock Incentive Plan in fiscal 2007 prior to the Merger, all of which became fully vested and were:

·  settled in cash, without interest and less applicable withholding taxes, equal to $22 per share less, for options, the exercise price (the “Merger Consideration”);
·  forfeited, with respect to any options having an exercise price at or above $22/share; or
·  exchanged for Rollover Options as further described and defined in the “Long-Term Incentives” portion of “Compensation Discussion and Analysis” above.

The Rollover Options are set forth in the table as separate grants. The amounts paid as consideration for the Rollover Options as noted in the footnotes to the table represent the value the NEO would have received in the Merger had the NEO instead chosen to accept the Merger Consideration. While the exercise price and the number of shares underlying the Rollover Options have been adjusted as a result of the Merger and are fully vested, they are deemed to have been granted, and otherwise continue, under the terms of our 1998 Stock Incentive Plan, which is the plan under which the original options were issued.

The table also includes options granted in 2007 on or after the Merger under our 2007 Stock Incentive Plan.  We have omitted the columns for threshold and maximum estimated future payouts under equity incentive plan awards because they are inapplicable.

Each NEO’s annual Teamshare bonus opportunity established for fiscal 2007 also is set forth in the table below.  Actual bonus amounts earned by each NEO for fiscal 2007 as a result of our EBITDA performance are set forth in the Summary Compensation Table above and represent prorated payment on a graduated scale between the target and maximum EBITDA performance levels for each of the NEOs other than Mr. Beré whose payment was not made on a graduated scale, but rather represented payment at the target level.  Mr. Perdue did not receive a
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Teamshare payout for fiscal 2007 due to his resignation on July 6, 2007.  See “Short-Term Incentives”, “Compensation of Mr. Dreiling” and “Compensation of Mr. Perdue” in “Compensation Discussion and Analysis” above for further discussion of the fiscal 2007 Teamshare program.

Name
Grant Date
Date of Board Action(1)
 
 
 
Estimated Possible Payouts Under Non-
               Equity Incentive Plan Awards(2)                
 
    Threshold               Target                Maximum
           ($)                          ($)                           ($)
  
Estimated Future Payouts Under Equity Incentive
Plan Awards
Target
(#)(3)
  
All Other Stock Awards: Number of Shares of Stock or Units 
(#)(4)
  
All Other Option Awards: Number of Securities Underlying Options 
(#)
  
Exercise or Base Price of Option Awards ($/Sh)
  
Grant Date Fair Value of Stock and Option Awards 
($)
 
                           
Mr. Dreiling    16,438   32,877   65,753   --   --   --   --   -- 
 1/21/081/11/08  --   --   --   --   --   1,250,000(5)  5.00(5)  3,120,875 
 1/21/081/11/08  --   --   --   1,250,000   --   --   5.00(3)  3,120,875 
 1/21/081/11/08  --   --   --   --   890,000   --   --   4,450,000 
                                   
Mr. Perdue    566,500   1,133,000   2,266,000   --   --   --   --   -- 
 3/23/073/20/07  --   --   --   --   --   313,630(6)  21.25(6)  1,690,873 
 3/23/073/20/07  --   --   --   --   110,693   --   --   2,325,226 
                                   
Mr. Beré    252,350   1,009,400   2,018,800   --   --   --   --   -- 
 3/23/073/19/07  --   --   --   --   --   126,565(6)  21.25(6)  682,350 
 3/23/073/19/07  --   --   --   --   44,670   --   --   949,238 
 7/6/07   --   --   --   --   --   1,125,000(5)  5.00(5)  3,042,225 
 7/6/07   --   --   --   1,125,000   --   --   5.00(3)  3,042,225 
 7/6/07   --   --   --   --   --   5,809(7)  1.25(7)  21,784(7)
 7/6/07   --   --   --   --   --   17,590(7)  1.25(7)  65,963(7)
 7/6/07   --   --   --   --   --   25,313(7)  1.25(7)  94,924(7)
                                   
Mr. Tehle    194,155   388,310   776,620   --   --   --   --   -- 
 3/23/073/19/07  --   --   --   --   --   49,917(6)  21.25   269,118 
 3/23/073/19/07  --   --   --   --   17,618   --   --   374,383 
 7/6/07   --   --   --   --   --   550,000(5)  5.00(5)  1,487,310 
 7/6/07   --   --   --   550,000   --   --   5.00(3)  1,487,310 
 7/6/07   --   --   --   --   --   54,426(7)  1.25(7)  204,098(7)
 7/6/07   --   --   --   --   --   44,464(7)  1.25(7)  166,740(7)
 7/6/07   --   --   --   --   --   83,134(7)  1.25(7)  311,753(7)
 7/6/07   --   --   --   --   --   9,983(7)  1.25(7)  37,436(7)
                                   
Mr. Buley    192,481   384,963   769,925   --   --   --   --   -- 
 3/23/073/19/07  --   --   --   --   --   39,883(6)  21.25(6)  215,021 
 3/23/073/19/07  --   --   --   --   14,076   --   --   299,115 
 7/6/07   --   --   --   --   --   437,500(5)  5.00(5)  1,183,088 
 7/6/07   --   --   --   437,500   --   --   5.00(3)  1,183,088 
 7/6/07   --   --   --   --   --   134,933(7)  1.25(7)  505,999(7)
 7/6/07   --   --   --   --   --   66,364(7)  1.25(7)  248,865(7)
                                   
Ms. Guion    167,375   334,750   669,500   --   --   --   --   -- 
 3/23/073/19/07  --   --   --   --   --   39,883(6)  21.25(6)  215,021 
 3/23/073/19/07  --   --   --   --   14,076   --   --   299,115 
 7/6/07   --   --   --   --   --   437,500(5)  5.00(5)  1,183,088 
 7/6/07   --   --   --   437,500   --   --   5.00(3)  1,183,088 
 7/6/07   --   --   --   --   --   22,942(7)  1.25(7)  86,033(7)
 7/6/07   --   --   --   --   --   35,504(7)  1.25(7)  133,140(7)
 7/6/07   --   --   --   --   --   66,364(7)  1.25(7)  248,865(7)
 7/6/07   --   --   --   --   --   7,976(7)  1.25(7)  29,910(7)
                                   
Ms. Lowe    137,248   274,495   548,990   --   --   --   --   -- 
 3/23/073/19/07  --   --   --   --   --   35,733(6)  21.25(6)  192,647 
 3/23/073/19/07  --   --   --   --   12,612   --   --   268,005 
 7/6/07   --   --   --   --   --   337,500(5)  5.00(5)  912,668 
 7/6/07   --   --   --   337,500   --   --   5.00(3)  912,668 
 7/6/07   --   --   --   --   --   39,088(7)  1.25(7)  146,580(7)
 7/6/07   --   --   --   --   --   59,466(7)  1.25(7)  222,998(7)
 7/6/07   --   --   --   --   --   7,146(7)  1.25(7)  26,798(7)
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(1)  Our Board of Directors authorized Mr. Dreiling’s equity grants on the same day that it approved his employment and related agreements.  Because the 2007 Stock Incentive Plan does not allow us to make grants to non-employees, the Board set the grant date effective as of Mr. Dreiling’s hire date.  Our Board of Directors authorized Mr. Perdue’s equity grants, and our Compensation Committee authorized the equity grants to Messrs. Beré, Tehle and Buley and Mss. Guion and Lowe, at the meetings where other annual executive compensation matters were considered, consistent with historical practice.  Such grants, however, were conditioned upon receipt of KKR’s approval per certain provisions in the Merger Agreement.  The date of KKR’s approval was considered the grant date for those awards.
(2)  Represents each NEO’s fiscal 2007 Teamshare bonus opportunity.  Mr. Dreiling’s payout levels are prorated for 12 days of service in fiscal 2007.
(3)  Represents post-Merger grants of performance-based options under the 2007 Stock Incentive Plan.  Because there is no market for our common stock, the per share exercise price is the fair market value of one share of our common stock on the grant date as determined in good faith by our Board of Directors.  If we achieve specific EBITDA targets, these options are eligible to become exercisable in installments of 20% on February 1, 2008, January 30, 2009, January 29, 2010, January 28, 2011, and February 3, 2012.  If an EBITDA target for a given fiscal year is not met, these options may still vest on a “catch up” basis if, at the end of fiscal years 2008, 2009, 2010, 2011, or 2012, the applicable cumulative EBITDA target is achieved.  In addition, these options are subject to certain accelerated vesting provisions as described in “Potential Payments Upon Termination or Change-in-Control” below.
(4)  Represents post-Merger grants of time-vested restricted stock to Mr. Dreiling under the 2007 Stock Incentive Plan and pre-Merger grants of time-vested RSUs to all other NEOs under the 1998 Stock Incentive Plan.  The restricted shares granted to Mr. Dreiling are scheduled to vest upon the earliest to occur of:  a change in control of the company, an initial public offering of the company, Mr. Dreiling’s termination without cause or due to death or disability, Mr. Dreiling’s resignation for good reason, or February 3, 2012. The pre-Merger RSU grants vested in connection with the Merger.
(5)  Represents post-Merger grants of time-vested, non-qualified stock options under the 2007 Stock Incentive Plan.  Because there is no market for our common stock, the per share exercise price is the fair market value of one share of our common stock on the grant date as determined in good faith by our Board of Directors.  These options are scheduled to become exercisable ratably in installments of 20% on July 6, 2008, July 6, 2009, July 6, 2010, July 6, 2011 and July 6, 2012. In addition, these options are subject to certain accelerated vesting provisions as described in “Potential Payments upon Termination or Change-in-Control” below.
(6)  Represents pre-Merger grants of time-vested, non-qualified stock options under the 1998 Stock Incentive Plan which became fully vested in connection with the Merger.  The per share exercise price equals the closing market price of our common stock on the grant date.
(7)  Represents Rollover Options which are governed by the terms of the 1998 Stock Incentive Plan.  The per share exercise price equals the exercise price of the original surrendered option (which was the closing market price of our common stock on the grant date) as adjusted to reflect our capitalization immediately following the Merger.  As described in the narrative before this Grants of Plan-Based Awards Table, the NEOs paid the following consideration for the Rollover Options: Mr. Beré, $182,675; Mr. Tehle, $720,034; Mr. Buley, $754,868; Ms. Guion, $497,956; and Ms. Lowe, $396,380.  Because we will not recognize any compensation expense in connection with the Rollover Options on a going forward basis, we have not determined the grant date fair values of those options in accordance with SFAS 123R, but rather have disclosed their intrinsic values (equal to the difference between the fair market value of the common stock and the per share exercise price of the Rollover Options multiplied by the number of shares underlying such Rollover Options) which we believe would not be materially different from the SFAS 123R grant date fair value.
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Outstanding Equity Awards at 2007 Fiscal Year-End

The table below sets forth information regarding outstanding equity awards held by our NEOs as of the end of fiscal 2007.

  
Option Awards
  
Stock Awards
 
Name
 
Number of
Securities
Underlying
Unexercised
Options
(#)
Exercisable
  
Number of
Securities
Underlying
Unexercised
Options
(#)
Unexercisable
  
Equity Incentive
Plan Awards: Number of Securities Underlying Unexercised Unearned Options
(#)
  
Option
Exercise
Price
($)
  
Option
Expiration
Date
  
Number
of Shares
or Units
of Stock
That
 Have Not
Vested
(#)
  
Market Value
of
Shares or
Units of
Stock That
Have
Not Vested
($)(1)
 
                      
Mr. Dreiling  --   1,250,000(2)  --   5.00  7/6/2017   --   -- 
   250,000(3)  --   1,000,000(4)  5.00  7/6/2017   --   -- 
   --   --   --   --   --   890,000(5)  4,450,000 
                             
Mr. Perdue  --   --   --   --   --   --   -- 
                             
Mr. Beré  5,809(6)  --   --   1.25  8/12/2012   --   -- 
   17,590(7)  --   --   1.25  3/13/2013   --   -- 
   25,313(8)  --   --   1.25  3/23/2017   --   -- 
   --   1,125,000(2)      5.00  7/6/2017   --   -- 
   225,000(3)  --   900,000(4)  5.00  7/6/2017   --   -- 
                             
Mr. Tehle(9)
  54,426(10)  --   --   1.25  8/9/2014   --   -- 
   44,464(11)  --   --   1.25  8/24/2014   --   -- 
   83,134(12)  --   --   1.25  3/16/2016   --   -- 
   9,983(8)  --   --   1.25  3/23/2017   --   -- 
   --   550,000(2)  --   5.00  7/6/2017   --   -- 
   110,000(3)   --  440,000(4)  5.00  7/6/2017   --   -- 
                             
Mr. Buley  134,933(13)  --   --   1.25  1/24/2016   --   -- 
   66,364(12)  --   --   1.25  3/16/2016   --   -- 
   --   437,500(2)  --   5.00  7/6/2017   --   -- 
   87,500(3)  --   350,000(4)  5.00  7/6/2017   --   -- 
                             
Ms. Guion(14)
  22,942(15)  --   --   1.25  12/2/2013   --   -- 
   35,504(11)  --   --   1.25  8/24/2014   --   -- 
   66,364(12)  --   --   1.25  3/16/2016   --   -- 
   7,976(8)  --   --   1.25  3/23/2017   --   -- 
   --   437,500(2)  --   5.00  7/6/2017   --   -- 
   87,500(3)  --   350,000(4)  5.00  7/6/2017   --   -- 
                             
Ms. Lowe  39,088(16)  --   --   1.25  9/1/2015   --   -- 
   59,466(11)  --   --   1.25  3/16/2016   --   -- 
   7,146(8)  --   --   1.25  3/23/2017   --   -- 
   --   337,500(2)  --   5.00  7/6/2017   --   -- 
   67,500(3)  --   270,000(4)  5.00  7/6/2017   --   -- 
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(1)  Based on a per share fair market value of  $5.00.  Our Board of Directors determined in good faith that the per share market value of our common stock on January 21, 2008 was $5.00.  
(2)  These options are scheduled to become exercisable ratably in installments of 20% on July 6, 2008, July 6, 2009, July 6, 2010, July 6, 2011 and July 6, 2012. In addition, these options are subject to certain accelerated vesting provisions as described in “Potential Payments upon Termination or Change-in-Control” below.
(3)  These options vested as of February 1, 2008.
(4)  If we achieve specific EBITDA targets, these options are eligible to become exercisable in installments of 25% on January 30, 2009, January 29, 2010, January 28, 2011, and February 3, 2012.  If an EBITDA target for a given fiscal year is not met, these options may still vest on a “catch up” basis if, at the end of fiscal years 2008, 2009, 2010, 2011, or 2012, the applicable cumulative EBITDA target is achieved.  In addition, these options are subject to certain accelerated vesting provisions as described in “Potential Payments upon Termination or Change-in-Control” below.
(5)  These restricted shares are scheduled to vest upon the earliest to occur of:  a change in control of the company, an initial public offering of the company, Mr. Dreiling’s termination without cause or due to death or disability, Mr. Dreiling’s resignation for good reason, or February 3, 2012.
(6)  The options for which these Rollover Options were exchanged became exercisable on August 12, 2003.
(7)  The options for which these Rollover Options were exchanged became exercisable on March 13, 2004.
(8)  The options for which these Rollover Options were exchanged became exercisable on July 6, 2007.
(9)  As a result of the Merger on July 6, 2007, Mr. Tehle forfeited 63,000 options having an exercise price higher than the Merger Consideration.
(10)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on August 9, 2005 and 75% on February 3, 2006.
(11)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on August 24, 2005 and 75% on February 3, 2006.
(12)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on March 16, 2007 and 75% on July 6, 2007.
(13)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on January 24, 2007 and 75% on July 6, 2007.
(14)  As a result of the Merger on July 6, 2007, Ms. Guion forfeited 50,300 options having an exercise price higher than the Merger Consideration.
(15)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on December 2, 2004 and December 2, 2005 and 50% on February 3, 2006.
(16)  The options for which these Rollover Options were exchanged became exercisable in installments of 25% on September 1, 2006 and 75% on July 6, 2007.

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Option Exercises and Stock Vested During Fiscal 2007

The table below provides information regarding the Company’s directors, director nominees, audit committee financial experts, audit committee,value realized by our NEOs upon the transfer for value of stock options and procedures for shareholdersthe vesting of stock awards during fiscal 2007.

  
Option Awards(1)
  
Stock Awards
 
Name
 
Number of Shares Acquired on
Exercise
(#)
  
Value Realized
on Exercise
($)
  
Number of Shares Acquired on Vesting (#)
  
Value Realized
on Vesting
($)
 
Mr. Dreiling  --   --   --   -- 
Mr. Perdue  1,313,630   9,555,223   587,516   12,888,955 
Mr. Beré  136,009   182,675   49,443   1,085,841 
Mr. Tehle  235,217   720,034   40,113   877,225 
Mr. Buley  195,683   784,780   39,692   870,668 
Ms. Guion  200,483   497,956   33,107   724,171 
Ms. Lowe  127,733   396,380   30,693   672,946 
(1)Represents the transfer for value of options held by the NEOs in connection with the Merger.  All of the value realized by Messrs. Beré and Tehle and by Mss. Guion and Lowe and $754,868 of the value realized by Mr. Buley was rolled over into Rollover Options.

Pension Benefits  
Fiscal 2007

We provided retirement benefits to recommend director nominees is containedMr. Perdue under an unfunded, non-qualified defined benefit pension plan, or SERP. As a result of the Merger, which constituted a change-in-control under the caption “Proposal 1: Electionterms of Directors—Whothe SERP and the related grantor trust agreement, and Mr. Perdue’s resignation effective July 6, 2007, Mr. Perdue became 100% vested in his SERP account and the actuarial equivalent of the lump sum value of Mr. Perdue’s accrued benefit was funded to the grantor trust.  The material terms of Mr. Perdue’s SERP are discussed following the nomineestable.

 
Name
 
 
Plan Name
 
 
Number of Years
Credited Service
(#)
 
Present
Value of
Accumulated Benefit
($)
Payments During
Last Fiscal Year
($)(1)
 
Mr. Perdue
 
Supplemental Executive
Retirement Plan for
David A. Perdue
 
N/A
 
0
 
6,208,966
(1)On January 7, 2008, distribution was made to Mr. Perdue of the entire benefit obligation under the terms of his SERP consisting of $6,028,122 of vested benefit and $180,844 in interest.  The distribution to Mr. Perdue was made six months following his termination date to comply with Section 409A of the Internal Revenue Code (the “Code”).

Mr. Perdue’s SERP provided for an annual normal retirement benefit equal to 25% of “final average compensation” upon retirement on or after his “normal retirement date”, payable as a joint and 50% spouse annuity assuming his spouse to be the same age as Mr. Perdue. Mr. Perdue could elect to receive his benefit as a lump sum or any annuity form actuarially equivalent to the normal retirement benefit.  The SERP also provided for an early retirement benefit which would reduce his benefit by 5% for each year or portion thereof that Mr. Perdue retired prior to age 60.

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 For the purpose of calculating Mr. Perdue’s accumulated benefit, “normal retirement date” is the first of the month coincident with or next following the later of the date Mr. Perdue attains age 60 or is credited with 15 years of credited service.  Since Mr. Perdue was not age 60 on the date of his resignation, his benefit under the SERP was treated as an early retirement and his benefit was reduced accordingly.

Mr. Perdue’s benefit was based on a total of 14 out of a possible 15 years of credited service under the SERP plan.  This included 8 years of credited service based on his actual service under the plan in which he received 2 years of credited service upon each anniversary of his date of hire and an additional 6 years of credited service since his resignation was for good reason within 2 years of a change-in-control.

“Final average compensation” is calculated as Mr. Perdue’s base salary plus his “applicable annual bonus” for the highest 3 consecutive fiscal years of credited service.  “Applicable annual bonus” is the greater of the actual bonus paid for the immediately preceding fiscal year or the target annual bonus for the current fiscal year.  Mr. Perdue’s base salary and “applicable annual bonus” were assumed to have been paid during the additional years of credited service for the purpose of calculating his “final average compensation”.  For the purpose of his benefit calculation, Mr. Perdue’s final average compensation was $2,266,000.

We had established a grantor trust that provided for assets to fund Mr. Perdue’s SERP to be placed in the trust upon a change-in-control (as defined in the grantor trust) of Dollar General. The trust’s assets were subject to the claims of our creditors. The trust also provided for a distribution to Mr. Perdue to pay certain taxes in the event he was taxed in connection with the funding of the trust and to apply interest at the rate of 6% per annum in the event payment was delayed due to Section 409A of the Code. As a result of the Merger, and since the payment was determined to be subject to Section 409A delay, a deposit of $6,208,966 was made to the trust representing the lump sum and interest value of Mr. Perdue’s benefit. This amount was paid to Mr. Perdue on January 7, 2008.

Nonqualified Deferred Compensation
Fiscal 2007

We offer a CDP/SERP Plan to certain key employees, including the NEOs. Mr. Perdue was not eligible to participate in the SERP portion of the CDP/SERP Plan due to his participation in his individualized SERP discussed under “Pension Benefits” above. Information regarding the NEOs’ participation in the CDP/SERP Plan is included in the following table. The material terms of the CDP/SERP Plan are described after the table.  Please also see “Benefits and Perquisites” in “Compensation Discussion and Analysis” above.

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Name
Executive
Contributions in
Last FY
($)(1)
Registrant
Contributions
in Last FY
($)(2)
Aggregate
Earnings in
Last FY
($)(3)
Aggregate
Withdrawals/
Distributions
($)
Aggregate
Balance at
Last FYE
($)
      
Mr. Dreiling----------
Mr. Perdue24,42017,75313,568--
397,753(4)
Mr. Beré35,87686,555         (185)--128,081
Mr. Tehle40,62177,0216,932--
332,588(5)
Mr. Buley39,30753,016   (646)--
193,336(6)
Ms. Guion33,75164,8468,550--
296,607(7)
Ms. Lowe21,01351,1493,310--
176,064(8)
(1)Reported as "Salary" in the Summary Compensation Table.

(2)Reported as "All Other Compensation" in the Summary Compensation Table.

(3)The amounts shown in this column are not reported in the Summary Compensation Table because they do not represent above-market or preferential earnings.

(4)Includes the following amounts reported in the Summary Compensation Table in the proxy statements for the fiscal years indicated: $92,337 in 2006; $94,670 in 2005; and $84,253 in 2004.

(5)Includes the following amounts reported in the Summary Compensation Table in the proxy statements for the fiscal years indicated: $102,104 in 2006; $84,387 in 2005; and $3,333 in 2004.

(6)Includes the following amounts reported in the Summary Compensation Table in the proxy statements for the fiscal years indicated: $89,392 in 2006; and $4,792 in 2005.

(7)Includes the following amounts reported in the Summary Compensation Table in the proxy statements for the fiscal years indicated: $61,503 in 2006; $43,168 in 2005; and $57,689 in 2004.

(8)Includes $91,496 reported in the Summary Compensation Table in the proxy statement for fiscal 2006.
Pursuant to the CDP, NEOs may annually elect to defer up to 65% of base salary and up to 100% of bonus pay. We currently match base pay deferrals at a rate of 100%, up to 5% of annual salary, with annual salary offset by the amount of match-eligible salary under the 401(k) plan. All NEOs are 100% vested in all compensation and matching deferrals and earnings on those deferrals.
Pursuant to the SERP, we make an annual contribution equal to a certain percentage of a participant's annual salary and bonus to all participants who are actively employed in an eligible job grade on January 1 and continue to be employed as of December 31 of a given year. The contribution percentage is based on age, years of service and job grade. The 2007 contribution percentage for each eligible NEO was 7.5% for Mr. Beré, Mr. Tehle, Ms. Guion and Ms. Lowe and 4.5% for Mr. Buley.

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As a result of the Merger, which constituted a change-in-control under the CDP/SERP Plan, all previously unvested SERP amounts vested on July 6, 2007. For newly eligible SERP participants after July 6, 2007, SERP amounts vest at the earlier of the participant's attainment of age 50 or the participant's being credited with 10 or more "years of service", or upon termination of employment due to death or "total and permanent disability" or upon a “change-in-control”, all as defined in the CDP/SERP Plan.

The amounts deferred or contributed to the CDP/SERP Plan are credited to a liability account, which is then invested at the participant's option in either an account that mirrors the performance of a fund or funds selected by the Compensation Committee or its delegate (the "Mutual Fund Options") or, prior to the Merger, in an account that mirrors the performance of our common stock (the "Common Stock Option").

A participant who ceases employment with at least 10 years of service or after reaching age 50 and whose CDP account balance or SERP account balance exceeds $25,000 may elect for that account balance to be paid in cash by (a) lump sum, (b) monthly installments over a 5, 10 or 15-year period or (c) a combination of lump sum and installments.  Otherwise, payment is made in a lump sum.  The vested amount will be payable at the time designated by the Plan upon the participant's termination of employment. A participant's CDP/SERP benefit normally is payable in the following February if employment ceases during the first 6 months of a calendar year or is payable in the following August if employment ceases during the last 6 months of a calendar year. However, participants may elect to receive an in-service lump sum distribution of vested amounts credited to the CDP account, provided that the date of distribution is no sooner than 5 years after the end of the year in which the amounts were deferred. In addition, a participant who is actively employed may request an "unforeseeable emergency hardship" in-service lump sum distribution of vested amounts credited to the participant’s CDP account.  Account balances deemed to be invested in the Mutual Fund Options are payable in cash and, prior to the Merger, account balances deemed to be invested in the Common Stock Option were payable in shares of Dollar General common stock and cash in lieu of fractional shares.
As a result of the Merger, the CDP/SERP Plan liabilities were fully funded into an irrevocable rabbi trust. All account balances deemed to be invested in the Common Stock Option were liquidated at a value of $22.00 per share and the proceeds were transferred to an existing investment option within the Plan.

Potential Payments upon Termination or Change-in-Control

The tables below reflect potential payments to each of our NEOs in various termination and change-in-control scenarios based on compensation, benefit, and equity levels in effect on February 1, 2008. The amounts shown assume that the termination or change-in-control event was effective as of February 1, 2008. For stock valuations, we have assumed that the price per share is the fair market value of our stock on February 1, 2008 ($5.00). The amounts shown are merely estimates. We cannot determine the actual amounts to be paid until the time of a change-in-control or the NEO's termination of employment.

139
Since Mr. Perdue resigned effective July 6, 2007, he did not have a right to any payments as of February 1, 2008.  We agreed to treat this year,” “—Whatresignation as one for "good reason" after a change-in control as defined in his employment agreement. Therefore, the table below presents Mr. Perdue’s actual payments in connection with his resignation.  The other forms of termination do not apply and are marked as “N/A”, or not applicable.

Payments Regardless of Manner of Termination

Regardless of the backgroundstermination scenario, the NEOs (other than Mr. Perdue) will receive earned but unpaid base salary through the employment termination date, along with any other benefits owed under any of our plans or agreements covering the NEO as governed by the terms of those plans or agreements. These benefits include vested amounts in the CDP/SERP Plan discussed above after the Nonqualified Deferred Compensation Table.

Upon Mr. Perdue's resignation on July 6, 2007, he received payment equal to his earned but unpaid base salary through his employment termination date, any accrued expenses and vacation pay. This payment was made in accordance with our normal payroll cycle and procedures. He also received timely payment or provision for any other accrued amounts or benefits required to be paid for which he was eligible under any of our plans, practices or agreements. These benefits include amounts payable pursuant to his SERP described above after the Pension Benefits Table and his CDP benefit discussed above in detail after the Nonqualified Deferred Compensation Table.

The tables below exclude any amounts payable to the NEO to the extent that they are available generally to all salaried employees and do not discriminate in favor of our executive officers.

Payments Upon Termination Due to Retirement

Mr. Perdue’s resignation on July 6, 2007 was treated under the terms of his SERP as a change-in-control termination and an early retirement.  Mr. Perdue's SERP benefit and the enhancement of that benefit as a result of his retirement are discussed above after the Pension Benefits Table.

Except for Mr. Perdue, retirement is not treated differently from any other voluntary termination under any of our plans or agreements for NEOs, except that all Rollover Options will remain exercisable for a period of 3 years following the NEO’s retirement unless the options expire earlier.  To be entitled to the extended exercise period for the Rollover Options, the retirement must occur on or after the NEO reaches the age of 65 or, with our express consent, prior to age 65 in accordance with any applicable early retirement policy then in effect or as may be approved by our Compensation Committee.

140
Payments Upon Termination Due to Death or Disability

In the event of death or disability, with respect to each NEO:

·  The 20% portion of the time-based options that would have become exercisable on the next anniversary date of the Merger if the NEO had remained employed with us through that date will become vested and exercisable.
·  The 20% portion of the performance-based options that would have become exercisable in respect of the fiscal year in which the NEO’s employment terminates if the NEO had remained employed with us through that date, will remain outstanding through the date we determine whether the applicable performance targets are met for that fiscal year.  If the performance targets are met for that fiscal year, that 20% portion of the performance-based options will become exercisable on such performance-vesting determination date. Otherwise, that 20% portion will be forfeited.
·  All unvested options will be forfeited, and vested options generally may be exercised (by the employee’s survivor in the case of death) for a period of 1 year (3 years in the case of Rollover Options) from the service termination date unless we purchase such vested options in total at the fair market value less the exercise price.

In the event of Mr. Dreiling’s death or disability, his restricted stock will vest and, in the event of disability, he will receive a prorated bonus payment based on our performance for the fiscal year, paid at the time bonuses are normally paid for that fiscal year.

In the event of death, the NEO's beneficiary will receive payments under our group life insurance program in an amount, up to a maximum of $3 million, equal to 2.5 times the NEO's annual base salary. We have excluded from the tables below amounts that the NEO would receive under our disability insurance program since the same benefit level is provided to all of our salaried employees. The NEO's CDP/SERP Plan benefit also becomes fully vested and is payable in a lump sum within 60 days after the end of the calendar quarter in which the NEO's death occurs.

In the event of disability, the NEO’s CDP/SERP Plan benefit becomes fully vested and is payable in a lump sum within 60 days after the end of the calendar quarter in which we receive notification of the determination of the NEO's disability by the Social Security Administration.

For purposes of the NEOs' employment agreements, "disability" means the that employee must be disabled for purposes of our long-term disability insurance plan. For purposes of the CDP/SERP Plan, “disability” means total and permanent disability for purposes of entitlement to Social Security disability benefits.

Payments Upon Voluntary Termination

The payments to be made to an NEO upon voluntary termination vary depending upon whether the NEO resigns with or without "good reason" or after our failure to offer to renew, extend or replace the NEO's employment agreement under certain circumstances. For purposes of each NEO, "good reason" generally means (as more fully described in the applicable employment agreement):

141
·  a reduction in base salary or target bonus level;
·  our material breach of the employment agreement;
·  
the failure of any successor to all or substantially all of our business and/or assets to assume and agree to perform the employment agreement;
·  our failure to continue any significant compensation plan or benefit without replacing it with a similar plan or a compensation equivalent (except for across-the-board changes or terminations similarly affecting at least 95% of all of our executives);
·  relocation of our principal executive offices outside of the middle-Tennessee area or basing the officer anywhere other than our principal executive offices; or
·  assignment of duties inconsistent, or the significant reduction of the title, powers and functions associated, with the NEO's position unless it results from our restructuring or realignment of duties and responsibilities for business reasons that leaves the NEO at the same compensation and officer level and with similar responsibility levels or results from the NEO's failure to meet performance criteria, all without the NEO's written consent.

No event will constitute "good reason" if we cure the claimed event within 30 days after receiving notice from the NEO.

Voluntary Termination with Good Reason or After Failure to Renew the Employment Agreement.    If the NEO (1) resigns with good reason, or (2) in the case of NEOs other than Mr. Dreiling, within 60 days of our failure to offer to renew, extend or replace the NEO's employment agreement before, at or within 60 days after the end of the agreement's term (unless we enter into a mutually acceptable severance arrangement or the resignation is a result of the NEO's voluntary retirement or termination), or (3) in the case of Mr. Dreiling, in the event we elect not to extend the term of his employment by providing 60 days prior written notice before the applicable extension date:

·  With respect to each NEO, all unvested option grants will be forfeited.  Unless we purchase the vested options in total at a per share price equal to the fair market value less the exercise price or they expire earlier, the NEO generally may exercise vested options for a period of 180 days (90 days in the case of Rollover Options) from the termination date. This extended exercisability period and purchase provision for options that are not Rollover Options applies only if the NEO resigns with good reason or is terminated without cause (as discussed below); otherwise, the NEO will forfeit those options.
·  Mr. Dreiling’s restricted stock will vest if he resigns with good reason or is terminated without cause (as discussed below) or upon a change-in-control (as discussed below); otherwise, he will forfeit the restricted stock.
142
·  The NEO will receive, subject to any 6-month delay in payment required for tax law compliance, the following upon the execution of a release of certain claims against us and our affiliates in the form attached to the NEO’s employment agreement:
√  Continuation of base salary for 24 months payable in accordance with our normal payroll cycle and procedures.
√  A lump sum payment equal to 2 times the NEO's target incentive bonus (in the case of Mr. Dreiling, target incentive bonus payable over 24 months) and 2 times our annual contribution for the NEO's participation in our medical, dental and vision benefits program (in the case of Mr. Dreiling, the medical, dental and vision benefit instead will be in the form of a continuation of these benefits).
√  Mr. Dreiling will receive a prorated bonus payment based on our performance for the fiscal year, paid at the time bonuses are normally paid for that fiscal year.
√  If Mr. Beré’s termination occurred prior to the payment of our fiscal 2007 bonus, he would receive a lump sum payment of his fiscal 2007 bonus, determined as if he had remained employed through the date necessary to receive the payment of the fiscal 2007 bonus.
√  Outplacement services, at our expense, for 1 year or, if earlier, until other employment is secured.

Subject to any applicable prohibition on acceleration of payment under Section 409A of the Internal Revenue Code, we may, at any time and in our sole discretion, elect to make a lump-sum payment of all these amounts (other than Mr. Dreiling’s medical, dental and vision benefit continuation), or all remaining amounts, due as a result of this year’s nominees,” “—Are theretype of termination.

The NEO will forfeit any familial relationshipsunpaid severance amounts upon a material breach of any continuing obligation under the employment agreement or the release, which include:

·  The NEO must maintain the confidentiality of, and refrain from disclosing or using, our (a) trade secrets for any period of time as the information remains a trade secret under applicable law and (b) confidential information for a period of 2 years following the employment termination date.
·  For 2 years after the employment termination date, the NEO may not accept or work in a “competitive position” within any state in which we maintain stores at the time of his termination date or any state in which we have specific plans to open stores within 6 months of that date.  For this purpose, “competitive position” means any employment, consulting, advisory, directorship, agency, promotional or independent contractor arrangement between the NEO and any person engaged wholly or in material part in the business in which we are engaged, including but not limited to Wal-Mart, K-Mart, Walgreen’s, Family Dollar Stores, Fred’s, the 99 Cents Stores and Dollar Tree Stores (and, with respect to Mr. Dreiling, Costco, BJ’s Wholesale Club, Casey’s General Stores, and The Pantry, Inc.), or any person then planning to enter
143
the deep discount consumable basics retail business, if the NEO is required to perform services for that person which are substantially similar to those he or she provided or directed at any time while employed by us.
·  For 2 years after the employment termination date, the NEO may not actively recruit or induce any of our exempt employees to cease employment with us.
·  
For 2 years after the employment termination date, the NEO may not solicit or communicate with any person who has a business relationship with us and with whom the NEO had contact while employed by us, if that contact would likely interfere with our business relationships or result in an unfair competitive advantage over us.
·  The NEO may not engage in any communications to persons outside Dollar General which disparages Dollar General or interferes with our existing or prospective business relationships.

Voluntary Termination without Good Reason.    If the NEO resigns without good reason, he or she will forfeit all unvested equity grants and all vested options granted in connection with the Merger.  Rollover Options generally may be exercised for 3 months from the termination date unless they expire earlier or unless we repurchase them at a per share price equal to the lesser of (x) fair market value minus the exercise price and (y) the sum of base price and applicable percentage minus the exercise price.

Payments Upon Involuntary Termination

The payments to be made to an NEO upon involuntary termination vary depending upon whether termination is for or without "cause". For purposes of each NEO, "cause" generally means (as more fully described in the applicable employment agreement):

·  Attendance at work in a state of intoxication or in possession of any prohibited drug or substance which would amount to a criminal offense;
·  Assault or other act of violence;
·  Any act involving fraud or dishonesty;
·  Any material breach of any SEC or other law or regulation or any Dollar General policy governing securities trading or inappropriate disclosure or "tipping";
·  Any activity or public statement, other than as required by law, that prejudices Dollar General or reduces our good name and standing or would bring Dollar General into public contempt or ridicule; or
·  
Conviction of, or plea of guilty or nolo contendre to, any felony whatsoever or any misdemeanor that would preclude employment under our hiring policy

144
For purposes of determining treatment of an NEO’s Rollover Options, “cause” means, to the extent that our Compensation Committee determines that it is directly and materially harmful to our business or reputation:

·  A felony conviction or the failure to contest prosecution of a felony; or
·  Willful misconduct or dishonesty.

Involuntary Termination for Cause.    If the NEO is involuntarily terminated for cause, he or she will forfeit all unvested equity grants, as well as all vested but unexercised options. However, we may repurchase all Rollover Options at a per share price equal to the lesser of (x) base price over the exercise price and (y) fair market value over the exercise price.

Involuntary Termination without Cause.    If the NEO is involuntarily terminated without cause, the NEO's equity grants will be treated as described under "Voluntary Termination with Good Reason or After Failure to Renew the Employment Agreement" above. In addition, each NEO will receive the applicable payments and benefits listed under "Voluntary Termination with Good Reason or After Failure to Renew the Employment Agreement" above.

Payments After a Change-in-Control

Upon a change-in-control, regardless of whether the NEO’s employment terminates:

·  All unvested time-based options will become fully vested and exercisable, and all unvested performance-based options will become fully vested and exercisable subject to KKR’s achievement of certain return-based performance targets.
·  All CDP/SERP Plan benefits will become fully vested.

If the NEO, other than Messrs. Perdue, Dreiling or Beré, is involuntarily terminated without cause or resigns for good reason within 2 years of a change-in-control, he or she will receive, upon execution of a release of certain claims against us and our affiliates in the form attached to the NEO's employment agreement, a lump sum payment equal to 2 times the NEO's annual base salary plus 2 times the NEO's target incentive bonus, each as in effect immediately prior to the change-in-control, plus 2 times our annual contribution for the NEO's participation in our medical, dental and vision benefits program. The NEO also will receive outplacement services, at our expense, for 1 year or, if earlier, until other employment is secured.

For Messrs. Dreiling and Beré, an involuntary termination following a change-in-control event will be treated in the same manner as a “Voluntary Termination with Good Reason or After Failure to Renew the Employment Agreement” as described above.

If any payments or benefits in connection with a change-in-control would be subject to the excise tax under federal income tax rules, we will pay an additional amount to the NEO to cover the excise tax and any resulting taxes. However, if after receiving this payment the NEO's
145
after-tax benefit is not at least $25,000 more than it would be without this payment, then it will not be made and the severance and other benefits due will be reduced so that an excise tax is not incurred.

For purposes of the CDP/SERP Plan and the employment agreements of Mr. Tehle, Mr. Buley, Ms. Guion and Ms. Lowe, a change-in-control generally is deemed to occur (as more fully described in those documents):

·  if any person (other than Dollar General or any of our employee benefit plans) acquires 35% or more of our voting securities (other than as a result of our issuance of securities in the ordinary course of business);
·  for purposes of our CDP/SERP Plan, if a majority of our Board members at the beginning of any consecutive 2-year period are replaced within that period without the approval of at least 2/3 of our Board members who served as directors at the beginning of the period;
·  for purposes of the specified employment agreements, if a majority of our Board members as of the effective date of the applicable NEO’s employment agreement are replaced without the approval of at least 75% of our Board members who served as directors on that effective date or are replaced, even with this 75% approval, by persons who initially assumed office as a result of an actual or threatened election contest or other actual or threatened proxy solicitation other than by our Board; or
·  upon the consummation of a merger, other business combination or sale of assets of, or cash tender or exchange offer or contested election with respect to, Dollar General if less than 65% (less than a majority, for purposes of our CDP/SERP Plan) of our voting securities are held after the transaction in the aggregate by holders of our securities immediately prior to the transaction.

For purposes of the treatment of equity discussed above, a change-in-control generally means (as more fully described in the Management Stockholder’s Agreement between us and the NEOs), in one or a series of related transactions:

·  the sale of all or substantially all of the assets of Buck Holdings, L.P. or us  and our subsidiaries to any person (or group of persons acting in concert), other than to (x) investment funds affiliated with KKR or its affiliates or (y) any employee benefit plan (or trust forming a part thereof) maintained by us, KKR or our respective affiliates or other person of which a majority of its voting power or other equity securities is owned, directly or indirectly, by us, KKR or our respective affiliates; or
·  a merger, recapitalization or other sale by us, KKR (indirectly) or any of our respective affiliates, to a person (or group of persons acting in concert) of our common stock or our other voting securities that results in more than 50% of our common stock or our other voting securities (or any resulting company after a merger) being held, directly or indirectly, by a person (or group of persons acting in
146
concert) that is not controlled by (x) KKR or its affiliates or (y) an employee benefit plan (or trust forming a part thereof) maintained us, KKR or our respective affiliates or other person of which a majority of its voting power or other equity securities is owned, directly or indirectly, by us, KKR or our respective affiliates; in any event, which results in us, KKR and its affiliates or such employee benefit plan ceasing to hold the ability to elect (or cause to be elected) a majority of the members of our board of directors.

Because Mr. Perdue’s resignation occurred within 2 years of the Merger (which constituted a change-in-control under his employment agreement and the plan under which his equity awards were granted), he received the following benefits under his employment agreement and other plans in which he participated:

·  A lump sum payment equal to 3 times the sum of his annual base salary in effect on his employment termination date and his target annual incentive bonus for fiscal 2007 and reimbursement of excise taxes related to this payment.
·  A lump sum payment equal to 36 months of the cost of COBRA benefits which was grossed-up to the extent taxable to him.
·  A lump sum payment for unused vacation in fiscal 2007.
·  We credited Mr. Perdue with 6 additional years of credited service under his SERP.  In determining his base salary and bonus for these additional years for purposes of calculating his final average compensation, we used his base salary on his termination date and his target annual bonus for fiscal 2007.  We also credited interest to his SERP benefit for the period of time payment was delayed to him due to Section 409A of the Code.  We reimbursed Mr. Perdue for excise taxes related to the SERP payments.
·  All unvested equity grants automatically vested without regard to Mr. Perdue’s employment termination, and all CDP/SERP Plan benefits became fully vested.

Mr. Perdue is subject to the following business protection provisions:

·  He must maintain the confidentiality of our (a) trade secrets as long as the information remains a trade secret and (b) confidential information for 2 years after his service termination date.
·  For 2 years after his service termination date, Mr. Perdue may not actively recruit or induce certain of our employees to cease employment with us or engage that person's services in any business substantially similar to or competitive with that in which we were engaged during Mr. Perdue's employment.
·  For 2 years after his service termination date, Mr. Perdue may not accept or work in a "competitive position" within any state in which we maintain stores at the time of his
147
termination date or any state in which we have specific plans to open stores within 6 months of that date. For this purpose, "competitive position" means any employment, consulting, advisory, directorship, agency, promotional or independent contractor arrangement between Mr. Perdue and any person engaged wholly or in material part in the business in which we are engaged, including but not limited to Wal-Mart, Target, K-Mart, Walgreen's, Rite-Aid, CVS, Family Dollar Stores, Fred's, the 99 Cents Stores and Dollar Tree Stores, or any person then planning to enter the deep discount consumable basics retail business, if Mr. Perdue is required to perform services for that person which are substantially similar to those he provided or directed at any time while employed by us.
·  
Mr. Perdue may not engage in any communications which disparage Dollar General or interfere with our existing or prospective business relationships.

148
Potential Payments to Named Executive Officers Upon Occurrence of Various Termination Events
As of February 1, 2008

Name
Voluntary Without
Good
Reason
Involuntary
Without Cause
or Voluntary
With Good
Reason
Involuntary
With Cause
Death
Disability
Retirement
Change-in-Control(1)
        
Richard W. Dreiling       
Vested Options Prior To Event$0$0$0$0$0$0$0
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the Event$0$4,450,000$0$4,450,000$4,450,000$0$4,450,000
SERP Benefits Prior to the Event$0$0$0$0$0$0$0
SERP Benefits Due to the Event$0$0$0$0$0$0$0
Deferred Comp Plan Balance Prior to and After the Event$0$0$0$0$0$0$0
Cash Severance$0$4,041,760$0$0$41,760$0$4,041,760
Health & Welfare Continuation Payment$0$10,305$0$0$0$0$10,305
Health & Welfare Continuation Gross-Up Payment To IRS$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Payment to IRSN/AN/AN/AN/AN/AN/A$0
Life Insurance ProceedsN/AN/AN/A$2,500,000N/AN/AN/A
Total$0$8,517,065$0$6,950,000$4,541,760$0$8,567,065
        
David A. Perdue      As of July 6, 2007
Vested Options Prior To EventN/AN/AN/AN/AN/AN/A$9,320,000
Vesting of Options Due to the EventN/A N/A N/A N/A N/A N/A$235,223
Vesting of Restricted Stock & RSUs Due to the EventN/A N/A N/A N/A N/A N/A$11,669,109
SERP Benefits Prior to the Event N/A N/A N/A N/A N/A N/A$0
SERP Benefits Due to the Event N/A N/A N/A N/A N/A N/A$6,208,966
Deferred Comp Plan Balance Prior to and After the Event N/A N/A N/A N/A N/A N/A$415,519
Cash Severance N/A N/A N/A N/A N/A N/A$6,798,000
Health & Welfare Continuation Payment N/A N/A N/A N/A N/A N/A$24,892
Health & Welfare Continuation Gross-Up Payment To IRS N/A N/A N/A N/A N/A N/A$14,277
Section 280(G) Excise Tax & Gross-Up Payment to IRS N/A N/A N/A N/A N/A N/A$5,279,760
Life Insurance Proceeds N/A N/A N/A N/A N/A N/AN/A
Total N/A N/A N/A N/A N/A N/A$39,965,747
149
Name
Voluntary Without
Good
Reason
Involuntary
Without Cause
or Voluntary
With Good
Reason
Involuntary
With Cause
Death
Disability
Retirement
Change-in-Control(1)
David L. Beré       
Vested Options Prior To Event$182,671$182,671$182,671$182,671$182,671$182,671$182,671
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the EventN/AN/AN/AN/AN/AN/AN/A
SERP Benefits Prior to the Event$54,280$54,280$54,280$54,280$54,280$54,280$54,280
SERP Benefits Due to the Event$0$0$0$0$0$0$0
Deferred Comp Plan Balance Prior to and After the Event$73,801$73,801$73,801$73,801$73,801$73,801$73,801
Cash Severance$0$2,451,400$0$0$0$0$2,451,400
Health & Welfare Continuation Payment$0$16,518$0$0$0$0$16,518
Outplacement$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Due to the EventN/AN/AN/AN/AN/AN/A$0
Life Insurance ProceedsN/AN/AN/A$1,802,500N/AN/AN/A
Total$310,752$2,793,670$310,752$2,113,252$310,752$310,752$2,793,670
        
David M. Tehle       
Vested Options Prior To Event$720,027$720,027$720,027$720,027$720,027$720,027$720,027
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the EventN/AN/AN/AN/AN/AN/AN/A
SERP Benefits Prior to the Event$159,579$159,579$159,579$159,579$159,579$159,579$159,579
SERP Benefits Due to the Event$0$0$0$0$0$0$0
Deferred Comp Plan Balance Prior to and After the Event$173,009$173,009$173,009$173,009$173,009$173,009$173,009
Cash Severance$0$1,971,420$0$0$0$0$1,971,420
Health & Welfare Continuation Payment$0$16,518$0$0$0$0$16,518
Outplacement$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Due to the Event
N/A
N/A
N/A
N/A
N/A
N/A
$0
Life Insurance Proceeds
N/A
N/A
N/A
$1,492,500
N/A
N/A
N/A
Total$1,052,615$3,055,553$1,052,615$2,545,115$1,052,615$1,052,615$3,055,533
150
Name
Voluntary Without
Good
Reason
Involuntary
Without Cause
or Voluntary
With Good
Reason
Involuntary
With Cause
Death
Disability
Retirement
Change-in-Control(1)
        
Beryl J. Buley       
Vested Options Prior To Event$754,864$754,864$754,864$754,864$754,864$754,864$754,864
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the EventN/AN/AN/AN/AN/AN/AN/A
SERP Benefits Prior to the Event$71,024$71,024$71,024$71,024$71,024$71,024$71,024
SERP Benefits Due to the Event$0$0$0$0$0$0$34,285
Deferred Comp Plan Balance Prior to and After the Event$122,312$122,312$122,312$122,312$122,312$122,312$122,312
Cash Severance$0$1,954,425$0$0$0$0$1,954,425
Health & Welfare Continuation Payment$0$16,518$0$0$0$0$16,518
Outplacement$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Due to the Event
N/A
N/A
N/A
N/A
N/A
N/A
$0
Life Insurance Proceeds
N/A
N/A
N/A
$1,480,625
N/A
N/A
N/A
Total$948,200$2,934,143$948,200$2,428,825$948,200$948,200$2,968,428
        
Kathleen R. Guion       
Vested Options Prior To Event$497,948$497,948$497,948$497,948$497,948$497,948$497,948
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the EventN/AN/AN/AN/AN/AN/AN/A
SERP Benefits Prior to the Event$132,742$132,742$132,742$132,742$132,742$132,742$132,742
SERP Benefits Due to the Event$0$0$0$0$0$0$0
Deferred Comp Plan Balance Prior to and After the Event$163,865$163,865$163,865$163,865$163,865$163,865$163,865
Cash Severance$0$1,699,500$0$0$0$0$1,699,500
Health & Welfare Continuation Payment$0$10,305$0$0$0$0$10,305
Outplacement$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Due to the Event
N/A
N/A
N/A
N/A
N/A
N/A
$0
Life Insurance Proceeds
N/A
N/A
N/A
$1,287,500
N/A
N/A
N/A
Total$794,555$2,776,276$794,555$2,338,971$794,555$794,555$2,776,276
151
Name
Voluntary Without
Good
Reason
Involuntary
Without Cause
or Voluntary
With Good
Reason
Involuntary
With Cause
Death
Disability
Retirement
Change-in-Control(1)
        
Challis M. Lowe       
Vested Options Prior To Event$396,376$396,376$396,376$396,376$396,376$396,376$396,376
Vesting of Options Due to the Event$0$0$0$0$0$0$0
Vesting of Restricted Stock & RSUs Due to the EventN/AN/AN/AN/AN/AN/AN/A
SERP Benefits Prior to the Event$82,663$82,663$82,663$82,663$82,663$82,663$82,663
SERP Benefits Due to the Event$0$0$0$0$0$0$0
Deferred Comp Plan Balance Prior to and After the Event$93,401$93,401$93,401$93,401$93,401$93,401$93,401
Cash Severance$0$1,393,590$0$0$0$0$1,393,590
Health & Welfare Continuation Payment$0$10,305$0$0$0$0$10,305
Outplacement$0$15,000$0$0$0$0$15,000
Section 280(G) Excise Tax & Gross-Up Due to the Event
N/A
N/A
N/A
N/A
N/A
N/A
$0
Life Insurance Proceeds
N/A
N/A
N/A
$1,055,750
N/A
N/A
N/A
Total$572,440$1,991,335$572,440$1,628,190$572,440$572,440$1,991,335
(1)All payments in this column require termination to be paid except options (prior to and due to the event) and restricted stock and RSUs.

Compensation Committee Interlocks and Insider Participation

Each of Dennis Bottorff, Reginald Dickson and Gordon Gee was a member of our Compensation Committee during fiscal 2007 prior to the Merger. We did not have a Compensation Committee or another Board committee that performed equivalent functions for the remaining portion of fiscal 2007. None of these persons was at any time during fiscal 2007 an officer or employee of Dollar General or any of our subsidiaries, or an officer of Dollar General or any of our subsidiaries at any time prior to fiscal 2007.  None of these persons had any relationship with Dollar General or any of our subsidiaries requiring disclosure under any paragraph of Item 404 of Regulation S-K during the nominees,” “—What areperiod that these persons served on the standing committeesCommittee. As a Board member, David L. Beré was entitled to participate in Board deliberations regarding executive compensation (other than his own) that occurred during the portion of fiscal 2007 after the Merger.  None of our executive officers served as a member of a compensation committee or as a director of any entity of which any of our directors served as an executive officer during fiscal 2007.

(b)           Director Compensation. The following tables and text discuss the compensation of persons who served as a member of our Board of Directors during all or part of fiscal 2007 other than Richard W. Dreiling, David L. Beré, and David A. Perdue, each of whose compensation is discussed under “Executive Compensation” above and who was not separately compensated for Board service.
152
Fiscal 2007 Director Compensation

Name(1)
Fees
Earned
or
Paid in
Cash
($)(2)
Stock Awards
($)(3)(4)(5)
Option
Awards
($)(5)(6)
Non-Equity
Incentive Plan Compensation
($)
Change in
Pension Value
and Nonqualified
Deferred
Compensation
Earnings
($)
All Other
Compensation
($)(7)
Total
($)
Raj Agrawal23,333----     -23,333
Michael M. Calbert23,333----     -23,333
Adrian Jones23,333----     -23,333
Dean B. Nelson23,333----     -23,333
Sumit Rajpal-----     --
Dennis C. Bottorff38,625124,353---     -162,978
Barbara L. Bowles33,625124,353---     -157,978
Reginald D. Dickson22,500124,353---     -146,853
E. Gordon Gee23,750124,353---     -148,103
Barbara M. Knuckles22,500124,353---     -146,853
J. Neal Purcell26,750124,353---     -151,103
James D. Robbins35,500124,353---     -159,853
Richard E. Thornburgh23,125129,628---     -152,753
David M. Wilds36,250124,353---     -160,603
(1)  Pursuant to the terms of the Merger Agreement, on July 6, 2007 each of Messrs. Agrawal, Calbert, Jones and Rajpal joined our Board and each of Messrs. Bottorff, Dickson, Gee, Purcell, Robbins, Thornburgh and Wilds and Mss. Bowles and Knuckles ceased to serve on our Board.  Mr. Rajpal resigned from our Board effective September 19, 2007 and received no compensation for his Board service. Mr. Nelson was appointed to our Board on July 20, 2007.
(2)  Each of Messrs. Purcell and Thornburgh deferred payments of all his fiscal 2007 director fees pursuant to the terms of our Deferred Compensation Plan for Non-Employee Directors.
(3)  These amounts represent restricted stock units (“RSUs”) granted during fiscal 2007 and prior fiscal years under the 1998 Stock Incentive Plan. The amounts equal the compensation cost recognized during fiscal 2007 for financial statement purposes in accordance with Statement of Financial Accounting Standards 123R (“SFAS 123R”), except forfeitures related to service-based vesting conditions were disregarded. Additional information related to the calculation of the compensation cost is set forth in Note 9 of the annual consolidated financial statements included in this report. As a result of the Merger, all outstanding RSU awards vested and, therefore, all compensation expense associated with such awards was recognized in fiscal 2007 in accordance with SFAS 123(R).
153
(4)  Each person who served as a non-employee director on June 5, 2007 received 4,600 RSUs during fiscal 2007 under the automatic grant provisions of the 1998 Stock Incentive Plan. The grant date fair value computed in accordance with SFAS 123R for those RSUs was $99,360.
(5)  No director listed in this table had stock awards or option awards outstanding at February 1, 2008.  As a result of the Merger, each director who held RSUs received $22.00 in cash, without interest and less applicable withholding taxes, and each director listed in this table who held options received an amount in cash, without interest and less applicable withholding taxes, equal to $22.00 less the exercise price of each in-the-money option.  No director forfeited any RSUs or options during fiscal 2007.
(6)  No compensation expense was recorded in fiscal 2007 for options held by directors because no options were granted to these directors during fiscal 2007 and all options awarded in prior years had previously vested.
(7)  Perquisites and personal benefits, if any, totaled less than $10,000 per director.

Narrative to Fiscal 2007 Director Compensation Table

The following discussion of fiscal 2007 director compensation encompasses compensation of the Board”director group who served before the Merger, as well as the director group who served after the Merger.  Each group can be identified by reference to the 1st footnote to the Director Compensation Table above.

Prior to the Merger, we used a combination of cash and “—Can shareholders nominatestock-based incentive compensation to attract and retain qualified Board candidates. Subsequent to the Merger, our compensation structure includes only cash. For both periods, we did not compensate for Board service any director who was also a Dollar General employee.

Cash Compensation.    Prior to the Merger, we paid non-employee directors” two quarterly installments of the annual cash retainer and the per meeting attendance fees set forth below. We also paid two quarterly installments of the following additional annual retainers to each committee chairman and to the Presiding Director.

Annual
Cash
Retainer
Other Annual Retainers
In-Person Meeting Attendance Fees
Telephonic
Meeting
Attendance
Fee
Audit
Committee
Chairman
Other
Committee
Chairman
Presiding
Director
Board
Meeting
Audit
Committee
Meeting
Other
Committee
Meeting
        
$35,000$20,000$10,000$15,000$1,250$1,500$1,250$625

To assist in understanding the fees actually earned by each non-employee director prior to the Merger, the following chart shows information regarding committee service and meeting attendance of each pre-Merger director.

154
Name
#  of
Committees
Chaired
Presiding
Director
In-Person Meetings Attended
Telephonic Meetings
Attended
(Board/Committee)
Board
Audit
Committee
Other
Committee
Meeting
Mr. Bottorff2 3223
Ms. Bowles1 3215
Mr. Dickson- 2-12
Mr. Gee- 2-22
Ms. Knuckles- 3-1-
Mr. Purcell- 32-4
Mr. Robbins1 (Audit) 32-2
Mr. Thornburgh- 3--3
Mr. Wilds1X3-12

We reimbursed directors for certain fees and expenses incurred in connection with continuing education seminars and travel expenses related to Dollar General meeting attendance or requested appearances. We allowed directors (and spouses for no additional incremental cost) to travel on the Dollar General airplane for those purposes.

Subsequent to the Merger, cash fees payable to our non-employee directors consist solely of a $40,000 annual retainer fee, payable in quarterly installments.  Directors also are entitled to receive the expense reimbursements discussed above. Because the post-Merger directors served on our Board for only a portion of fiscal 2007, those directors received one-third of the second quarter retainer fee along with two full quarterly installments of the retainer fee.
Equity Compensation.    Each non-employee director who served on our Board prior to the Merger received 4,600 RSUs in fiscal 2007 pursuant to the automatic grant provisions of our 1998 Stock Incentive Plan. Each RSU represented the right to receive one share of Dollar General common stock.

In accordance with the terms of our 1998 Stock Incentive Plan, we credited dividend equivalents to the director’s RSU account as additional RSUs whenever we declared a cash dividend on our common stock. Directors did not have voting rights with respect to RSUs until the underlying shares of common stock were issued. RSUs generally vested one year after the grant date if the director was still serving on our Board. We did not, however, make payment on vested RSUs until the director ceased to be a member of our Board. Under the terms of the 1998 Stock Incentive Plan, vesting of the RSUs accelerated upon termination of a director’s Board service due to a variety of reasons, including upon a change-in-control of Dollar General. Because the Merger constituted a change-in-control under our 1998 Stock Incentive Plan, all outstanding RSUs vested and were settled in cash in the Company’s definitive Proxy StatementMerger.

Prior to be filedJune 2, 2003, we also annually granted non-qualified stock options to our non-employee directors under certain stock incentive plans. All of those options have since fully vested and, pursuant to the Merger, were settled in cash (if in-the-money) or cancelled.
Immediately following the Merger, we ceased making equity grants to our non-employee directors as part of director compensation.
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Stock Ownership Guidelines.    In fiscal 2007, as a publicly held company, we required each non-employee director to own at least 13,000 shares of our common stock within three years of joining our Board. RSUs and stock options counted towards that requirement. Because we are now a privately held company, we no longer maintain those stock ownership guidelines.

Deferred Compensation Plan for Non-Employee Directors.    Prior to the Merger, non-employee directors could defer up to 100% of eligible compensation paid by us to them pursuant to a voluntary nonqualified Deferred Compensation Plan for Non-Employee Directors. Eligible compensation included the annual retainer(s), meeting fees, and any per diem compensation for special assignments earned by a director for service to the Board. We credited the deferred compensation to a liability account, which was then invested at the director’s option in one or more accounts that mirrored the performance of (a) funds selected by our Compensation Committee or its 2005 Annual Meeting of Shareholdersdelegate or (b) our common stock.
All deferred compensation pursuant to be held on May 24, 2005 (the “2005 Proxy Statement”), which information under such captions is incorporated herein by reference. Information required b y this Item 10 regarding compliance with Section 16(a)the Deferred Compensation Plan for Non-Employee Directors was immediately due and payable as a result of the Securities Exchange ActMerger, which constituted a change-in-control of 1934 is containedDollar General under the caption “Section 16(a) Beneficial Ownership Reporting Compliance” interms of that Plan.
Our Board elected to terminate the 2005 Proxy Statement, which information under such caption is incorporated herein by reference. Information required by this Item 10 regarding the Company’s executive officers is contained in



Deferred Compensation Plan for Non-Employee Directors effective as of December 31, 2007.

ITEM 12.SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Part I, Item 4A of this Form 10-K, which information under such caption is incorporated herein by reference.

ITEM 11.

EXECUTIVE COMPENSATION

The information required by this Item 11 regarding director and executive compensation is contained under the captions “Proposal 1: Election of Directors–How are directors compensated” and “Executive Compensation” in the 2005 Proxy Statement, which information under such captions is incorporated herein by reference.

ITEM 12.

SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS


(a)

Equity Compensation Plan Information.The following table sets forth information about securities authorized for issuance under the Company’sour equity compensation plans (including individual compensation arrangements) as of January 28, 2005:

Plan category

Number of securities to be issued upon exercise of outstanding options, warrants and rights (a)

Weighted-average exercise price of outstanding options, warrants and rights (b)

Number of securities remaining available for future issuance under equity compensation plans (excluding securities reflected in column (a)) (c)

    

Equity compensation plans approved by security holders(1)

22,183,881

$17.53

8,311,251

 


 


Equity compensation plans not approved by security holders(2)(3)

675,470

$12.68

0

 


 


Total(1)(2)

22,859,351

$17.42

8,311,251

  


 

February 1, 2008:


(1)

Column (a) represents shares issuable upon exercise of outstanding option

Plan category
 
Number of
securities to be
issued upon exercise
of outstanding
options, warrants
and rights
(a)
  
Weighted-average
exercise price of
outstanding options,
warrants and rights
(b)
  
Number of
securities remaining
available for future
issuance under
equity compensation
plans (excluding
securities reflected
in column (a))
(c)
 
          
Equity compensation plans approved by security holders(1)
  20,869,102  $4.68   3,470,200 
             
Equity compensation plans not approved by security holders  --   --   -- 
             
Total(1)
  20,869,102  $4.68   3,470,200 
(1)Column (a) consists of shares issuable upon exercise of outstanding options under the 2007 Stock Incentive Plan and restricted stock unit grants under the 1998 Stock Incentive Plan (as Amended and Restated effective June 2, 2003, as Modified through August 26, 2003) (the “1998 Stock Incentive Plan”), 1995 Employee Stock Incentive Plan, 1993 Employee Stock Incentive Plan, 1989 Employee Stock Incentive Plan, and 1995 Outside Directors Stock Option Plan.  Restricted stock units are settled for shares of the Company’s common stock on a one-for-one basis.  Accordingly, such units have been excluded for purposes of computing the weighted-average exercise price in column (b). Column (c) consists of 8,311,251 shares reserved for issuance pursuant to the 2007 Stock Incentive Plan, whether in the form of stock or restricted stock or upon the exercise of an option or right.
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(b) Security Ownership of Certain Beneficial Owners and Management.  The following table shows the amount of our common stock beneficially owned, as of March 17, 2008, by those who were known by us to beneficially own more than 5% of our common stock, by our directors and named executive officers individually and by our directors and all of our executive officers as a group, all calculated in accordance with Rule 13d-3 of the Exchange Act under which a person generally is deemed to beneficially own a security if he has or shares voting or investment power over the security or if he has the right to acquire beneficial ownership within 60 days. Unless otherwise noted, these persons may be contacted at our executive offices and, to our knowledge, have sole voting and investment power over the shares listed. Percentage computations are based on 555,481,897 shares of our stock outstanding as of March 17, 2008.

Name of Beneficial Owner 
Amount and Nature of
Beneficial Ownership
  
Percent of
Class
 
       
KKR(1)(2)
  288,399,897   51.92%
The Goldman Sachs Group, Inc.(2)(3)
  119,999,943   21.60%
Citigroup Capital Partners(2)(4)
  39,999,981   7.20%
CPP Investment Board (USRE II) Inc.(2)(5)
  40,000,000   7.20%
Wellington Management Company, LLP(2)(6)
  40,000,000   7.20%
Michael M. Calbert(7)
  288,399,897   51.92%
Raj Agrawal(7)
  288,399,897   51.92%
Adrian Jones(8)
  119,999,943   21.60%
Dean B. Nelson  --   -- 
Richard W. Dreiling(9)(10)
  1,140,000   * 
David L. Beré(10)
  687,177   * 
David A. Perdue  --   -- 
David M. Tehle(10)
  318,001   * 
Beryl J. Buley(10)
  288,797   * 
Kathleen R. Guion(10)
  250,698   * 
Challis M. Lowe(10)
  199,255   * 
All current directors and executive officers as a group (13 persons)(7)(8)(10)  411,722,995   73.86%
*Denotes less than 1% of class.
(1)Includes the following number of shares held by the following entities: KKR 2006 Fund L.P. (203,464,902.69); KKR PEI Investments, L.P. (49,999,976.09); KKR Partners III, L.P. (4,724,997.74) and Buck Holdings Co-Invest, LP (30,210,020). Buck Holdings Co-Invest GP, LLC, which is controlled by KKR 2006 GP LLC, is the general partner of Buck Holdings Co-Invest, LP, and has the right to manage the affairs of such entity, and thus is deemed to be the beneficial owner of the securities owned by such entity. However, it does not have any economic or other dispositive rights with respect to such securities and thus disclaims beneficial ownership with respect thereto. The address of KKR is c/o Kohlberg Kravis Roberts & Co. L.P., 2800 Sand Hill Road, Suite 200, Menlo Park, CA 94025.
(2)Indirectly held through Buck Holdings, L.P.
(3)Includes the following number of shares held by the following entities: GS Capital Partners VI Parallel, L.P. (12,194,145.412); GS Capital Partners VI GmbH & Co. KG (1,576,025.208); GS Capital Partners VI Fund, L.P. (44,345,094.704); GS Capital Partners VI Offshore Fund, L.P. (36,884,689.242); Goldman Sachs DGC Investors, L.P. (6,692,778.104) and Goldman Sachs DGC Investors Offshore Holdings, L.P. (13,307,212.332) (collectively, the "GS Funds"); and GSUIG, L.L.C. (4,999,997.608).  Affiliates of The Goldman Sachs Group, Inc. are the general partner, managing general partner or
157
investment manager of each of the GS Funds, and each of the GS Funds shares voting and investment power with certain of its respective affiliates. Each of the GS Funds is affiliated with or managed by Goldman, Sachs & Co., a wholly owned subsidiary of The Goldman Sachs Group, Inc. Each of The Goldman Sachs Group, Inc. and Goldman, Sachs & Co. disclaims beneficial ownership of the shares owned by each of the GS Funds, except to the extent of their pecuniary interest therein, if any. The address of each of the GS Funds and GSUIG, L.L.C. is c/o Goldman, Sachs & Co., 85 Broad Street 10th floor, New York, New York 10004.
(4)Includes the following number of shares held by the following entities: Citigroup Capital Partners II Employee Master Fund, L.P. (8,598,705.956); Citigroup Capital Partners II 2007 Citigroup Investment, L.P. (7,655,121.066); Citigroup Capital Partners II Onshore, L.P. (3,881,957.266); Citigroup Capital Partners II Cayman Holdings, L.P. (4,864,203.756) and CPE Co-Investment (Dollar General) LLC (14,999,992.826). The address of Citigroup Capital Partners is c/o Citigroup Inc., 388 Greenwich Street, 32nd Floor, New York, New York 10013.
(5)The Address of CPP Investment Board (USRE II) Inc. is c/o Canada Pension Plan Investment Board, One Queen Street East, Suite 2600, Toronto, ON M5C 2W5, Canada.
(6)Includes the following number of shares held by the following entities: Buck Co-Investor I, LLC (17,933,540); Buck Co-Investor II, LLC (827,780); Buck Co-Investor III, LLC (7,365,100); Buck Co-Investor IV, LLC (5,822,740); Buck Co-Investor V, LLC (2,201,580); Buck Co-Investor VI, LLC (499,900), Buck Co-Investor VII, LLC (2,252,700), Buck Co-Investor VIII, LLC (445,820), Buck Co-Investor IX, LLC (281,560), Buck Co-Investor X, LLC (609,280), Buck Co-Investor XI, LLC (1,160,000), Buck Co-Investor XII, LLC (476,000), and Buck Co-Investor XIII, LLC (124,000). The address of Wellington Management Company, LLP is 75 State Street, Boston, Massachusetts 02109.
(7)Messrs. Calbert and Agrawal are our directors and are executives of KKR, and as such may be deemed to share beneficial ownership of any shares beneficially owned by KKR, but disclaim such beneficial ownership except to the extent of their pecuniary interest in those shares.
(8)Mr. Jones is our director and an executive of GS Capital Partners, but disclaims any beneficial ownership except to the extent of his pecuniary interest in those shares.
(9)Represents shares of restricted common stock that were unvested as of March 17, 2008 over which the named holder does not have investment power until the vesting of those shares.
(10)Includes the following number of shares subject to options either currently exercisable or exercisable within 60 days of March 17, 2008 over which the person will not have voting or investment power until the options are exercised: Mr. Dreiling (250,000); Mr. Beré (273,712); Mr. Tehle (302,007); Mr. Buley (288,797); Ms. Guion (220,286); Ms. Lowe (173,200); and all current directors and executive officers as a group (1,930,628). The shares described in this note are considered outstanding for the purpose of computing the percentage of outstanding stock owned by each named person and by the group, but not for the purpose of computing the percentage ownership of any other person.
ITEM 13.CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

(a)           Director Independence (post-Merger).  The members of our Board of Directors are Michael M. Calbert, Raj Agrawal, Adrian Jones, Dean B. Nelson and Richard W. Dreiling. Messrs. Calbert and Agrawal serve on our Audit Committee and Messrs. Calbert, Agrawal and Jones serve on our Compensation Committee.  Sumit Rajpal served as a member of our Board for a brief period following the Merger and David Beré served on our Board until March 2008. Though not formally considered by our Board given that our securities are not registered or traded on any national securities exchange, based upon the listing standards of the NYSE on which our common stock was listed prior to the Merger, we do not believe that any of our current Board members or Messrs. Rajpal or Beré would be considered independent either because they serve as members of our management team or because of their relationships with certain affiliates of the funds and other entities that hold significant interests in Parent, and other relationships with us as more fully described under “Related Party Transactions” below.  
158
Accordingly, we do not believe that any of our Audit Committee members would meet the independence requirements of Rule 10A-1 of the Exchange Act or the NYSE’s audit committee independence requirements, or that any of our Compensation Committee members would meet the NYSE’s independence requirements. We do not have a nominating/corporate governance committee, or a committee that serves a similar purpose.

(b)           Director Independence (pre-Merger). Until the Merger on July 6, 2007, our Board of Directors at least annually considered each director’s independence in accordance with guidelines it had adopted, which included all elements of independence set forth in the NYSE listing standards as well as certain Board-adopted categorical independence standards. These guidelines were contained in our Corporate Governance Principles or, with respect to interests of less than 1% of a publicly held vendor, in our Code of Business Conduct and Ethics, and were last described in our Form 10-K for the fiscal year ended February 2, 2007.

During fiscal 2007 but prior to the Merger, our Board of Directors consisted of David Perdue, David Beré, Dennis Bottorff, Barbara Bowles, Reginald Dickson, Gordon Gee, Barbara Knuckles, Neal Purcell, James Robbins, Richard Thornburgh and David Wilds.  Also during that time period, our Audit Committee consisted of Mr. Robbins, Mr. Bottorff, Ms. Bowles and Mr. Purcell; our Compensation Committee consisted of Mr. Bottorff, Mr. Dickson and Mr. Gee; and our Nominating and Corporate Governance Committee consisted of Mr. Wilds, Mr. Gee and Ms. Knuckles. Our Board of Directors had affirmatively determined on March 20, 2007 that Directors Bottorff, Bowles, Dickson, Gee, Knuckles, Purcell, Robbins, Thornburgh and Wilds, but not Directors Perdue or Beré (each of whom was a member of management), were independent from our management under both the NYSE’s listing standards and our additional categorical independence standards based on information known at that time. Any relationship between an independent director and Dollar General or our management were either encompassed by the Board-adopted categorical standards mentioned above or, in the case of Mr. Wilds’ relationship with a vendor, deemed to be immaterial. A table setting forth the transactions or relationships with our former directors that fell within a Board-adopted categorical standard, as well as a description of Mr. Wilds’ relationships with a vendor, was set forth in our Form 10-K for the fiscal year ended February 2, 2007. Because of the Merger, our Board has not made any additional independence determinations with respect to those former Board members.

(c)           Related Party Transactions.  We describe below the transactions that have occurred since the beginning of fiscal 2007, and any currently proposed transactions, that involve Dollar General and exceed $120,000, and in which a related party had or has a direct or indirect material interest.

(1)           Relationships with Management:

Management Stockholder’s Agreement. Simultaneously with the closing of the Merger and, thereafter, in connection with our offering equity awards to certain members of our management and other employees (the “Management Participants”) under our stock incentive plan (including the equity grants to Mr. Dreiling in connection with his offer of employment), we, Parent and each of the Management Participants who held shares of our capital stock (including through option exercises), or who were granted new options to acquire our stock (or,
159
in the case of Mr. Dreiling, who was granted shares of restricted common stock), entered into a stockholder’s agreement. The Management Stockholder’s Agreement imposes significant transfer restrictions on shares of our common stock. Generally, shares will be nontransferable by any means at any time prior to July 6, 2012, except (i) sales pursuant to an effective registration statement filed by us under the Securities Act in accordance with the Management Stockholder’s Agreement, (ii) a sale pursuant to the 1998 Stock Incentive Plan (upSale Participation Agreement (described below), (iii) a sale to 3,763,451certain permitted transferees, or (iv) as otherwise permitted by our Board of which remain available for issuanceDirectors or pursuant to a waiver given by the Sponsor; provided, that, in the formevent the Sponsor or its affiliates transfer limited partnership units owned by them to a third party, such transfer restrictions shall lapse with respect to the same proportion of shares of common stock owned by a management stockholder as the proportion of limited partnership units transferred by the Sponsor and such affiliates relative to the aggregate number of limited partnership units owned by them prior to that transfer.

In the event that a management stockholder wishes to sell his or her stock at any time after July 6, 2012 but before the earlier of a “Change in Control” (as defined in the Management Stockholder’s Agreement) or the consummation of a “Qualified Public Offering” (as defined in the Management Stockholder’s Agreement), the Management Stockholder’s Agreement provides us with a right of first refusal on those shares on the same terms and conditions that the management stockholder proposes to sell them to a third party. In the event that a registration statement is filed with respect to our common stock in the future, the Management Stockholder’s Agreement prohibits management stockholders from selling shares not included in the registration statement from the time of receipt of notice that we have filed or intend to file such registration statement until 180 days (in the case of an initial public offering) or 90 days (in the case of any other public offering) of the effective date of the registration statement. The Management Stockholder’s Agreement also provides for the management stockholder’s ability to cause us to repurchase his outstanding stock and vested options (and vested restricted stock, with respect to Mr. Dreiling) in the event of the management stockholder’s death or disability, and for our ability to cause the management stockholder to sell his stock or options back to us upon certain termination events. Mr. Dreiling also has the ability to cause us to repurchase his vested restricted stock, units).

(2)

Column (a) represents shares issuable upon exerciseif any, if he resigns for any reason within six months after January 21, 2008. In addition, under the terms of outstanding option grants pursuantthe Management Stockholder’s Agreement, each Senior Management Stockholder (as defined below) has the ability to cause us to repurchase, prior to the Employment Agreement (the “Employment Agreement”), effective aslater of April 2, 2003, by(x) July 6, 2008 and between(y) the Company and David A. Perdue,last day of the Company’s Chairman and Chief Executive Officer, as well assix-month period after Mr. Dreiling was hired, all of the shares of phantomcommon stock allocatedand all of the options they rolled over in connection with the Merger that such Management Stockholder then holds if such Management Stockholder resigns or is terminated within such time frame.


Following the initial public offering of our common stock, certain members of senior management, including the executive officers (the “Senior Management Stockholders”), will have limited “piggyback” registration rights with respect to an employee’stheir shares in the event that certain of the Investors are selling, or causing to be sold, shares of common stock in such offering.

Sale Participation Agreement.  Each Management Participant, including Mr. Dreiling, also has entered into a director’s account underSale Participation Agreement with Parent. The Sale Participation Agreement grants the Company’s Compensation Deferral Plan,Senior Management Stockholders the Supplemental Retirement Planright to participate in any private sale of shares of common stock by Parent or its affiliates (the “Tag-Along Right”) and Directors’ Deferred Compensation Planrequires all management stockholders to participate in the private
160
sale, if Parent elects, in the event that Parent or its affiliates are proposing to sell at least 50% of the outstanding shares of common stock held by it (the “Deferred Plans”“Drag-Along Right”). The number of shares of phantom stock allocated under the Deferred Plans for each deferral is based on the fair market value of the Company’s common stock on the date on which the shares are allocateda management stockholder would be permitted or required, as applicable, to the accounts.  The shares of phantom stock are deemedsell pursuant to earn any dividends declared on the Company’s common stock, and additional shares of phantom stock are allo cated on the dividend payment date based on the stock’s fair market value.  Neither the Employment Agreement nor any of the Deferred Plans have been approved by the Company’s






shareholders.  The number of securities remaining available for issuance under the Deferred Plans at January 28, 2005 is not determinable, since those Plans do not authorize a maximum number of securities, and is not, accordingly, included in column (c) above.  Shares of phantom stock are settled for shares of the Company’s common stock on a one-for-one basis.  Accordingly, such shares have been excluded for purposes of computing the weighted-average exercise price in column (b).

(3)

Excludes shares issuable upon the exercise of an outstanding option grant contemplatedthe Tag-Along Right or the Drag-Along Right is equal to the number of shares then owned by the Employment Agreement, but mademanagement stockholder and his or her affiliates plus all shares that person is entitled to acquire under unexercised options (to the 1998 Stock Incentive Plan. Those shares instead are included in “Equity compensation plans approved by security holders.”


As previously disclosed, the Company granted to David A. Perdue,extent exercisable at that time or as a material inducementresult of the consummation of the proposed sale and also, with respect to his employment with the Company, 78,865Drag-Along Rights pertaining to Mr. Dreiling, unvested shares of restricted stock that would vest upon consummation of the transaction), multiplied by a fraction (x) the numerator of which is the aggregate number of shares Parent proposes to transfer in the proposed sale and an option(y) the denominator of which is the total number of shares Parent directly or indirectly owns. Management stockholders will bear the pro rata share of any fees, commissions, adjustments to purchase 500,000price, expenses or indemnities in connection with any sale under the Sale Participation Agreement.


Equity Investment by Senior Management Participants.  In connection with the Merger, certain members of our management (the “Senior Management Participants”) were offered the opportunity to roll over portions of their equity and/or options and to purchase additional equity of Dollar General. In connection with such investment and the Merger, we adopted a new stock incentive plan pursuant to which these individuals were granted new options with respect to additional shares of our common stock. Messrs. Beré, Tehle, Buley and Gibson and Mss. Guion, Lanigan, Lowe and Elliott each invested a total of $2,249,995.00, $799,996.25, $754,863.75, $348,703.75, $650,007.50, $516,026.25, $526,650.00 and $249,997.50, respectively. Any shares purchased or otherwise acquired by these Senior Management Participants as described above (including any shares subject to roll over options or acquired upon exercise thereof) are subject to certain transfer limitations and repurchase rights by Dollar General. We also offered other employees a similar investment opportunity to participate in our common equity.

Pre-Merger Equity.   Prior to the Merger, we maintained various share-based compensation programs which included options, restricted stock and restricted stock units (“RSUs”). In connection with the Merger, the outstanding stock options, restricted stock and RSUs became fully vested and were settled in cash, canceled or, in limited circumstances, exchanged for new options to purchase our common stock, as described below. Unless exchanged for new options, each option holder received an amount in cash, without interest and less applicable withholding taxes, equal to $22 per share (the “Non-Plan Option”“Merger Consideration”). These grants, along with another option grant, less the exercise price of each option. Additionally, each restricted stock and RSU holder received the Merger Consideration in cash, without interest and less applicable withholding taxes. Certain members of our management exchanged existing stock options for new options to purchase our common stock. The exercise price of, and the number of shares underlying, the roll over options were adjusted as a result of the Merger. The roll over options otherwise continue under the 1998 Stock Incentiveterms of the equity plans under which they were issued.

Compensation Deferral Plan were made(“CDP”) and Supplemental Executive Retirement Plan (“SERP”).  The CDP, in which the executive officers are eligible to participate, and the associated grantor trust agreement require that the full amount of the benefits due under the CDP
161
be funded in the grantor trust within 30 days of a change in control of Dollar General, payable in accordance with the terms of the Employment Agreement.CDP and trust. The Non-Plan OptionMerger was granted at an exercise pricea change in control for this purpose. Messrs. Beré, Tehle, Buley and Gibson and Mss. Guion, Lanigan, Lowe and Elliott had benefits under the CDP having approximate values as of $12.68 per shareJuly 6, 2007 of $37,297.42, $143,419.06, $100,425.31, $58,071.55, $140,542.64, $45,312.57, $73,370.05 and vests as to 166,666 shares on April 2, 2005 and as to 333,334 shares on April 2, 2006, subject to alternate vesting$173,186.85, respectively.

The SERP, in which the case of death, disability or termination of employment.  The Non-Plan Optionexecutive officers participate, provides that benefits will terminate on April 2, 2013, subject to earlier terminationbecome immediately vested upon death, disability or termination of employment.  If Mr. Perdue’s employment is terminated due to death or disabil ity, then the Non-Plan Option will immediately vest and become exercisable and will remain exercisable for a period of one year (in the event of death) or three years (in the event of disability), subject to the earlier termination of the award in accordance with its original termination date. If Mr. Perdue’s employment is terminated by the Company for any reason other than death, disability or cause or if he terminates his employment for good reason, then the Non-Plan Option will immediately vest and become exercisable and will remain exercisable for a period of three months, subject to earlier termination of the award in accordance with its original termination date. If Mr. Perdue’s employment is terminated without cause or if Mr. Perdue resigns for good reason, each within two years following a change in control of Dollar General. The associated grantor trust agreement requires the Company, then the Non-Plan Option will immediately vest and become exercisable. If Mr. Perdue retires, he will be allowed to exercise any vested portionfull amount of the Non-Plan Option for a period of three years following such retirement, subject to the earlier termination of the award in accordance with its original termination date. If Mr. Perdue’s employment is terminated by the Company for cause, the Non-Plan Option will immediately terminate.

For purposes of the Non-Plan Option, “cause” means any of the reasons below, as determined by at least three-quarters of the entire membership of the Company’s Board of Directors (and as more fully explained in Mr. Perdue’s Employment Agreement):

·

fraud, a violation of securities trading regulations or any act resulting in an SEC investigation which, in each case, the Board determines materially adversely affects the Company or Mr. Perdue’s ability to perform his duties;

·

attendance at work in a state of intoxication or in possession of any prohibited drug or substance which would amount to a criminal offense;

·

assault or other act of violence during the course of employment;

·

conviction of any felony or misdemeanor involving moral turpitude; or

·

the continued failure to perform substantially his duties (other than a failure resulting from incapacitybenefits due to disability and excluding any failure, after good faith,





reasonable and demonstrable efforts, to meet performance expectations for any reason).

For purposes of the Non-Plan Option, “disability” means (as more fully described in Mr. Perdue’s Employment Agreement) a long-term disability entitling Mr. Perdue to receive benefits under the Company’s long-term disability plan as then in effect or if no long-term disability plan is in effect or if the plan does not applySERP to Mr. Perdue, then the inability of Mr. Perdue, as determined by the Company’s Board of Directors, to perform the essential functions of his regular duties and responsibilities with or without reasonable accommodation due to a medically determinable physical or mental illness which has lasted or will reasonably last for a period of 6 consecutive months.

For purposes of the Non-Plan Option, “good reason” means (as more fully described Mr. Perdue’s Employment Agreement):

·

assignment to duties inconsistent in any material respect with Mr. Perdue’s position, authority, duties or responsibilities in effect on April 2, 2003, or any other action which results in a demonstrable diminution of his position, authority, duties or responsibilities, all without Mr. Perdue’s written consent;

·

a reduction in base salary or target bonus level;

·

the Company’s failure to continue any pension or compensation plan or arrangement in which Mr. Perdue participates or the elimination of his participation in any of those plans (except for across-the-board plan changes or terminations similarly affecting at least 95% of all of the Company’s executives, excluding Mr. Perdue’s individual supplemental executive retirement plan);

·

relocation without Mr. Perdue’s consent to any office or location other than metropolitan Nashville, Tennessee;

·

the Company’s material breach of the agreement; or

·

the failure of any successor to all or substantially all of the Company’s business and/or assets to assume and agree to perform the Employment Agreement between Mr. Perdue and the Companybe funded in the same manner and to the same extent as the Company would be required to perform if no succession had occurred.


For purposesgrantor trust within 30 days of the Non-Plan Option, “retirement” means either retirement from active employment with the Company on or after age 65 or retirement from active employment with the Company prior to age 65 with the Company’s express written consent anda change in control, payable in accordance with the Company’s early retirement policy (if any) then in effect.


For a descriptionterms of the material featuresSERP and the trust. The Merger was a change in control for this purpose. Mr. Tehle and Mss. Guion and Lowe were already vested in benefits under the SERP having approximate values as determined on July 6, 2007 of $105,332.01, $83,706.80 and $41,776.60, respectively. As of the Deferred Plans, please see Note 9Merger, Messrs. Buley and Gibson and Mss. Lanigan and Elliott became vested in benefits under the SERP having an approximate value of $39,125.13, $20,035.14, $109,199.14 and $17,471.36, respectively, as determined on July 6, 2007. Messrs. Dreiling and Beré had no balances in the SERP as of that time.


New Stock Incentive Plan.  On July 6, 2007, our Board of Directors adopted the 2007 Stock Incentive Plan for Key Employees (the “Plan”). The Plan provides for the granting of stock options, stock appreciation rights, and other stock-based awards or dividend equivalent rights to key employees, directors, consultants or other persons having a service relationship with us, our subsidiaries and certain of our affiliates. The number of shares of our common stock authorized for grant under the Plan is 24,000,000.

On July 6, 2007, we granted to the Consolidated Financial Statements.


(b)  Other Information.Senior Management Participants non-qualified stock options to purchase 13,110,000 shares of our common stock pursuant to the terms of the Plan. We later granted non-qualified stock options to certain other employees pursuant to the terms of the Plan. Effective January 21, 2008, our Board also granted to Mr. Dreiling non-qualified stock options to purchase 2.5 million shares of our common stock and 890,000 shares of restricted common stock pursuant to the terms of the Plan. SFAS 123R grant date fair values of the post-merger option grants to Messrs. Dreiling, Beré, Tehle, Buley and Gibson and Mss. Guion, Lanigan, Lowe and Elliott are $6,241,750, $6,084,450, $2,974,620, $2,366,175, $1,081,680, $2,366,175, $1,825,335, $1,825,335 and $1,081,680, respectively. Half of these options will vest ratably on each of the five anniversary dates of July 6, 2007 solely based upon continued employment over that time period, while the other half of these options will vest based both upon continued employment and upon the achievement of predetermined annual or cumulative financial-based targets over time which coincide with our fiscal year. The information required by this Item 12 regarding security ownership ofoptions also have certain beneficial owners and the Company’s management is contained under the caption “Security Ownership”accelerated vesting provisions upon a change in control or initial public offering, as defined in the 2005 Proxy Statement,Plan. The options have a 10-year maximum expiration date and an exercise price of $5.00 per share, which informationrepresented the fair market value on the grant date. The SFAS 123R grant date fair value of the post-merger restricted stock grant to Mr. Dreiling is $4,450,000. The restricted stock will vest on the last day of our 2011 fiscal year if Mr. Dreiling remains employed by us through that date. The restricted stock also has certain accelerated vesting provisions upon a change in control, initial public offering, termination without cause or due to death or

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disability, or resignation for good reason, all as defined in Mr. Dreiling’s employment agreement. We believe that the Plan has been designed to effectively align the interests of our employees and shareholders.

 (2)           Relationships with the Investors:

Operating Agreements.  In connection with the Merger, the Investors (or funds affiliated with the Investors) directly or indirectly acquired limited partnership interests in Parent and certain of such Investors also acquired membership interests in Parent’s general partner, Buck Holdings, LLC. These entities entered into a limited partnership agreement with respect to their investment in Parent and an operating agreement with respect to their investment in Parent’s general partner and a registration rights agreement relating to such investment. These agreements contain agreements among the parties with respect to, among other things, restrictions on the issuance or transfer of interests, other special corporate governance provisions (including the right to approve various corporate actions), the election of managers of Parent’s general partner, the election of our Board members, and registration rights (including customary indemnification provisions).

Monitoring Agreement and Indemnity Agreement.  In connection with the Merger, we and Parent entered into a monitoring agreement, dated July 6, 2007, with an affiliate of KKR and Goldman, Sachs & Co. pursuant to which such parties have provided and will continue to provide management and advisory services to us and our affiliates. Under the terms of the monitoring agreement, among other things, we are obligated to pay an aggregate annual management fee of $5.0 million, which amount will increase by 5.0% annually, payable quarterly in arrears at the end of each calendar quarter. The initial annual fee was prorated for our fiscal 2007. Those entities also are entitled to receive a fee equal to 1% of the gross transaction value in connection with certain subsequent financing, acquisition or disposition of assets or equity interests, recapitalization and other similar transactions, as well as a termination fee in the event of an initial public offering or under certain other circumstances. All such caption is incorporated hereinfees are to be split based upon an agreed upon formula, which results in an initial split of 78.38% of this fee payable to the KKR affiliate and 21.62% payable to Goldman, Sachs & Co. Under this agreement, we also are obligated to reimburse all reasonable out-of-pocket expenses incurred by reference





ITEM 13.

CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS

The information required bysuch entities and their respective affiliates in connection with rendering covered services. Pursuant to this Item 13 regarding certain relationshipsagreement, we also paid aggregate fees of approximately $75 million in connection with services provided in connection with the Merger and related transactions, is contained under the caption “Transactions with Management and Others” in the 2005 Proxy Statement,$58.8 million of which information under such caption is incorporated herein by reference

ITEM 14.

PRINCIPAL ACCOUNTING FEES AND SERVICES


The information required by this Item 14 regarding feeswas paid to the Company’sKKR affiliate and $16.2 million of which was paid to Goldman, Sachs & Co.


In connection with entering into the monitoring agreement, on July 6, 2007 we and Parent also entered into a separate indemnification agreement with the parties to the monitoring agreement, pursuant to which we agreed to provide customary indemnification to such parties and their affiliates.

Messrs. Calbert and Agrawal, two of our Board members, serve as a Member and a Director of KKR, respectively. Mr. Jones, one of our Board members, serves as a Managing Director of Goldman, Sachs & Co.

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Other Relationships.    In connection with the Merger, Goldman, Sachs & Co. and Citigroup Global Markets Inc. and their affiliates participated in several related transactions with us. Specifically, Goldman Sachs Credit Partners L.P. and Citigroup Global Markets Inc., along with other institutions, served as joint lead arranger and joint bookrunner with respect to the credit agreements and related security and other agreements consisting of (i) a $2.3 billion senior secured term loan facility (affiliates of KKR and Wellington Management Company, LLP are also lenders under this facility) and (ii) a senior secured asset-based revolving credit facility of up to $1.125 billion. Goldman Sachs Credit Partners L.P. also served as syndication agent for each of the new facilities. Citicorp North America, Inc. served as administrative agent, collateral agent for the senior secured term loan facility. Goldman, Sachs & Co. also is a counterparty to certain interest rate swaps entered into in connection with these facilities. Pursuant to the swaps, which became effective on July 31, 2007, we swapped three month LIBOR rates for fixed interest rates receiving an all-in fixed rate of 7.683% which includes a 2.75% spread on a notional amount of $2,000.0 million which will amortize on a quarterly basis until maturity at July 31, 2012. Also in connection with the Merger, Goldman, Sachs & Co. and Citigroup Global Markets Inc., along with other institutions, (i) acted as initial purchasers for our issuance of $1,175.0 million aggregate principal accountantamount of 10.625% senior notes due 2015 and $725 million aggregate principal amount of 11.875%/12.625% senior subordinated notes due 2017 and (ii) provided financial advisory services to, and received financial advisory fees from us, the pre-approvalInvestors and their affiliates. Finally, in connection with the Merger, we completed a cash tender offer to purchase any and all of our $200 million principal amount of 8-5/8% Notes due June 2010. Goldman, Sachs & Co. acted as dealer manager and consent solicitation agent for that tender offer. In the aggregate, approximately $32.0 million in fees were paid to Goldman, Sachs & Co. and its affiliates and approximately $26.2 million in fees were paid to Citigroup Global Markets Inc. and its affiliates in connection with the foregoing transactions relating to the Merger, portions of which have been capitalized as debt financing costs or as direct acquisition costs. In addition, under the registration rights agreement, we agreed to file a “market-making” prospectus in order to enable Goldman, Sachs & Co. to engage in market-making activities for the notes.

In addition, in the fourth quarter of fiscal 2007, we purchased a total of $25 million of the 11.857%/12.625% senior subordinated notes held by Goldman Sachs & Co. or its affiliates for a purchase price of $20 million, and paid a commission of $62,500 in connection therewith.

Goldman Sachs Credit Partners L.P. and Goldman, Sachs & Co. are affiliates of GS Capital Partners VI Fund, L.P. and affiliated funds. In addition, Mr. Jones, who serves on our Board, and Sumit Rajpal, who served on our Board for a brief period following the Merger, each serve as Managing Directors of Goldman, Sachs & Co.  GS Capital Partners VI Fund, L.P. and affiliated funds indirectly own approximately 22% of our common stock on a fully diluted basis. Citigroup Global Markets Inc. and Citicorp North America Inc. are affiliates of Citigroup Private Equity LP.  Funds managed by Citigroup Private Equity LP indirectly own approximately 7.2% of our common stock on a fully diluted basis.

We use Capstone Consulting, LLC, a team of executives who work exclusively with KKR portfolio companies as an integral part of the value-creation process, for certain consulting
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services. We pay Capstone a monthly fee, currently $210,000, plus expense reimbursements.  During fiscal 2007, we incurred aggregate fees and expense reimbursements paid or owing to Capstone for such services of approximately $1.9 million. We also paid approximately $78,750 of fees to Capstone for services provided in connection with the Merger and related transactions. Dean Nelson, who serves on our Board, is the Chief Executive Officer of Capstone. Although neither KKR nor any entity affiliated with KKR owns any of the equity of Capstone, prior to January 1, 2007 KKR had provided financing to Capstone.

(d)           Related Party Transaction Approval Policy.  Prior to the Merger, as a public company, we had policies and procedures established byin place regarding the Audit Committeereview, approval and ratification of “related party” transactions. Those policies and procedures are described below. None of the Company’sMerger-related transactions or the transactions with the Investors discussed above were considered under the pre-existing policies and procedures.

On an annual basis, both before and after the Merger, each director and executive officer is asked to disclose, among other things, any relationship or transaction with us in which the director or executive officer, or any member of his or her immediate family (“related parties”), have a direct or indirect material interest. Our Legal Department determines which of those disclosed transactions or relationships fall below the related-party transaction disclosure threshold in, or are otherwise exempt from disclosure under, Item 404 of Regulation S-K of the Exchange Act or, prior to the Merger, which fell within a Board-adopted categorical director independence standard. Prior to the Merger, our Legal Department ensured that any identified relationship or transaction that was not exempt from disclosure under Item 404 or that did not fall within a categorical director independence standard was submitted to the Board of Directors is containedor an appropriate Board committee for consideration under our conflict of interest or other policy as further described below.

Pursuant to our Code of Business Conduct and Ethics and prior to the caption “Fees Paid to Auditor”Merger, the Nominating and Corporate Governance Committee of our Board reviewed and resolved any conflict of interest involving directors or executive officers. In addition, if a director’s relationship or transaction fell within any of the Board-adopted categorical standards for director independence, then the director’s interest in the 2005 Proxy Statement, which information underrelationship or transaction was deemed immaterial in the absence of other factors for purposes of both independence and related-party transaction disclosure. Finally, prior to the Merger our Compensation Committee reviewed and approved and/or ratified all material components of executive officer compensation as further discussed in “Compensation Discussion and Analysis” above.
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ITEM 14.   PRINCIPAL ACCOUNTING FEES AND SERVICES

The table below shows the aggregate fees Ernst & Young LLP billed to us in connection with various audit and other services provided throughout fiscal 2007 and fiscal 2006:

Service2007 Aggregate Fees Billed ($)2006 Aggregate Fees Billed ($)
   
Audit Fees(1)
2,586,4262,521,920
Audit-Related Fees(2)
119,51445,225
Tax Fees(3)
163,645182,937
All Other Fees(4)
6,0006,000
   
(1)2007 fees include audit services, as well as services relating to the debt offering memorandum associated with the Merger and the subsequent exchange offer Registration Statement on Form S-4 filed with the SEC. 2006 fees include audit services.  Such amounts include fees and expenses related to the fiscal year and interim reviews, notwithstanding when the fees and expenses were billed or when the services were rendered.
(2)2007 fees include services relating to the employee benefit plan audit, as well as accounting consultation services relating to the Merger.  2006 fees include services relating to accounting consultations regarding Financial Accounting Standards Board Interpretation 48, “Accounting for Uncertainty in Income Taxes,” and a sale-leaseback transaction for one of our distribution centers.  Such amounts include fees and services rendered during the respective fiscal year, notwithstanding when the fees and expenses were billed.
(3)Both 2007 and 2006 fees include services relating to a LIFO tax calculation and tax advisory services related to inventory, as well as international, federal, state and local tax advice.  Such amounts include fees and services rendered during the respective fiscal year, notwithstanding when the fees and expenses were billed.
(4)Both 2007 and 2006 fees include a subscription fee to an on-line accounting research tool.  Such amounts include fees and services rendered during the respective fiscal  year, notwithstanding when the fees and expenses were billed.
The Audit Committee Charter requires committee pre-approval for all audit and permissible non-audit services provided by our independent auditors. Where feasible, the committee considers and, when appropriate, pre-approves services at regularly scheduled meetings after disclosure by management and the auditors of the nature of the proposed services, the estimated fees (when available), and their opinions that the services will not impair the auditors’ independence. The committee also may consider and pre-approve any such caption is incorporated herein by reference.

services in between meetings.


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PART IV

ITEM 15.

EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

ITEM 15.

EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

(a)

Report of Independent Registered Public Accounting Firm
Consolidated Balance Sheets
Consolidated Statements of Operations
Consolidated Statements of Shareholders’ Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements (See Item 8).

(b)

(b)

All schedules for which provision is made in the applicable accounting regulations of the Securities and Exchange CommissionSEC are not required under the related instructions, are inapplicable or the information is included in the Consolidated Financial Statements and, therefore, have been omitted.

(c)

(c)

Exhibits:  See Exhibit Index immediately following the signature pages hereto, which Exhibit Index is incorporated by reference as if fully set forth herein.



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SIGNATURES


SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.


DOLLAR GENERAL CORPORATION

Date:  April 12, 2005

By:

/s/ David A. Perdue

  

David A. Perdue, Chairman and

Date: March 28, 2008By:
/s/ Richard W. Dreiling
Richard W. Dreiling, Chief Executive Officer


We, the undersigned directors and officers of the Registrant, hereby severally constitute David A. PerdueRichard W. Dreiling and David M. Tehle, and each of them singly, our true and lawful attorneys with full power to them and each of them to sign for us, and in our names in the capacities indicated below, any and all amendments to this Annual Report on Form 10-K filed with the Securities and Exchange Commission.


Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated.


Name

Title

TitleDate

   

/s/ David A. Perdue

Chairman and Chief Executive Officer (Principal Executive Officer)

April 12, 2005

DAVID A. PERDUE

 
/s/ Richard W. Dreiling
Chief Executive Officer
(Principal Executive Officer)
March 27, 2008
RICHARD W. DREILING   
   

/s/ David M. Tehle

Executive Vice President and Chief Financial Officer (Principal Financial and Accounting Officer

Officer)

April 12, 2005

DAVID M. TEHLE

March 27, 2008		 
DAVID M. TEHLE   
   

/s/ David L. Bere

Director

April 12, 2005

DAVID L. BERE

  
/s/ Michael M. CalbertDirector (Chairman of the Board)March 25, 2008
MICHAEL M . CALBERT   
   

/s/ Dennis C. Bottorff

Director

April 12, 2005

DENNIS C. BOTTORFF

 
/s/ Raj AgrawalDirectorMarch 26, 2008
RAJ AGRAWAL   
   




/s/ Barbara L. Bowles

Director

April 12, 2005

BARBARA L. BOWLES

 
/s/ Adrian JonesDirectorMarch 25, 2008
ADRIAN JONES   
   
 

Director

 

JAMES L. CLAYTON

/s/ Dean B. Nelson		DirectorMarch 26, 2008 
DEAN B. NELSON   
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Supplemental Information to be Furnished With Reports Filed Pursuant to Section 15(d)
of the Act by Registrants Which Have Not Registered Securities Pursuant to Section 12 of the Act

The Registrant has not sent to its security holders an annual report covering its last fiscal year. In addition, the Registrant has not sent to security holders any proxy statement, form of proxy or other proxy soliciting material since such time as the registration of Registrant’s securities under Section 12 of the Act was terminated.
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EXHIBIT INDEX
2.1Agreement and Plan of Merger, dated as of March 11, 2007, by and among Buck Holdings, L.P., Buck Acquisition Corp., and Dollar General Corporation (incorporated by reference to Exhibit 2.1 to Dollar General Corporation’s Current Report on Form 8-K dated March 11, 2007, filed with the SEC on March 12, 2007 (file number 001-11421))
3.1Amended and Restated Charter of Dollar General Corporation (incorporated by reference to Exhibit 3.1 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
3.2Amended and Restated Bylaws of Dollar General Corporation (adopted on September 20, 2007) (incorporated by reference to Exhibit 3.2 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.1Sections 7 and 8 of Dollar General Corporation’s Amended and Restated Charter (included in Exhibit 3.1)
4.2Indenture, dated as of June 21, 2000, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.1 to Dollar General Corporation’s Registration Statement on Form S-4 filed with the SEC on August 1, 2000 (file number 333-42704))
4.3First Supplemental Indenture, dated as of July 28, 2000, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.4 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended January 31, 2003, filed with the SEC on March 19, 2003 (file number 001-11421))
4.4Second Supplemental Indenture, dated as of June 18, 2001, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.5 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended January 31, 2003, filed with the SEC on March 19, 2003 (file number 001-11421))
4.5
Third Supplemental Indenture, dated as of June 20, 2002, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank,
National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.6 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended January 31, 2003, filed with the SEC on March 19, 2003 (file number 001-11421))
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4.6Fourth Supplemental Indenture, dated as of December 11, 2002, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.7 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended January 31, 2003, filed with the SEC on March 19, 2003 (file number 001-11421))
4.7Fifth Supplemental Indenture, dated as of May 23, 2003, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.1 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed with the SEC on August 29, 2003 (file number 001-11421))
4.8Sixth Supplemental Indenture, dated as of July��15, 2003, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.2 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed with the SEC on August 29, 2003 (file number 001-11421))
4.9Seventh Supplemental Indenture, dated as of May 23, 2005, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.1 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended July 29, 2005, filed with the SEC on August 25, 2005 (file number 001-11421))
4.10Eighth Supplemental Indenture, dated as of July 27, 2005, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to Exhibit 4.2 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended July 29, 2005, filed with the SEC on August 25, 2005 (file number 001-11421))
4.11Ninth Supplemental Indenture, dated as of August 30, 2006, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and U.S. Bank National Association (successor to Wachovia Bank, National Association), as trustee (incorporated by reference to Exhibit 4.2 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended November 3, 2006, filed with the SEC on December 12, 2006 (file number 001-11421))
4.12Tenth Supplemental Indenture, dated as of July 6, 2007, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and U.S. Bank National Association (successor to Wachovia Bank, National Association), as trustee (incorporated
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 by reference to Exhibit 4.1 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
  

/s/ Reginald D. Dickson

4.13

Director

Senior Indenture, dated July 6, 2007, among Buck Acquisition Corp., Dollar General Corporation, the guarantors named therein and Wells Fargo Bank, National Association, as trustee (incorporated by reference to Exhibit 4.8 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.14

AprilForm of 10.625% Senior Notes due 2015 (included in Exhibit 4.13)

4.15
First Supplemental Indenture to the Senior Indenture, dated as of September 25, 2007, between DC Financial, LLC, the Guaranteeing Subsidiary, and Wells Fargo Bank,
National Association, as trustee (incorporated by reference to Exhibit 4.14 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.16Second Supplemental Indenture to the Senior Indenture, dated as of December 31, 2007, between Retail Risk Solutions, LLC, the Guaranteeing Subsidiary, and Wells Fargo Bank, National Association, as trustee (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
4.17Senior Subordinated Indenture, dated July 6, 2007, among Buck Acquisition Corp., Dollar General Corporation, the guarantors named therein and Wells Fargo Bank, National Association, as trustee (incorporated by reference to Exhibit 4.9 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2005

2007 (file number 001-11421))

REGINALD D. DICKSON

4.18		Form of 11.875% / 12.625% Senior Subordinated Toggle Notes due 2017 (included in Exhibit 4.17)
4.19First Supplemental Indenture to the Senior Subordinated Indenture, dated as of September 25, 2007, between DC Financial, LLC, the Guaranteeing Subsidiary, and Wells Fargo Bank, National Association, as trustee (incorporated by reference to Exhibit 4.16 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.20Second Supplemental Indenture to the Senior Subordinated Indenture, dated as of December 31, 2007, between Retail Risk Solutions, LLC, the Guaranteeing Subsidiary, and Wells Fargo Bank, National Association, as trustee (incorporated by reference to Exhibit 4.33 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
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4.21Registration Rights Agreement, dated July 6, 2007, among Buck Acquisition Corp., Dollar General Corporation, the guarantors named therein and the initial purchasers named therein (incorporated by reference to Exhibit 4.10 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.22Registration Rights Agreement, dated July 6, 2007, among Buck Holdings, L.P., Buck Holdings, LLC, Dollar General Corporation and Shareholders named therein (incorporated by reference to Exhibit 4.18 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.23Credit Agreement, dated as of July 6, 2007, among Dollar General Corporation, as Borrower, Citicorp North America, Inc., as Administrative Agent, and the other lending institutions from time to time party thereto (incorporated by reference to Exhibit 4.2 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.24
Guarantee to the Credit Agreement, dated as of July 6, 2007, among certain domestic subsidiaries of Dollar General Corporation, as Guarantors and Citicorp North America,
Inc., as Collateral Agent (incorporated by reference to Exhibit 4.3 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.25
Supplement No.1, dated as of September 11, 2007, to the Guarantee to the Credit Agreement, between DC Financial, LLC, as New Guarantor, and Citicorp North America, Inc.,
as Collateral Agent (incorporated by reference to Exhibit 4.23 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.26Supplement No. 2, dated as of December 31, 2007, to the Guarantee to the Credit Agreement, between Retail Risk Solutions, LLC, as New Guarantor, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
4.27Security Agreement, dated as of July 6, 2007, among Dollar General Corporation and certain domestic subsidiaries of Dollar General Corporation, as Grantors, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.4 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.28
Supplement No.1, dated as of September 11, 2007, to the Security Agreement, between DC Financial, LLC, as New Grantor, and Citicorp North America, Inc., as Collateral
Agent (incorporated by reference to Exhibit 4.25 to Dollar General Corporation’s
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Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
  
4.29Supplement No. 2, dated as of December 31, 2007, to the Security Agreement, between Retail Risk Solutions, LLC, as New Grantor, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
4.30Pledge Agreement, dated as of July 6, 2007, among Dollar General Corporation and certain domestic subsidiaries of Dollar General Corporation, as Pledgors, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.5 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.31Supplement No.1, dated as of September 11, 2007, to the Pledge Agreement, between DC Financial, LLC, as Additional Pledgor, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.27 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.32Supplement No. 2, dated as of December 31, 2007, to the Pledge Agreement, between Retail Risk Solutions, LLC, as Additional Pledgor, and Citicorp North America, Inc., as Collateral Agent (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
4.33ABL Credit Agreement, dated as of July 6, 2007, among Dollar General Corporation, as Parent Borrower, certain domestic subsidiaries of Dollar General Corporation, as Subsidiary Borrowers, The CIT Group/Business Credit Inc., as ABL Administrative Agent, and the other lending institutions from time to time party thereto (incorporated by reference to Exhibit 4.6 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.34Guarantee, dated as of September 11, 2007, to the ABL Credit Agreement, between DC Financial, LLC and The CIT Group/Business Credit Inc., as ABL Collateral Agent (incorporated by reference to Exhibit 4.29 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.35Supplement No. 1, dated as of December 31, 2007, to the Guarantee to the ABL Credit Agreement, between Retail Risk Solutions, LLC, as New Guarantor, and The CIT Group/Business Credit Inc., as ABL Collateral Agent (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
174
4.36ABL Security Agreement, dated as of July 6, 2007, among Dollar General Corporation, as Parent Borrower, certain domestic subsidiaries of Dollar General Corporation, as Subsidiary Borrowers, collectively the Grantors, and The CIT Group/Business Credit Inc., as ABL Collateral Agent (incorporated by reference to Exhibit 4.7 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))
4.37Supplement No.1, dated as of September 11, 2007, to the ABL Security Agreement, between DC Financial, LLC, as New Grantor, and The CIT Group/Business Credit Inc., as ABL Collateral Agent (incorporated by reference to Exhibit 4.31 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
4.38Supplement No. 2, dated as of December 31, 2007, to the ABL Security Agreement, between Retail Risk Solutions, LLC, as New Grantor, and The CIT Group/Business Credit Inc., as ABL Collateral Agent (incorporated by reference to Exhibit 4.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))
10.1  2007 Stock Incentive Plan for Key Employees of Dollar General Corporation and its Affiliates (incorporated by reference to Exhibit 10.1 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.2  Form of Stock Option Agreement between Dollar General Corporation and officers of Dollar General Corporation granting stock options pursuant to the 2007 Stock Incentive Plan (incorporated by reference to Exhibit 10.2 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.3  Form of Option Rollover Agreement between Dollar General Corporation and officers of Dollar General Corporation (incorporated by reference to Exhibit 10.3 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.4  Form of Management Stockholder’s Agreement among Dollar General Corporation, Buck Holdings, L.P. and officers of Dollar General Corporation (incorporated by reference to Exhibit 10.4 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.5  Form of Sale Participation Agreement between Buck Holdings, L.P. and certain officer-level employees, dated July 6, 2007 (incorporated by reference to Exhibit 10.5 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
175
10.6  Agreement among Challis Lowe, Buck Holdings, L.P. and Dollar General Corporation, dated July 5, 2007, regarding call right and termination without good reason provision in Management Stockholder’s Agreement (incorporated by reference to Exhibit 10.6 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.7  1998 Stock Incentive Plan (As Amended and Restated effective as of May 31, 2006) (incorporated by reference to Exhibit 99 to Dollar General Corporation’s Current Report on Form 8-K dated May 31, 2006, filed with the SEC on June 2, 2006 (file number 001-11421))*
10.8  Amendment to Dollar General Corporation 1998 Stock Incentive Plan, effective November 28, 2006 (incorporated by reference to Exhibit 10.8 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended February 2, 2007, filed with the SEC on March 29, 2007 (file number 001-11421))*
10.9  Form of Stock Option Grant Notice in connection with option grants made pursuant to the 1998 Stock Incentive Plan (incorporated by reference to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended July 29, 2005, filed with the SEC on August 25, 2005 (file number 001-11421))*
10.10  Dollar General Corporation CDP/SERP Plan (as amended and restated effective December 31, 2007) (incorporated by reference to Exhibit 10.10 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.11  First Amendment to the Dollar General Corporation CDP/SERP Plan (as amended and restated effective December 31, 2007) (incorporated by reference to Exhibit 10.11 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))*
10.12  Dollar General Corporation Annual Incentive Plan (effective March 16, 2005, as approved by shareholders on May 24, 2005) (incorporated by reference to Exhibit 10.6 to Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended July 29, 2005, filed with the SEC on August 25, 2005) (file number 001-11421))*
10.13  Dollar General Corporation 2007 Teamshare Bonus Program for Named Executive Officers (incorporated by reference to Exhibit 10.3 Dollar General Corporation’s Quarterly Report on Form 10-Q for the quarter ended May 4, 2007, filed with the SEC on June 7, 2007) (file number 001-11421))*
10.14  Summary of Dollar General Corporation Life Insurance Program as Applicable to Executive Officers (incorporated by reference to Exhibit 10.19 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended February 2, 2007, filed with the SEC on March 29, 2007) (file number 001-11421))*
176
10.15  Dollar General Corporation Domestic Relocation Policy for Officers (incorporated by reference to Exhibit 10.20 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended February 2, 2007, filed with the SEC on March 29, 2007) (file number 001-11421))*
10.16  Summary of Director Compensation (incorporated by reference to Exhibit 10.19 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
10.17  Employment Agreement, effective as of January 11, 2008, between Dollar General Corporation and Richard Dreiling (incorporated by reference to Exhibit 10.28 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.18  Stock Option Agreement, dated as of January 21, 2008, between Dollar General Corporation and Richard Dreiling (incorporated by reference to Exhibit 10.29 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.19  Restricted Stock Award Agreement, effective as of January 21, 2008, between Dollar General Corporation and Richard Dreiling (incorporated by reference to Exhibit 10.32 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.20  Management Stockholder’s Agreement, dated as of January 21, 2008, among Dollar General Corporation, Buck Holdings, L.P. and Richard Dreiling (incorporated by reference to Exhibit 10.30 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.21  Sale Participation Agreement, dated January 21, 2008, between Buck Holdings, L.P. and Richard Dreiling (incorporated by reference to Exhibit 10.31 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.22  Employment Agreement, dated July 6, 2007, by and between Dollar General Corporation and David L. Beré (incorporated by reference to Exhibit 10.1 to Dollar General Corporation’s Current Report on Form 8-K dated July 6, 2007, filed with the SEC on July 12, 2007 (file number 001-11421))*
10.23  Extension of Initial Term of Employment Agreement, dated December 27, 2007, between Dollar General Corporation and David Beré (incorporated by reference to Exhibit 10.33 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
177
10.24  Notice of Initiation of Transition Period under Employment Agreement, dated January 8, 2008, by Dollar General Corporation to David Beré (incorporated by reference to Exhibit 10.34 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
10.25  Employment Agreement with David M. Tehle effective April 1, 2006 (incorporated by reference to Exhibit 99.1 to Dollar General Corporation’s Current Report on Form 8-K dated March 30, 2006, filed with the SEC on April 5, 2006) (file number 001-11421))*
10.26  Employment Agreement with Beryl J. Buley effective April 1, 2006 (incorporated by reference to Exhibit 99 to Dollar General Corporation’s Current Report on Form 8-K dated April 6, 2006, filed with the SEC on April 12, 2006) (file number 001-11421))*
10.27  Employment Agreement with Kathleen R. Guion effective April 1, 2006 (incorporated by reference to Exhibit 99.2 to Dollar General Corporation’s Current Report on Form 8-K dated March 30, 2006, filed with the SEC on April 5, 2006) (file number 001-11421))*
10.28  Employment Agreement with Challis M. Lowe effective April 1, 2006 (incorporated by reference to Exhibit 10.31 to Dollar General Corporation’s Annual Report on Form 10-K for the fiscal year ended February 2, 2007, filed with the SEC on March 29, 2007 (file number 001-11421))*
10.29  Monitoring Fee Letter Agreement, dated July 6, 2007, among Buck Holdings, L.P., Dollar General Corporation, Kohlberg Kravis Roberts & Co L.P., and Goldman, Sachs & Co. (incorporated by reference to Exhibit 10.25 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
10.30  Indemnification Agreement, dated July 6, 2007, among Buck Holdings, L.P., Dollar General Corporation, Kohlberg Kravis Roberts & Co L.P., and Goldman, Sachs & Co. (incorporated by reference to Exhibit 10.26 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
10.31  Purchase Letter Agreement, dated August 15, 2007, between Principal Life Insurance Company and DC Financial, LLC (incorporated by reference to Exhibit 10.27 to Dollar General Corporation’s Registration Statement on Form S-4, filed with the SEC on December 21, 2007 (file number 333-148320))
10.32  Supplemental Release Agreement between Dollar General Corporation and David Perdue dated December 28, 2007 (incorporated by reference to Exhibit 10.35 to Dollar General Corporation’s Amendment No. 1 to Registration Statement on Form S-4, filed with the SEC on January 25, 2008 (file number 333-148320))*
21  List of Subsidiaries of Dollar General Corporation

178
24 Powers of Attorney (included as part of the signature pages hereto)
  

/s/ E. Gordon Gee

31 

Director

April 12, 2005

E. GORDON GEE

Certifications of CEO and CFO under Exchange Act Rule 13a-14(a).
  
32  Certifications of CEO and CFO under 18 U.S.C. 1350.
  

/s/ Barbara M. Knuckles

*  

Director

April 12, 2005

BARBARA M. KNUCKLES

/s/ J. Neal Purcell

Director

April 12, 2005

J. NEAL PURCELL

/s/ James D. Robbins

Director

April 12, 2005

JAMES D. ROBBINS

/s/ David M. Wilds

Director

April 12, 2005

DAVID M. WILDS

Management Contract or Compensatory Plan




179

EXHIBIT INDEX

3.1

Amended and Restated Charter (incorporated by reference to the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2004, filed March 16, 2004).

3.2

Bylaws (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended August 2, 2002, filed August 28, 2002).

4.1

Sections 7, 8, 9, 10 and 12 of the Company’s Amended and Restated Charter (included in Exhibit 3.1).

4.2

Rights Agreement, dated as of February 29, 2000, between Dollar General Corporation and Registrar and Transfer Company (incorporated by reference to the Company’s Current Report on Form 8-K filed February 29, 2000).

4.3

Indenture, dated as of June 21, 2000, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to the Company’s Registration Statement on Form S-4 filed August 1, 2000).

4.4

First Supplemental Indenture, dated as of July 28, 2000, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003, filed March 19, 2003).

4.5

Second Supplemental Indenture, dated as of June 18, 2001, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003, filed March 19, 2003).

4.6

Third Supplemental Indenture, dated as of June 20, 2002, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003, filed March 19, 2003).

4.7

Fourth Supplemental Indenture, dated as of December 11, 2002, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (formerly known as First Union National Bank), as trustee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003, filed March 19, 2003).

4.8

Fifth Supplemental Indenture, dated as of May 23, 2003, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (f/k/a First Union National Bank), as trustee (incorporated by reference to the





Company’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed August 29, 2003).

4.9

Sixth Supplemental Indenture, dated as of July 15, 2003, by and among Dollar General Corporation, the guarantors named therein, as guarantors, and Wachovia Bank, National Association (f/k/a First Union National Bank), as trustee (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed August 29, 2003).

10.1

Amended and Restated Revolving Credit Agreement, dated as of June 30, 2004, by and among Dollar General Corporation, the lenders from time to time parties thereto, Keybank National Association, Bank of America, N.A., U.S. Bank National Association, AmSouth Bank and SunTrust Bank (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended July 30, 2004, filed August 26, 2004).

10.2

Sale and Purchase Agreement, dated as of June 1, 2000, among Dollar General Corporation as Lessee and Seller, FU/DG Fulton, LLC, as Lessor, and First Union Commercial Corporation, as Head Lessor (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended February 2, 2001, filed January 14, 2002).

10.3

Sale and Purchase Agreement, dated as of June 1, 2000, among Dollar General Corporation as Lessee and Seller, FU/DG Indianola, LLC, as Lessor, and First Union Commercial Corporation, as Head Lessor (incorporated by reference to the Company’s Report on Form 10-K for the year ended February 2, 2001, filed January 14, 2002).

10.4

Lease Agreement, dated as of June 1, 2000, between FU/DG Fulton LLC, as Lessor and Dollar General Corporation, as Lessee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended February 2, 2001, filed January 14, 2002).

10.5

First Amendment to Lease Agreement dated as of November 22, 2002, between Townsend Fulton, LLC, as Lessor, and Dollar General Corporation, as Lessee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003, filed March 19, 2003).

10.6

Lease Agreement, dated as of June 1, 2000, between FU/DG Indianola, LLC, as Lessor and Dollar General Corporation, as Lessee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended February 2, 2001, filed January 14, 2002).

10.7

First Amendment to Lease Agreement dated as of November 22, 2002, between Indianola DG Property, LLC, as Lessor, and Dollar General Corporation, as Lessee (incorporated by reference to the Company’s Annual Report on Form 10-K for the year ended January 31, 2003 filed March 19, 2003).





10.8

Purchase and Sale Agreement, dated as of May 29, 2003, by and between Dollar General Corporation and Principal Life Insurance Company (f/k/a Principal Mutual Life Insurance Company) (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed August 29, 2003).  

10.9

1989 Employee Stock Incentive Plan, as amended (incorporated by reference to the Company’s Proxy Statement for the June 13, 1989, Annual Meeting of Stockholders).*

10.10

1993 Employee Stock Incentive Plan (incorporated by reference to the Company’s Proxy Statement for the June 7, 1993, Annual Meeting of Stockholders).*

10.11

1993 Outside Directors Stock Option Plan (incorporated by reference to the Company’s Proxy Statement for the June 7, 1993, Annual Meeting of Stockholders).*

10.12

1995 Employee Stock Incentive Plan (incorporated by reference to the Company’s Proxy Statement for the June 5, 1995, Annual Meeting of Stockholders).*

10.13

1995 Outside Directors Stock Option Plan (incorporated by reference to the Company’s Proxy Statement for the June 5, 1995, Annual Meeting of Stockholders).*

10.14

1998 Stock Incentive Plan, as amended and restated effective June 2, 2003, and as further modified through August 26, 2003 (the “1998 Stock Incentive Plan”) (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended August 1, 2003, filed August 29, 2003).*

10.15

Form of Stock Option Grant Notice in connection with option grants made pursuant to the Company’s 1998 Stock Incentive Plan (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.16

Form of Restricted Stock Award Agreement in connection with restricted stock grants made pursuant to the Company’s 1998 Stock Incentive Plan (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.17

Form of Restricted Stock Unit Award Agreement in connection with restricted stock unit grants made to employees pursuant to the Company’s 1998 Stock Incentive Plan (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.18

Dollar General Corporation CDP/SERP Plan (as amended and restated effective November 1, 2004) (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.19

Dollar General Corporation Deferred Compensation Plan for Non-Employee Directors (as amended and restated effective November 1, 2004) (incorporated by reference to the





Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.20

Dollar General Corporation 2004 Bonus Plan (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended October 29, 2004, filed December 6, 2004).*


10.21

Dollar General Corporation Supplemental Executive Disability Insurance Program (incorporated by reference to Item 1.01 and Exhibit 99 to the Company’s Current Report on Form 8-K dated December 7, 2004, filed December 8, 2004).*


10.22

Dollar General Corporation Supplemental Executive Disability Insurance Program (Pre-2005).*


10.23

Dollar General Corporation Supplemental Executive Life Insurance Program.*


10.24

Dollar General Corporation Domestic Relocation Policy for Officers.*


10.25

Summary of Director Compensation (as of January 28, 2005).*


10.26

Summary of Named Executive Officers’ Salaries (effective April 1, 2005).*


10.27

Employment Agreement, effective as of April 2, 2003, by and between Dollar General Corporation and David A. Perdue (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended May 2, 2003, filed May 29, 2003).*

10.28

Supplemental Executive Retirement Plan for David A. Perdue, effective April 2, 2003 (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended May 2, 2003, filed May 29, 2003).*

10.29

Restricted Stock Agreement, dated April 2, 2003, by and between Dollar General Corporation and David A. Perdue (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended May 2, 2003, filed May 29, 2003).*

10.30

Nonqualified Stock Option Agreement, dated April 2, 2003, by and between Dollar General Corporation and David A. Perdue (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended May 2, 2003, filed May 29, 2003).*

10.31

Employment Agreement, effective June 7, 2004, by and between Dollar General Corporation and David Tehle (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended July 30, 2004, filed August 26, 2004).*

10.32

Employment Agreement, effective March 1, 2004, by and between Dollar General Corporation and Kathleen Guion.*

10.33

Employment Agreement, effective March 15, 2005, by and between Dollar General Corporation and Susan S. Lanigan.*





10.34

Employment Agreement, effective March 1, 2004, by and between Dollar General Corporation and Stonie R. O’Briant (incorporated by reference to the Company’s Quarterly Report on Form 10-Q for the quarter ended April 30, 2004, filed May 27, 2004).*

21

Subsidiaries of the Registrant.

23

Consent of Independent Registered Public Accounting Firm.

24

Power of Attorney (included as part of the signature page).

31

Certifications of CEO and CFO under Exchange Act Rule 13a-14(a).

32

Certifications of CEO and CFO under 18 U.S.C. 1350.

*

Management Contract or Compensatory Plan



92