7
Store Profile
     At                At
January 28, 2006 Opened Closed February 3, 2007
Foot Locker 2,121       57   77   2,101
Champs Sports 556       27   7   576
Footaction 363       17   7   373
Lady Foot Locker 554       22   19   557
Kids Foot Locker 327       23   15   335

Total Athletic Stores 3,921       146   125   3,942

     At
January 29, 2005
     Opened
     Closed
     At
January 28, 2006
Foot Locker                     2,135              75               89               2,121
Champs Sports                     570               11               25               556
Footaction                     349               24               10               363
Lady Foot Locker                     567               8               21               554
Kids Foot Locker                     346               1               20               327

Total Athletic Stores                     3,967              119               165               3,921

Direct-to-Customers
Footlocker.com — Footlocker.com, Inc., sells, through its affiliates, directly to customers through catalogs and its Internet websites. Eastbay, Inc., one of its affiliates, is one of the largest direct marketers of athletic footwear, apparel, equipment, ~~and~~ team licensed and private-label merchandise in the United States and provides the Company’s eight full-service e-commerce sites access to an integrated fulfillment and distribution system. The Company has a strategic alliance to offer footwear and apparel on the Amazon.com website and the Foot Locker brands are featured in the Amazon.com specialty stores for apparel and accessories and sporting goods. The Company also has an arrangement with the NBA and Amazon.com whereby Footlocker.com provides the fulfillment services for NBA licensed products sold over the Internet at NBAstore.com and the NBA store on Amazon.com. In addition, the Company has a marketing agreement with the U.S. Olympic Committee (USOC) providing the Company with the exclusive rights to sell USOC licensed products through catalogs and via ~~a new~~an e-commerce site. The Company has an agreement with ESPN for ESPN Shop — an ESPN-branded direct mail catalog and e-commerce site linked towww.ESPNshop.com, where ~~fans~~consumers can purchase athletic footwear, apparel and equipment which will be managed by Footlocker.com. Both the catalog and the e-commerce site feature a variety of ESPN-branded and non-ESPN-branded athletically inspired merchandise.
Franchise Operations
     In March of 2006, the Company entered into a ten-year area development agreement with the Alshaya Trading Co. W.L.L., in which the Company agreed to enter into separate license agreements for the operation of a minimum of 75 Foot Locker stores, subject to certain restrictions, located within the Middle East. Three of these franchised stores were operational at February 3, 2007. Revenue from the three franchised stores was not significant for the year-ended February 3, 2007. These stores are not included in the Company’s operating store count above.
Overview of Consolidated Results
~~Sales increased by 5.6 percent~~     2006 was a challenging year for the Company due to ~~$5,653 million representing a comparable-store increase of 2.7 percent.~~the continued highly competitive retail environment both in the United States and abroad. The 2006 results represent the 53 weeks ended February 3, 2007 as compared with the 52 weeks in the 2005 and 2004 reporting years. Income from continuing operations ~~before income taxes increased by 8.3 percent to $405 million. Diluted earnings~~in 2006, after-tax, was $247 million, or $1.58 per diluted share, ~~was $1.67 from continuing operations in 2005~~ as compared with ~~$1.64~~$263 million or $1.67 per diluted share in 2005. The following were the financial highlights of 2006:
Contributed $68 million to its U.S. and Canadian qualified pension plans. The U.S. payment was made inadvance of ERISA requirements.
Repaid $50 million of its 5-year term loan, in advance of the regularly scheduled payment dates of May 2007and May 2008.
Purchased and retired $38 million of the $200 million 8.50 percent debentures payable in 2022 at a $2 milliondiscount from face value, bringing the outstanding amount to $134 million as of February 3, 2007.
Declared and paid dividends totaling $61 million. In the fourth quarter the Company increased its quarterlydividend per share by 39 percent.
Repurchased $8 million of common stock.
8
     Additionally, the following were the key factors affecting the Company’s performance during 2006:
The 53^rdweek increased sales by $95 million and increased net income by $18 million or $0.11 per dilutedshare.
Included in 2006 is a non-cash impairment charge of $17 million ($12 million after-tax), or $0.08 per dilutedshare, recorded to write-down the value of long-lived assets of underperforming stores in the ~~corresponding prior year period.~~Company’sEuropean operations. This was necessitated by the continued declines in sales and division profit, principallyas the result of a fashion shift from higher priced marquee footwear to lower priced low-profile footwear and acontinued highly competitive environment, particularly for the sale of low-profile footwear styles.
During the first quarter of 2006, the Company adopted SFAS No. 123(R), “Share-Based Payment.” The Companyhas recorded an incremental $6 million of share-based compensation in 2006. Additionally, the Companyrecorded a cumulative effect of a change in accounting of $1 million to reflect estimated forfeitures for priorperiods related to the Company’s nonvested restricted stock awards.
     The following table represents a summary of sales and operating profit, reconciled to income from continuing operations.
     2006      2005      2004
(in millions)
Sales
Athletic Stores $ 5,370 $ 5,272 $ 4,989
Direct-to-Customers 380 381 366
$ 5,750 $ 5,653 $ 5,355
Operating Result
Athletic Stores $ 405 $ 419 $ 420
Direct-to-Customers 45    48 45
Division profit 450 467 465
Restructuring charges⁽¹⁾ (1 ) — (2 )
    Total division profit 449 467 463
Corporate expense (68 ) (58 ) (74 )
Total operating profit 381 409 389
Other income 14 6 —
Interest expense, net 3    10 15
Income from continuing operations before income taxes $ 392 $ 405 $ 374

____________________
(1) The restructuring charge in 2006 represents a revision to the original estimate of the lease liability associated with the guarantee of The San Francisco Music Box distribution center. During 2004, the Company recorded a restructuring charge of $2 million related to the dispositions of non-core businesses. These charges were classified within selling, general and administrative expenses in the Consolidated Statements of Operations.
7

Sales
All references to comparable-store sales for a given period relate to sales offrom stores that are open at the period-end, ~~and~~ that have been open for more than one year, and exclude the effect of foreign currency fluctuations. Accordingly, stores opened and closed during the period are not included. Sales from the Direct-to-Customer segment are included in the calculation of comparable-store sales for all periods presented. ~~All references to comparable-store sales for 2004 exclude the acquisition of the 349 Footaction stores and the 11 stores purchased in the Republic of Ireland.~~ Sales from acquired businesses that include the purchase of inventory ~~will be~~are included in the computation of comparable-store sales after 15 months of operations. Accordingly, Footaction sales ~~are~~have been included in the computation of comparable-store sales since August 2005.
Sales increased to $5,750 million, or by 1.7 percent as compared with 2005. Excluding the effect of foreign currency fluctuations and the 53^rd week, sales declined 0.7 percent as compared with 2005. Comparable-store sales decreased by 1.2 percent, which is primarily a result of the decline in our European operations.
9
Sales of $5,653 million in 2005 increased by 5.6 percent from sales of $5,355 million in 2004. The effect of foreign currency fluctuations on sales was not significant. This increase iswas primarily related to increased sales in the Company’s Footaction and Champs Sports formats. Comparable-store sales increased by 2.7 percent.
~~Sales~~Gross Margin
Gross margin as a percentage of ~~$5,355 million~~sales was 30.2 percent in ~~2004 increased by 12.1 percent from sales of $4,779 million in 2003. Excluding~~2006; excluding the effect of ~~foreign currency fluctuations, sales increased by 9.8 percent~~the 53^rd week, gross margin declined 20 basis points as compared with ~~2003, primarily~~2005. This reflects increased promotional activity, offset, in part, by the effect of increased vendor allowances. The effect of these vendor allowances was an improvement in gross margin in 2006, as a ~~result~~percentage of ~~the Company’s acquisition~~sales, of ~~349 Footaction stores~~20 basis points as compared with 2005. Additionally, gross margin was negatively affected by lower sales, which resulted in ~~May 2004 and the acquisition~~increased occupancy costs, as a percentage of 11 stores in the Republic of Ireland in late October 2004, which accounted for $332 million and $5 million in sales, respectively, for 2004. Comparable-store sales increased by 0.9 percent. The remaining increase is a result of the Company’s continuation of the new store-opening program.
sales.
~~Gross Margin~~
Gross margin as a percentage of sales was 30.2 percent in 2005, decreasing by 30 basis points from 30.5 percent in 2004. This decline iswas primarily the result of increased markdowns recorded by the European operation. The effect of vendor allowances on gross margin, as a percentage of sales, as compared with the corresponding prior year period was not significant.
Gross margin as a percentage of sales was 30.5 percent in 2004, a decrease of 50 basis points from 31.0 percent in 2003. Of the 50 basis points decrease in 2004, approximately 60 basis points is the result of the Footaction chain, offset, in part, by a decrease in the cost of merchandise. The effect of vendor allowances on gross margin, as a percentage of sales, as compared with the corresponding prior year period was not significant.
~~Division Profit~~
The Company evaluates performance based on several factors, the primary financial measure of which is division profit. Division profit reflects income from continuing operations before income taxes, corporate expense, non-operating income and net interest expense. The following table reconciles division profit by segment to income from continuing operations before income taxes.

     2005
     2004
     2003


     (in millions)

Athletic Stores                  $ 419            $ 420            $ 363
Direct-to-Customers                     48               45               53
Division profit                     467               465               416
Restructuring charges⁽¹⁾
                    —               (2 )             (1 )
Total division profit                     467               463               415
Corporate expense                     (58 )             (74 )             (73 )
Total operating profit                     409               389               342
Other income                     6               —               —
Interest expense, net                     (10 )             (15 )             (18 )
Income from continuing operations before income taxes                  $ 405            $ 374            $ 324

~~(1)~~   As more fully described in the notes to the consolidated financial statements, restructuring charges of $2 million and $1 million in 2004 and 2003, respectively, were recorded related to the dispositions of non-core businesses.

8

Corporate Expense
Corporate expense consists of unallocated general and administrative expenses, as well as depreciation and amortization related to the Company’s corporate headquarters, centrally managed departments, unallocated insurance and benefit programs, certain foreign exchange transaction gains and losses and other items.
The increase in corporate expense in 2006 as compared with 2005 of $10 million reflects the adoption of SFAS No. 123(R) that resulted in incremental compensation expense of $6 million and a charge of $4 million for anticipated settlements of certain ~~depreciation~~legal matters. The effect of the 53^rd week on corporate expense was not significant. Depreciation and amortization ~~expenses~~included in corporate expense amounted to $22 million in 2006, $24 million in 2005, and ~~other items.~~
$23 million in 2004.
The decrease in corporate expense ~~of $16 million~~ in 2005 ~~comprised several items, and~~as compared with 2004 primarily included decreased incentive bonuses of $14 ~~million,~~million; a $3 million decrease in costs associated with the Company’s loyalty program, as ~~the prior year~~2004 represented the initial costs to launch the ~~program,~~program; and decreased restricted stock expense of $2 million. In addition, ~~the prior year~~2004 included $5 million for the integration of the Footaction stores. Included in ~~the current year is~~2005 was also a settlement of $3 million pursuant to a class action settlement with Visa and MasterCard related to past overcharges for certain debit card transactions. These decreases were offset, in part, by a charge of $4 million due to the potential insolvency of one of the Company’s insurance carriers and legal and settlement costs of $5 million. ~~Depreciation and amortization included~~
Other Income
     During 2006, the Company terminated two of its leases for approximately $5 million, which resulted in ~~corporate expense amounted to $24 million in 2005, $23 million in 2004 and $25 million in 2003.~~
~~The increase in corporate expense in 2004 as compared with 2003 was primarily~~a net gain of $4 million. In addition, the Company finalized its insurance claims related to ~~decreased incentive bonuses~~Hurricane Katrina, which resulted in a gain of $9$8 million, ~~offset by increased expenses related to integration~~which represents amounts in excess of ~~Footaction~~losses. Also during 2006, the Company purchased and retired $38 million of ~~$5 million, restricted stock expense~~long-term debt at a discount from ~~additional grants~~face value of ~~$4 million and costs of~~$2 million. The 2005 amounts represent $3 million related to the Company’s expanded loyalty program. Integration costs represent incremental costs directly related to the acquisitions, primarily expenses to re-merchandise the Footaction stores during the first three monthsinsurance recoveries associated with Hurricane Katrina, as well as $3 million of ~~operations.~~
~~Other Income~~
~~Other income for 2005 represents~~ a ~~$3 million~~ net gain on foreign currency option contracts that were entered into by the Company to mitigate the effect of fluctuating foreign exchange rates on the reporting of ~~euro dominated~~euro-denominated earnings. ~~Additionally, other income includes $3 million of insurance recoveries in excess of losses associated with Hurricane Katrina.~~
Selling, General and Administrative Expenses
Selling, general and administrative (“SG&A”) expenses increased by $34 million to $1,163 million in 2006, or by 3.0 percent, as compared with 2005. SG&A as a percentage of sales increased to 20.2 percent as compared with 20.0 percent in 2005. Excluding the effect of foreign currency fluctuations and the 53^rd week, SG&A would have increased by 1.4 percent. This increase is primarily the result of incremental share-based compensation included in corporate expense, associated with the adoption of SFAS No. 123(R) of $6 million. Additionally, the net benefit cost for the Company’s pension and postretirement plans reflected a reduction of $5 million, primarily as a result of additional contributions and improved pension fund asset performance.
10
     SG&A increased by $41 million to $1,129 million in 2005, or by 3.8 percent, as compared with 2004. SG&A as a percentage of sales decreased to 20.0 percent as compared with 20.3 percent in 2004. The increase in SG&A is primarily related to an increase in payroll and related costs. The effect of including Footaction for the full fiscal year is an incremental $21 million, excluding the integration costs. During 2005, the Company donated 82,500 pairs of athletic footwear with a cost of $2 million to Save the Children Foundation. This donation benefited the tsunami victims in Banda Aceh, Indonesia, ~~as well as~~and Save the Children programs in the United States. ~~The net~~
Depreciation and Amortization
     Depreciation and amortization of ~~both pension expense and postretirement income did not change significantly from the prior year.~~
~~SG&A~~$175 million increased by ~~$101 million to $1,088~~2.3 percent in 2006 from $171 million in ~~2004, or by 10.2 percent, as compared with 2003. Excluding~~2005. This increase primarily reflects additional depreciation and amortization for the Athletic Stores segment due to capital spending and the effect of foreign currency fluctuations ~~primarily related to the euro, SG&A increased by $82 million,~~ of ~~which the acquired businesses contributed $68~~approximately $1 million. Increased payroll and related costs primarily comprised the balance of the increase. SG&A as a percentage of sales decreased to 20.3 percent compared with 20.7 percent in 2003. Pension expense declined by $2 million primarily as a result of the positive market performance experienced in the prior year. Additionally, postretirement income decreased by $2 million in 2004 as compared with 2003 as the amortization of the unrecognized gains, which are amortized over the average remaining life expectancy, continues to decrease over time.
~~Depreciation and Amortization~~
Depreciation and amortization of $171 million increased by 11.0 percent in 2005 from $154 million in 2004. This increase primarily reflects additional depreciation and amortization for the Athletic Stores segment due to capital spending and ~~in addition,~~ adjustments to depreciable lives of certain fixed assets. Additionally, depreciation and amortization for the Footaction format increased by $6 million as compared with ~~the prior year~~2004, primarily due to increased capital expenditures related to store improvements and point-of-sale equipment.
Depreciation and amortization of $154 million in 2004 increased 1.3 percent as compared with $152 million in 2003. Depreciation and amortization of acquired businesses amounted to $7 million for 2004. These increases were offset by declines that were a result of older assets becoming fully depreciated.
9

Interest Expense, Net
2006      2005      2004
(in millions)
Interest expense      $ 23 $ 23 $ 22
Interest income (20 )    (13 ) (7 )
    Interest expense, net $ 3 $ 10 $ 15
Weighted-average interest rate (excluding facility fees):
    Short-term debt — % — % — %
    Long-term debt 7.8 % 6.2 % 5.2 %
    Total debt 7.8 % 6.2 % 5.2 %
Short-term debt outstanding during the year:
    High $ — $ — $ —
    Weighted-average $ — $ — $ —

     2005
     2004
     2003

     (in millions)

Interest expense                  $ 23            $ 22            $ 26
Interest income                     (13 )             (7 )             (8 )
Interest expense, net                  $ 10            $ 15            $ 18

Weighted-average interest rate (excluding facility fees):

Short-term debt                     — %              — %              — %
Long-term debt                     6.2 %             5.2 %             6.1 %
Total debt                     6.2 %             5.2 %             6.1 %

Short-term debt outstanding during the year:

High                  $ —            $ —            $ —
Weighted-average                  $ —            $ —            $ —

Interest expense of $23 million ~~increased by 4.5 percent in 2005~~remained unchanged from ~~$22 million in 2004.~~2005. Interest rate swap agreements ~~reduced~~did not significantly affect interest expense ~~by approximately $1 million and $3 million~~ in ~~2005 and 2004, respectively. The increase in 2005 was primarily attributable to higher interest rates.~~
2006.
Interest income is generated through the investment of cash equivalents, short-term investments, the accretion of the Northern Group note to its face value and accrual of interest on the outstanding principal, as well as interest on income tax refunds. The increase in interest income of $7 million in 2006 was primarily related to increased interest income earned on cash, cash equivalents, and short-term investments. Interest income related to cash, cash equivalents and short-term investments was $14 million in 2006 and $11 million in 2005. Interest income on the Northern Group note amounted to $2 million in both 2006 and 2005. Also included in interest income is the effect of the Company’s cross currency swaps, which totaled $3 million in 2006 and was not significant in 2005.
     Interest expense of $23 million increased by 4.5 percent in 2005 from $22 million in 2004 primarily attributable to higher interest rates. Interest rate swap agreements reduced interest expense by approximately $1 million and $3 million in 2005 and 2004, respectively.
     The increase in interest income of $6 million in 2005 as compared with 2004 was primarily related to increased interest income earned on short-term investments due to higher interest rates and increased short-term investment balances. Interest income ~~on the Northern Group note amounted to $2 million in both 2005 and 2004. Interest income~~ related to cash equivalents and short-term investments was $11 million in 2005 and $5 million in 2004.
Additionally, interest income on the Northern Group note amounted to $2 million in both 2005 and 2004.
~~Interest expense of $22 million declined by 15.4~~11
Income Taxes
     The effective tax rate for 2006 was 36.9 percent as compared with 35.0 percent in ~~2004 from $26~~the prior year. The increase in the rate is primarily due to the change in the mix of U.S. and international profits and the $17 million ~~in 2003. The decrease in 2004 was primarily attributable~~impairment charge relating to the Company’s $150 million 5.50 percent convertible subordinated notes that were converted to equity in June 2004. Also contributing to the reduction in interest expense was the repurchase of $19 million of the 8.50 percent debentures payable in 2022 in the latter part of 2003. Interest rate swap agreements reduced interest expense by approximately $3 million and $4 million in 2004 and 2003, respectively. These decreases were offset, in part, by an increase resulting from the interest on the $175 million term loan that commenced in May 2004.
~~Interest income related to cash equivalents and short-term investments decreased by $1 million in 2004 from 2003~~European operations, as well as a ~~result of the reduction of interest income earned on tax refunds and settlements as they were received during 2003. Interest income related to cash equivalents and short-term investments was $5~~$6 million valuation allowance adjustment recorded in ~~2004 and 2003.~~
2005.
~~Income Taxes~~
The effective tax rate for 2005 was 35.0 percent as compared with 31.7 percent in ~~the prior year.~~2004. The increase was attributable to less benefit from non-recurring items than in 2004 and a higher percentage of the Company’s income earned in the United States, rather than from lower-taxed international operations. During 2005, the Company restructured its Canadian continuing business, which resulted in a $6 million reduction to its income tax valuation allowance related to Canadian tax loss carry-forwards and unclaimed tax depreciation. Additionally, the Company recorded an income tax benefit of $3 million in discontinued operations related to its former Canadian operations.
The effective tax rate for 2004 was 31.7 percent, as compared with 35.5 percent in the prior year. The reduction was principally related to a lower rate of tax on the Company’s foreign operations and the settlement of tax examinations. During 2004, the ~~Commonwealth of Puerto Rico concluded an examination of the Company’s branch~~Company settled foreign and domestic income tax ~~returns, including an income tax audit for the years 1994 through 1999~~examinations and ~~a branch profit tax audit for the years 1994 through 2002. As a result, the Company reduced~~reviews that resulted in reductions of its income tax provision for continuing operations by $2 million. Also during 2004, the IRS completed its survey of the Company’s income tax returns for the years from 1999-2001 and its examination of the 2002 year. The IRS and the Company completed a pre-filing review and post-filing review of the Company’s income tax return for 2003. As a result of these actions by the IRS and the completion of the Company’s analysis, the Company reduced its income tax provision for continuing operations by $12$14 million and discontinued operations by $37 million.
Segment Information
The ~~effective rate~~Company evaluates performance based on several factors, the primary financial measure of which is division profit. Division profit reflects income from continuing operations before income taxes, corporate expense, non-operating income, and net interest expense.
Athletic Stores
2006       2005       2004
(in millions)
Sales $ 5,370 $ 5,272 $ 4,989
Division profit $ 405 $ 419 $ 420
Sales as a percentage of consolidated total 93 % 93 % 93 %
Division profit margin 7.5 % 7.9 % 8.4 %
Number of stores at year end 3,942 3,921 3,967
Selling square footage (in millions) 8.74 8.71 8.89
Gross square footage (in millions) 14.55 14.48 14.78

2006 compared with 2005
Athletic Stores sales of $5,370 million increased 1.9 percent in 2006, as compared with $5,272 million in 2005. Excluding the effect of foreign currency fluctuations, primarily related to the euro, and the effect of the 53^rd week, sales from athletic store formats decreased by 0.6 percent in 2006. Footaction and Champs Sports significantly increased sales, primarily from the sales of marquee basketball and running footwear. This was offset primarily by decreased sales in Foot Locker Europe. Foot Locker Europe’s sales declined due to the continued difficult athletic retail environment, particularly in France, the U.K and Italy. Comparable-store sales decreased by 1.1 percent in 2006.
     Division profit from Athletic Stores decreased by 3.3 percent to $405 million in 2006 from $419 million in 2005. Division profit as a percentage of sales decreased to 7.5 percent. The decrease in division profit is primarily attributable to the Foot Locker Europe division due to the fashion shift from higher priced marquee footwear to lower priced low-profile footwear styles and a highly competitive retail environment, particularly for ~~2003~~the sale of low-profile footwear styles. Included in the Athletic Stores division profit for 2006 is an impairment charge of $17 million related to the Company’s European operations, consistent with the Company’s recoverability of long-lived assets policy. The charge was ~~35.5~~comprised primarily of stores located in the U.K. and France. As previously disclosed in 2005, the Company was monitoring the progress of the European operations and the possible analysis of recoverability of store long-lived assets pursuant to SFAS No. 144. Excluding the impairment charge, Athletic Stores division profit increased by 0.7 percent as compared with ~~34.2 percent~~the corresponding prior-year period. The decline in ~~2002. The increased tax rate was primarily due to the Company recording tax benefits of $5 million~~Foot Locker Europe were offset by increases in ~~2003 as compared to $9 million in 2002. In addition~~
all other divisions.
10
12

the rate increased due to a shift in taxable income from lower to higher tax jurisdictions. During 2003, the Company recorded a $1 million tax benefit related to state tax law changes, a $2 million tax benefit related to a reduction in the valuation allowance for deferred tax assets related to a multi-state tax planning strategy, a $1 million tax benefit related to a reduction in the valuation allowance for foreign tax loss carryforwards, and a tax benefit of $1 million related to the settlement of tax examinations.
~~Segment Information~~
~~Athletic Stores~~

     2005
     2004
       2003

     (in millions)

Sales                  $ 5,272            $ 4,989            $ 4,413
Division profit                  $ 419            $ 420     $ 363
Sales as a percentage of consolidated total                     93 %             93 %   92 %
Number of stores at year end                     3,921              3,967    3,610
Selling square footage (in millions)                     8.71              8.89    7.92
Gross square footage (in millions)                     14.48              14.78    13.14

2005 compared with 2004
Athletic Stores sales of $5,272 million increased 5.7 percent in 2005, as compared with $4,989 million in 2004. Excluding the effect of foreign currency fluctuations, primarily related to the euro, sales from athletic store formats increased 5.5 percent in 2005. Comparable-store sales increased by 2.6 percent in 2005. These increases were primarily driven by sales related to the Footaction division, which was acquired in May 2004. Approximately $126 million of the increase in Footaction represented the inclusion of their operations for the full year in 2005. Champs Sports experienced a strong increase in sales during 2005, as this format benefited from higher quantities of marquee athletic footwear and ~~private label~~private-label apparel. Foot Locker Canada also experienced increased sales. Excluding the effect of foreign currency fluctuations, Foot Locker Europe’s sales were essentially flat as compared with the corresponding ~~prior year~~prior-year period.
Division profit from Athletic Stores decreased by 0.2 percent to $419 million in 2005 from $420 million in 2004. Division profit as a percentage of sales decreased to 7.9 percent in 2005 from 8.4 percent in 2004. This decline is primarily a result of the decreased profit from the European operations as compared with the prior year. The continued weak economy, the increased competitive environment and a fashion shift from higher priced marquee footwear to lower priced ~~low profile~~low-profile footwear negatively affected Europe’s operating results. In addition during 2005, Foot Locker Europe recorded significantly higher markdowns as a result of the continued promotional environment, particularly in the U.K. and France, and to clear excess inventory. Despite these factors, in 2005 Foot Locker Europe achieved a double-digit division profit margin. Management is currently implementing various merchandising and management initiatives identified during the third and fourth quarters of 2005, in order to address both the internal and external factors that negatively affected the current year results. Management will continue to monitor the progress of the European operations and will assess, if necessary, the impact of these initiatives on the projected performance of the division, which may include an analysis of recoverability of store long-lived assets pursuant to SFAS No. 144. Management expects the trend toward lower priced low profile footwear and the competitive environment to continue during 2006. The decline ~~noted~~ in Europe was partially offset by the improved results at the Footaction, Champs Sports and ~~the~~ Canadian divisions. The increase in Footaction is primarily a result of the inclusion of ~~their~~its results for the full year as compared with a partial year during 2004. ~~Champs Sports continues to be one of our most profitable divisions.~~
Direct-to-Customers
2006       2005       2004
(in millions)
Sales $ 380 $ 381 $ 366
Division profit $ 45 $ 48 $ 45
Sales as a percentage of consolidated total 7 % 7 % 7 %
Division profit margin 11.8 % 12.6 % 12.3 %

~~2004~~2006 compared with ~~2003~~2005
~~Athletic Stores~~     Direct-to-Customers sales ~~of $4,989~~decreased to $380 million ~~increased 13.1 percent~~ in ~~2004,~~2006, as compared with ~~$4,413~~$381 million in ~~2003. Excluding~~2005. Internet sales increased to $270 million, increasing by 11.1 percent as compared with 2005. Catalog sales decreased by 20.3 percent to $110 million in 2006 from $138 million in 2005. Management believes that the ~~effect~~decrease in catalog sales, which was substantially offset by the increase in Internet sales, is a result of ~~foreign currency fluctuations, primarily related to~~customers browsing and selecting products through its catalogs and then making their purchases via the ~~euro, sales from athletic store formats increased 10.6 percent in 2004. This increase was primarily driven~~Internet. Sales for the Direct-to-Customer business were negatively affected by ~~incremental sales related to~~ the ~~acquisition~~termination of ~~the 349 Footaction stores in May 2004 totaling $332 million and the sales of the 11 stores acquired~~a third party arrangement in the ~~Republic~~early part of ~~Ireland amounting to $5 million.~~ 2006.
The ~~balance~~Direct-to-Customers business generated division profit of the increase primarily reflects new store growth. Total Athletic Stores comparable-store sales increased by 1.0 percent in 2004. The Company benefited from continued exclusive offerings from its primary suppliers, gaining access to greater amounts of marquee products, and a developing trend towards higher priced technical footwear.
~~Division profit from Athletic Stores increased by 15.7 percent to $420~~$45 million in ~~2004 from $363~~2006, as compared with $48 million in ~~2003.~~2005. Division profit, as a percentage of sales, ~~increased~~decreased to ~~8.4~~11.8 percent in ~~2004~~2006 from ~~8.2~~12.6 percent in ~~2003.~~2005. Several initiatives were implemented to mitigate the loss of revenue from the cancelled third party contract, such as expanding the ESPN offerings. However, these iniatitives did not fully offset the loss in profit which resulted in a decline in division profit. The ~~increase in 2004 was primarily driven by the overall improvement in the SG&A rate as a result of better expense control. SG&A, as a~~
11

~~percentage of sales, declined to 18.8 percent in 2004, as compared with 19.1 percent in the prior year. Operating performance improved in all~~effect of the formats that comprised the Athletic Stores segment. European operations improved as compared with the prior year, despite a more promotional environment. Additionally, Champs Sports and Lady Foot Locker improved considerably during 2004. Lady Foot Locker benefited from its modified merchandise assortment. For the year ended January 29, 2005, the Footaction format negatively affected division profit. This53^rd week on this segment was ~~primarily the result of a lower gross margin rate as compared with the Athletic Stores segment largely related to higher occupancy costs as compared with the Athletic Stores segment as a whole.~~
not significant.
~~Direct-to-Customers~~

     2005
     2004
     2003


     (in millions)

Sales                  $ 381            $ 366            $ 366
Division profit                  $ 48            $ 45            $ 53
Sales as a percentage of consolidated total                     7 %             7 %             8 %

2005 compared with 2004
Direct-to-Customers sales increased 4.1 percent to $381 million in 2005, as compared with $366 million 2004. The growth of the Internet business continued to drive sales in 2005. Internet sales increased by 14.6 percent to $243 million from $212 million in 2004. Catalog sales decreased by 10.4 percent to $138 million in 2005 from $154 million in 2004. Management believes that the decrease in catalog sales, which was substantially offset by the increase in Internet sales, is a result of customers browsing and selecting products through its catalogs and then making their purchases via the Internet.
The Direct-to-Customers business generated division profit of $48 million in 2005, as compared with $45 million in 2004. Division profit, as a percentage of sales, increased to 12.6 percent in 2005 from 12.3 percent in 2004. ~~The~~This reflects the Company’s alliances with third parties, such as the USOC and ~~ESPN continue to benefit the operations.~~
ESPN.
~~2004 compared with 2003~~
13
Direct-to-Customers sales were $366 million in both 2004 and 2003. The growth of the Internet business continued to drive sales in 2004. Internet sales increased by 11.0 percent to $212 million from $191 million in 2003. Catalog sales decreased by 12.0 percent to $154 million in 2004 from $175 million in 2003. Management believes that the decrease in catalog sales, which was substantially offset by the increase in Internet sales, is a result of customers browsing and selecting products through its catalogs and then making their purchases via the Internet. The Company continues to implement new initiatives to increase this business, including new marketing arrangements and strategic alliances with well-known third parties. During the fourth quarter of 2004, a new agreement was reached with ESPN whereby the Company manages the ESPN Shop — an ESPN-branded direct mail catalog and e-commerce destination where fans can purchase athletic footwear, apparel and equipment.
The Direct-to-Customers business generated division profit of $45 million in 2004, as compared with $53 million in 2003. The decrease in division profit is a result of expanded catalog circulation expenses in 2004. Division profit, as a percentage of sales, decreased to 12.3 percent from 14.5 percent; however, the Direct-to-Customer business remains more profitable than the Company’s Athletic Stores segment.
Liquidity and Capital Resources
Liquidity
Generally, the Company’s primary source of cash has been from operations. The Company usually finances real estate with operating leases. The principal uses of cash have been to ~~finance~~fund inventory requirements, capital expenditures related to store openings, store remodelings, and management information systems and ~~to fund~~other support facilities, and other general working capital requirements.
Management believes operating cash flows and current credit facilities will be adequate to fund its working capital requirements, scheduled pension contributions for the Company’s retirement plans, scheduled debt repayments, anticipated quarterly dividend payments, potential share repurchases, and to support the development of its short-term and long-term operating strategies.
~~The Company contributed an additional $68 million to its U.S. and Canadian qualified pension plans in February 2006.~~     Planned capital expenditures for ~~2006~~2007 are ~~$180~~approximately $170 million, of which ~~$155~~$144 million relates to new store openings and modernizations of existing stores, and ~~$25~~$26 million reflects the development of information systems and other support
12

facilities. ~~In addition, planned lease acquisition costs are $10 million and primarily relate to the Company’s operations in Europe.~~ The Company has the ability to revise and reschedule the anticipated capital expenditure program, should the Company’s financial position require it.
Maintaining access to merchandise that the Company considers appropriate for its business may be subject to the policies and practices of its key vendors. Therefore, the Company believes that it is critical to continue to maintain satisfactory relationships with its key vendors. The Company purchased approximately 78 percent in 2006 and 75 percent in 2005 ~~and 74 percent in 2004~~ of its merchandise from its top five vendors, in each respective year, and expects to continue to obtain a significant percentage of its athletic product from these vendors in future periods. ~~Of that amount, approximately~~Approximately 50 percent in 2006 and 49 percent in 2005 ~~and 45 percent in 2004~~ was purchased from one vendor — Nike, Inc. ~~(“Nike”) — and 8 percent and 13 percent~~During 2006, two of our key vendors merged, the Company’s purchases from ~~another in 2005 and 2004, respectively.~~
this vendor totaled 14 percent.
Any materially adverse change in customer demand, fashion trends, competitive market forces or customer acceptance of the Company’s merchandise mix and retail locations, uncertainties related to the effect of competitive products and pricing, the Company’s reliance on a few key vendors for a significant portion of its merchandise purchases, risks associated with foreign global sourcing or economic conditions worldwide could affect the ability of the Company to continue to fund its needs from business operations.
Cash Flow
Operating activities from continuing operations provided cash of ~~$354~~$189 million in ~~2005~~2006 as compared with ~~$289~~$349 million in ~~2004.~~2005. These amounts reflect income from continuing operations adjusted for non-cash items and working capital changes. During 2006, the Company recorded a non-cash impairment charge of $17 million related to the operations in Europe. The decline in operating cash flows of $160 million is primarily due to a reduction of accounts payable at year-end reflecting an acceleration of inventory receipts earlier in the fourth quarter of 2006. In addition, due to the calendar shift related to the 53^rd week, approximately $47 million of the decline represents the timing of lease payments. Additionally, the Company contributed $68 million to its U.S. and Canadian qualified pension plans in 2006, as compared with contributions of $26 million in 2005.
     Operating activities from continuing operations provided cash of $349 million in 2005 as compared with $272 million in 2004. The net increase in operating cash flows of ~~$65~~$77 million is primarily due to improved operating performance and changes in working capital primarily related to changes in merchandise inventories, offset by the related payables and lower pension contributions of $26 million in 2005 as compared with $106 million in 2004.
Operating activities from continuing operations provided cash of $289 million in 2004 as compared with $264 million in 2003. The net increase is primarily related to the increase in net income as compared with the prior year, offset in part by an additional $56 million in pension contributions and increased working capital usage. Merchandise inventories increased by $120 million to support the recent acquisitions, offset by an increase in accounts payable. The change in other primarily reflects a prepaid income tax that represents an overpayment of tax, which the Company applied to its 2005 payments.
Net cash used in investing activities of the Company’s continuing operations was ~~$187~~$108 million in 2006 as compared with $182 million in 2005. The Company’s purchase of short-term investments, net of sales, decreased by $49 million in 2006 as compared with an increase of $31 million in 2005. Capital expenditures of $165 million in 2006 and $155 million in 2005 primarily related to store remodeling and new stores. During 2006, the Company received net proceeds of $4 million as a result of a lease termination. The Company also received $4 million of insurance proceeds from its insurance carriers related to the final settlement of the property and equipment claims for the 2005 hurricane.
     Net cash used in investing activities of the Company’s continuing operations was $182 million in 2005 as compared with ~~$424~~$407 million in 2004. During 2004, the Company paid $226 million for the purchase of 349 Footaction stores from Footstar, Inc. and paid ~~e13~~€13 million (approximately $16 million) for the purchase of 11 stores in the Republic of Ireland.
14
During 2005, the Company ~~resolved the remaining Footaction lease matter and~~ received $1 million from an escrow account upon the ~~escrow account.~~resolution of a Footaction lease matter relating to the 2004 acquisition. The Company’s purchase of short-term investments, net of sales, increased by $31 million in 2005 as compared with an increase of $9 million in 2004. Capital expenditures of $155 million in 2005 and $156 million in 2004 primarily related to store remodeling and new stores. Lease acquisition costs, primarily to secure and extend leases for prime locations in Europe, were $8 million and $17 million in 2005 and 2004, respectively. Proceeds from the settlement of foreign currency option contracts, net of premiums paid, was $3 million in 2005. The Company also received $3 million of insurance proceeds related to the hurricanes in 2005, representing the portion of insurance recoveries in excess of losses recorded.
Net cash used in ~~investing~~financing activities of ~~the Company’s~~ continuing operations was ~~$424~~$142 million in ~~2004~~2006 as compared with ~~$265~~$105 million in ~~2003.~~2005. During ~~2004,~~2006, the Company repaid $50 million of its term loan and purchased and retired $38 million of its 8.50 percent debentures payable in 2022 at a $2 million discount from face value. As required by SFAS No. 123(R), the Company recorded an excess tax benefit related to stock-based compensation of $2 million as a financing activity. The Company declared and paid ~~$242 million for acquisitions of the Footaction stores and the stores in the Republic of Ireland. The Company’s purchase of short-term investments, net of sales, increased by $9~~dividends totaling $61 million in ~~2004 as compared with an increase of $106~~2006 and $49 million in ~~2003. Capital expenditures~~2005. During 2006 and 2005, the Company received proceeds from the issuance of ~~$156 million~~common stock and treasury stock in ~~2004 and $144 million in 2003 primarily related to store remodeling and new stores. Lease acquisition costs, primarily to secure and extend leases for prime locations in Europe, were $17~~connection with the employee stock programs of $12 million and ~~$15~~$14 million, ~~in 2004~~respectively. On February 15, 2006, the Company announced that its Board of Directors authorized a $150 million, three-year share repurchase program. This program was subsequently terminated on March 7, 2007, upon the Board of Directors authorization of a new $300 million, three-year share repurchase program. Under the share repurchase program, subject to legal and ~~2003, respectively.~~
contractual restrictions, the Company may make purchases of its common stock, from time to time, depending on market conditions, availability of other investment opportunities and other factors. During 2006, the Company purchased 334,200 shares of its common stock for approximately $8 million.
Net cash used in financing activities of continuing operations was $105 million in 2005 as compared with net cash provided of $167 million in 2004. The Company repaid $35 million of its 5-year, $175 million term loan during 2005 and declared and paid dividends totaling $49 million in 2005 and $39 million in 2004. During 2005 and 2004, the Company received proceeds from the issuance of common and treasury stock in connection with employee stock programs of $14 million and $33 million, respectively. As part of ~~its Board-authorized~~the $50 million stock repurchase program in effect in 2005, the Company purchased 1.6 million shares of its common stock during 2005 for approximately $35 million. ~~On February 15, 2006, the~~
13

Company announced that its Board of Directors authorized a new $150 million, 3-year share repurchase program. Under the share repurchase program, subject to legal and contractual restrictions, the Company may make purchases of its common stock, from time to time, depending on market conditions, availability of other investment opportunities and other factors.
Net cash provided by financing activities of continuing operations was $167 million in 2004 as compared with net cash used of $13 million in 2003. The Company elected to finance a portion of the purchase price of the Footaction stores, and on May 19, 2004 obtained a 5-year, $175 million term loan from the bank group participating in its existing revolving credit facility. Concurrent with obtaining the term loan, the Company amended and extended the revolving credit facility to expire in 2009. Financing fees paid for both the term loan and the revolving credit facility amounted to $2 million. During 2003, the Company repurchased $19 million of its 8.50 percent debentures that are due in 2022. The Company declared and paid dividends totaling $39 million in 2004 and $21 million in 2003. During 2004 and 2003, the Company received proceeds from the issuance of common and treasury stock in connection with employee stock programs of $33 million and $27 million, respectively.
Capital Structure
During 2004, the Company obtained a 5-year, $175 million term loan to finance a portion of the purchase price of the Footaction stores. Concurrent with the financing of a portion of the Footaction acquisition, the Company amended its revolving credit agreement, thereby extending the maturity date to May 2009 from July 2006. The agreement includes various restrictive financial covenants with which the Company was in compliance on ~~January 28, 2006.~~February 3, 2007. During 2005, the Company prepaid the first and second principal payments totaling $35 million, which would have been due in May 2005 and May 2006. ~~In February~~During 2006, the Company repaid an additional $50 million of the term loan, thereby reducing the loan to $90 million.
     During 2006, the Company purchased and retired $38 million of the $200 million 8.50 percent debentures payable in 2022 at a $2 million discount from face value bringing the outstanding amount to $134 million as of February 3, 2007.
In 2004, the Company redeemed its entire $150 million ~~outstanding~~ 5.50 percent convertible subordinated notes. All of the convertible subordinated notes were cancelled and approximately 9.5 million new shares of the Company’s common stock were issued. The Company reclassified the remaining $3 million of unamortized deferred costs related to the original issuance of the convertible debt to equity as a result of the conversion.
Credit Rating
The Company’s corporate credit ~~rating~~ratings from Standard & Poor’s isand Moody’s Investors Service are BB+ and Ba1, ~~from Moody’s Investors Service.~~
respectively.
Debt Capitalization and Equity
For purposes of calculating debt to total capitalization, the Company includes the present value of operating lease commitments. These commitments are the primary financing vehicle ~~used to fund store expansion.~~for the Company. The following table sets forth the components of the Company’s capitalization, both with and without the present value of operating ~~leases;~~
leases:
15

2006            2005
(in millions)
Cash, cash equivalents and short-term investments, net of debt and
       capital lease obligations $ 236 $ 261
Present value of operating leases 2,069 1,934
Total net debt 1,833 1,673
Shareholders’ equity 2,295 2,027
Total capitalization $ 4,128 $ 3,700
Net debt capitalization percent 44.4 % 45.2 %
Net debt capitalization percent without operating leases — % — %

     2005
     2004

     (in millions)

Cash, cash equivalents and short-term investments, net of debt and
capital lease obligations                  $ 261            $ 127
Present value of operating leases                     1,934              1,989
Total net debt                     1,673              1,862
Shareholders’ equity                     2,027              1,830
Total capitalization                  $ 3,700           $ 3,692

Net debt capitalization percent                     45.2 %             50.4 %
Net debt capitalization percent without operating leases                     —%               —%

     Excluding the present value of operating leases, the Company’s cash, cash equivalents, and short-term investments, net of debt and capital lease obligations, decreased to $236 million at February 3, 2007 from $261 million at January 28, 2006. The Company reduced debt and capital lease obligations by $92 million, and decreased cash, cash equivalents, and short-term investments by $117 million. Additionally, the present value of the operating leases increased by $135 million representing the net change of lease renewals and the effect of foreign currency fluctuations primarily related to the euro. Including the present value of operating leases, the Company’s net debt capitalization percent decreased 80 basis points in 2006. The increase in shareholders’ equity relates to net income of $251 million in 2006, $17 million related to stock plans, an increase of $27 million in the foreign exchange currency translation adjustment, primarily related to the value of the euro in relation to the U.S. dollar and a decrease of $6 million resulting from the adoption of SAB 108. The Company recorded a reduction to shareholders’ equity as permitted by SAB 108 to correct for previous misstatements. The Company declared and paid dividends totaling $61 million during 2006. The Company repurchased 334,200 million shares for approximately $8 million during the year. During 2006, the Company adopted SFAS No. 158 which resulted in the elimination of the additional minimum liability adjustment of $181 million. SFAS No.158 requires that unamortized prior service cost and unamortized gains or losses for both the pension and postretirement plans, which totaled $133 million, be recognized as a component of other comprehensive income. The Company contributed $51 million and $17 million to the Company’s U.S. and Canadian qualified pension plans, respectively, in 2006.
Excluding the present value of operating leases, the Company’s cash, cash equivalents and short-term investments, net of debt and capital lease obligations, increased to $261 million at January 28, 2006 from $127 million at January 29, 2005. The Company reduced debt and capital lease obligations by $39 million, while increasing cash, cash equivalents and short-term investments by $95 million. Additionally, the present value of the operating leases decreased by $55 million representing the net change of lease renewals, the effect of foreign currency fluctuations primarily related to the euro and the result of the closure of 25 stores due to the hurricanes. Including the present value of operating leases, the Company’s net debt capitalization percent ~~improved~~decreased 520 basis points in 2005. The increase in shareholders’ equity relates to net income of $264 million in 2005, ~~$27~~$26 million related to ~~employee~~ stock plans, and a decrease of $25 million
14

in the foreign exchange currency translation adjustment, primarily related to the value of the euro in relation to the U.S. dollar. The Company declared and paid dividends totaling $49 million during ~~2005. The~~2005.The Company repurchased approximately 1.6 million shares for $35 million during the year. During 2005, the Company reduced its minimum liability for the Company’s pension plans by $15 million, primarily as a result of the plans’ asset performance. The Company contributed $19 million and $7 million to the Company’s U.S. and Canadian qualified pension plans, respectively, in 2005.
Excluding the present value of operating leases, the Company’s cash, cash equivalents and short-term investments, net of debt and capital lease obligations, increased to $127 million at January 29, 2005 from $113 million at January 31, 2004. The Company increased debt and capital lease obligations by $25 million while increasing cash, cash equivalents and short-term investments by $44 million. This improvement was offset by an increase of $306 million in the present value of operating leases primarily related to the Footaction acquisition and additional lease renewals entered into during 2004. Including the present value of operating leases, the Company’s net debt capitalization percent improved 2.9 percentage points in 2004. Total capitalization increased by $742 million in 2004, which was primarily attributable to an increase in shareholders’ equity. The increase in shareholders’ equity relates to net income of $293 million in 2004, an increase of $147 million resulting from the conversion of $150 million subordinated notes to equity, net of unamortized deferred issuance costs, $49 million related to employee stock plans, and an increase of $19 million in the foreign exchange currency translation adjustment, primarily related to the strength of the euro. The Company declared and paid dividends totaling $39 million during 2004. The Company also recorded an increase of $14 million to the minimum liability for the Company’s pension plans during 2004. This increase was primarily a result of the 40 basis point decrease in the discount rate used to calculate present value of the obligations as of January 29, 2005, offset, in part, by an increase in the plans’ asset performance. The Company contributed $44 million and $6 million to the Company’s U.S. and Canadian qualified pension plans, respectively, in February 2004 and an additional $56 million to the Company’s U.S. qualified pension plan in September 2004, in advance of ERISA requirements.
16
Contractual Obligations and Commitments
The following tables represent the scheduled maturities of the Company’s contractual cash obligations and other commercial commitments as of ~~January 28, 2006:~~February 3, 2007:
           Payments Due by Period
Less than            2 –3            3 –5            After 5
Contractual Cash Obligations Total 1Year Years Years Years
(in millions)
Long-term debt⁽¹⁾ $ 220 $ — $ 90 $ — $ 130
Operating leases 2,739 486 803 621 829
Capital lease obligations 14 14
—

—
—
Other long-term liabilities⁽²⁾ — — — — —
Total contractual cash obligations $ 2,973 $ 500 $ 893 $ 621 $ 959
____________________


     Payments Due by Period

Contractual Cash Obligations
     Total
     Less than
1 Year
     2 – 3
Years
     3 – 5
Years
     After 5
Years

     (in millions)

Long-term debt⁽¹⁾
                 $ 311            $ —            $ 52            $ 88            $ 171
Operating leases                     2,600              454               782               561               803
Capital lease obligations                     15               1               14               —               —
Other long-term liabilities⁽²⁾
                    —               —               —               —               —
Total contractual cash obligations                  $ 2,926           $ 455            $ 848            $ 649            $ 974

(1)       The amounts presented above represent the contractual maturities of the Company’s long-term debt, excluding interest. Additional information is included in the “Long-Term Debt and Obligations under Capital Leases” footnote under “Item 8. Consolidated Financial Statements and Supplementary Data.”

(2) The Company’s other liabilities in the Consolidated Balance Sheet as of ~~January 28, 2006~~February 3, 2007 primarily comprise pension and postretirement benefits, deferred rent liability, income taxes, workers’ compensation and general liability reserves and various other accruals. These liabilities have been excluded from the above table as the timing and/or amount of any cash payment is uncertain. The timing of the remaining amounts that are known have not been included as they are minimal and not useful to the presentation. Additional information ~~on the balance sheet caption~~ is included in the “Other Liabilities” footnote under “Item 8. Consolidated Financial Statements and Supplementary Data.”
Total            Amount of Commitment Expiration by Period
Amounts Less than            2 –3            3 –5            After 5
Other Commercial Commitments Committed 1Year Years Years Years
(in millions)
Line of credit $ 186 $ — $ 186 $ — $ —
Stand-by letters of credit 14 — 14 — —
Purchase commitments⁽³⁾ 1,676 1,670 5 1 —
Other⁽⁴⁾ 53 25 21 7 —
Total commercial commitments $ 1,929 $ 1,695 $ 226 $ 8 $ —
____________________


     Amount of Commitment Expiration by Period

Other Commercial Commitments
     Total
Amounts
Committed
     Less than
1 Year
     1 – 3
Years
     3 – 5
Years
     After 5
Years

     (in millions)

Line of credit                  $ 186            $ —            $ —            $ 186            $ —
Stand-by letters of credit                     14               —               —               14               —
Purchase commitments⁽³⁾
                    1,733              1,726              6               1               —
Other⁽⁴⁾
                    60               28               23               9               —
Total commercial commitments                  $ 1,993           $ 1,754           $ 29            $ 210            $ —

(3)       Represents open purchase orders, as well as minimum required purchases under merchandise contractual agreements, at ~~January 28, 2006.~~February 3, 2007. The Company is obligated under the terms of purchase orders; however, the Company is generally able to renegotiate the timing and quantity of these orders with certain vendors in response to shifts in consumer preferences.

(4) Represents payments required by non-merchandise purchase agreements and minimum royalty requirements. ~~Effective March 31, 2006, the Company terminated its agreement with the NFL.~~

15

The Company does not have any off-balance sheet financing, other than operating leases entered into in the normal course of business as disclosed above, or unconsolidated special purpose entities. The Company does not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, including variable interest entities. The Company’s policy prohibits the use of derivatives for which there is no underlying exposure.
In connection with the sale of various businesses and assets, the Company may be obligated for certain lease commitments transferred to third parties and pursuant to certain normal representations, warranties, or indemnifications entered into with the purchasers of such businesses or assets. Although the maximum potential amounts for such obligations cannot be readily determined, management believes that the resolution of such contingencies will not significantly affect the Company’s consolidated financial position, liquidity, or results of operations. The Company is also operating certain stores for which lease agreements are in the process of being negotiated with landlords. Although there is no contractual commitment to make these payments, it is likely that leases will be executed.
Critical Accounting Policies
Management’s responsibility for integrity and objectivity in the preparation and presentation of the Company’s financial statements requires diligent application of appropriate accounting policies. Generally, the Company’s accounting policies and methods are those specifically required by U.S. generally accepted accounting principles (“GAAP”). Included in the “Summary of Significant Accounting Policies” footnote in “Item 8. Consolidated Financial
17
Statements and Supplementary Data” is a summary of the Company’s most significant accounting policies. In some cases, management is required to calculate amounts based on estimates for matters that are inherently uncertain. The Company believes the following to be the most critical of those accounting policies that necessitate subjective judgments.
Merchandise Inventories
Merchandise inventories for the Company’s Athletic Stores are valued at the lower of cost or market using the retail inventory method. The retail inventory method (“RIM”) is commonly used by retail companies to value inventories at cost and calculate gross margins due to its practicality. Under the retail method, cost is determined by applying a cost-to-retail percentage across groupings of similar items, known as departments. The cost-to-retail percentage is applied to ending inventory at its current owned retail valuation to determine the cost of ending inventory on a department basis. The RIM is a system of averages that requires management’s estimates and assumptions regarding markups, markdowns and shrink, among others, and as such, could result in distortions of inventory amounts. Significant judgment is required for these estimates and assumptions, as well as to differentiate between promotional and other markdowns that may be required to correctly reflect merchandise inventories at the lower of cost or market. The Company provides reserves based on current selling prices when the inventory has not been marked down to market. The failure to take permanent markdowns on a timely basis may result in an overstatement of cost under the retail inventory method. The decision to take permanent markdowns includes many factors, including the current environment, inventory levels and the age of the item. Management believes this method and its related assumptions, which have been consistently applied, to be reasonable.
Vendor Reimbursements
In the normal course of business, the Company receives allowances from its vendors for markdowns taken. Vendor allowances are recognized as a reduction in cost of sales in the period in which the markdowns are taken. The effect of vendor allowances onwas an improvement in gross margin in 2006, as a percentage of sales, of 20 basis points as compared with ~~the corresponding prior year period was not significant.~~2005. The Company also has volume-related agreements with certain vendors, under which it receives rebates based on fixed percentages of cost purchases. These volume-related rebates are recorded in cost of sales when the product is sold and they contributed 10 basis points to the ~~2005~~2006 gross margin rate.
The Company receives support from some of its vendors in the form of reimbursements for cooperative advertising and catalog costs for the launch and promotion of certain products. The reimbursements are agreed upon with vendors for specific advertising campaigns and catalogs. Cooperative income, to the extent that ~~they reimburse~~it reimburses specific, incremental and identifiable costs incurred to date, ~~are~~is recorded in SG&A in the same period as the associated expenses are incurred. Reimbursements received that are in excess of specific, incremental and identifiable costs incurred to date are recognized as a reduction to the cost of merchandise and are reflected in cost of sales as the merchandise is sold. Cooperative reimbursements amounted to approximately 27 percent of total advertising costs in ~~2005~~2006 and approximately 9 percent of catalog costs in ~~2005.~~
2006.
16

Impairment of Long-Lived Assets
In accordance with SFAS No. 144, the Company recognizes an impairment loss when circumstances indicate that the carrying value of long-lived tangible and intangible assets with finite lives may not be recoverable. Management’s policy in determining whether an impairment indicator exists, a triggering event, comprises measurable operating performance criteria as well as qualitative measures. If an analysis is necessitated by the occurrence of a triggering event, the Company uses assumptions, which are predominately identified from the Company’s three-year strategic plans, in determining the impairment amount. The calculation of fair value of long-lived assets is based on estimated expected discounted future cash flows by store, which is generally measured by discounting the expected future cash flows at the Company’s weighted-average cost of capital. Management believes its policy is reasonable and is consistently applied. Future expected cash flows are based upon estimates that, if not achieved, may result in significantly different results. ~~Long-lived tangible assets and intangible assets with finite lives primarily include property and equipment and intangible lease acquisition costs.~~
The Company is required to perform an impairment review of its goodwill at least annually. The Company has chosen to perform this review at the beginning of each fiscal year, and it is done in a two-step approach. The initial step requires that the carrying value of each reporting unit be compared with its estimated fair value. The second step — to evaluate goodwill of a reporting unit for impairment — is only required if the carrying value of that reporting unit
18
exceeds its estimated fair value. The fair value of each of the Company’s reporting units exceeded its carrying value as of the beginning of the year. The Company used a combination of a discounted cash flow approach and market-based approach to determine the fair value of a reporting unit. The latter requires judgment and uses one or more methods to compare the reporting unit with similar businesses, business ownership interests or securities that have been sold.
     During 2006, the Company recorded an impairment charge of $17 million ($12 million after-tax) to write-down long-lived assets such as store fixtures and leasehold improvements in 69 stores in the European operations to their estimated fair value.
Share-Based Compensation
     The Company estimates the fair value of options granted using the Black-Scholes option pricing model. The Company estimates the expected term of options granted using its historical exercise and post-vesting employment termination patterns, which the Company believes are representative of future behavior. Changing the expected term by one year changes the fair value by 10 to 15 percent depending if the change was an increase or decrease to the expected term. The Company estimates the expected volatility of its common stock at the grant date using a weighted-average of the Company’s historical volatility and implied volatility from traded options on the Company’s common stock. A 50 basis point change in volatility would have a 1 percent change to the fair value. The risk-free interest rate assumption is determined using the Federal Reserve nominal rates for U.S. Treasury zero-coupon bonds with maturities similar to those of the expected term of the award being valued. The expected dividend yield is derived from the Company’s historical experience. A 50 basis point change to the dividend yield would change the fair value by approximately 5 percent. The Company records stock-based compensation expense only for those awards expected to vest using an estimated forfeiture rate based on its historical pre-vesting forfeiture data, which it believes are representative of future behavior, and periodically will revise those estimates in subsequent periods if actual forfeitures differ from those estimates.
     The Black-Scholes option valuation model requires the use of subjective assumptions. Changes in these assumptions can materially affect the fair value of the options. The Company may elect to use different assumptions under the Black-Scholes option pricing model in the future if there is a difference between the assumptions used in determining stock-based compensation cost and the actual factors that become known over time.
     The guidance in SFAS No. 123(R) is relatively new and best practices are not well established. The application of these principles may be subject to further interpretation and refinement over time. There are significant differences among valuation models and there is a possibility that the Company will adopt different valuation models and assumptions in the future. This may result in both a lack of comparability with other companies that use different models, methods, and assumptions, and in a lack of consistency in future periods.
Pension and Postretirement Liabilities
The Company determines its obligations for pension and postretirement liabilities based upon assumptions related to discount rates, expected long-term rates of return on invested plan assets, salary increases, age, and mortality among others. Management reviews all assumptions annually with its independent actuaries, taking into consideration existing and future economic conditions and the Company’s intentions with regard to the plans. Management believes that its estimates for ~~2005,~~2006, as disclosed in “Item 8. Consolidated Financial Statements and Supplementary Data,” to be reasonable.
     Long-Term Rate of Return Assumption - The expected long-term rate of return on invested plan assets is a component of pension expense and the rate is based on the plans’ weighted-average target asset allocation of 64 percent equity securities and 36 percent fixed income investments, as well as historical and future expected performance of those assets. The target asset allocation is selected to obtain an investment return that is sufficient to cover the expected benefit payments based on the timing of settlements and to reduce future contributions by the Company. The Company’s common stock represented approximately 21 percent of the total pension plans’ assets at ~~January 28, 2006.~~February 3, 2007. A decrease of 50 basis points in the weighted-average expected long-term rate of return would have increased ~~2005~~2006 pension expense by approximately $3 million. The actual return on plan assets in a given year may differ from the expected long-term rate of return and the resulting gain or loss is deferred and amortized into the plans’ performance over time.
19
     Discount Rate - An assumed discount rate is used to measure the present value of future cash flow obligations of the plans and the interest cost component of pension expense and postretirement income. The discount rate selected to measure the present value of the Company’s benefit obligations as of ~~January 28, 2006~~February 3, 2007 was derived using a cash flow matching method whereby the Company compares the plans’ projected payment obligations by year with the corresponding yield on the Citibank Pension Discount Curve. The cash flows are then discounted to their present value and an overall discount rate is determined. A decrease of 50 basis points in the weighted-average discount rate would have increased the accumulated benefit obligation as of ~~January 28, 2006~~February 3, 2007 of the pension plan by approximately ~~$30~~$28 million and the effect on the postretirement plan would not be significant. Such a decrease would not have significantly changed ~~2005~~2006 pension expense or postretirement income.
     There is limited risk to the Company for increases in healthcare costs related to the postretirement plan as, beginning in 2001, new retirees have assumed the full expected costs and then existing retirees and future retirees have assumed all increases in such costs since the beginning of 2001. The additional minimum liability included in shareholders’ equity at January 28, 2006 for the pension plans represented the amount by which the accumulated benefit obligation exceeded the fair market value of the plan assets. During 2005, the Company contributed $19 million to the U.S. qualified pension plan and in February 2006 contributed an additional $51 million, these contributions were in advance of ERISA requirements. Also during 2005, the Company contributed $7 million to the Canadian qualified pension plan and in February 2006 contributed an additional $17 million.
costs.
17

The Company expects to record postretirement income of approximately ~~$11~~$8 million and pension expense of approximately $1$6 million in ~~2006. Pension expense in 2006 reflects the Company’s February 2006 contributions. These contributions have reduced 2006 estimated pension expense by approximately $6 million.~~
2007.
Income Taxes
In accordance with GAAP, deferred tax assets are recognized for tax credit and net operating loss carryforwards, reduced by a valuation allowance, which is established when it is more likely than not that some portion or all of the deferred tax assets will not be realized. Management is required to estimate taxable income for future years by taxing jurisdiction and to use its judgment to determine whether or not to record a valuation allowance for part or all of a deferred tax asset. A one percent change in the Company’s overall statutory tax rate for ~~2005~~2006 would have resulted in a $4$3 million change in the carrying value of the net deferred tax asset and a corresponding charge or credit to income tax expense depending on whether such tax rate change was a decrease or increase.
The Company has operations in multiple taxing jurisdictions and is subject to audit in these jurisdictions. Tax audits by their nature are often complex and can require several years to resolve. Accruals of tax contingencies require management to make estimates and judgments with respect to the ultimate outcome of tax audits. Actual results could vary from these estimates.
The Company expects its ~~2006~~2007 effective tax rate to be approximately 37.5 percent. The actual rate will primarily depend upon the percentage of the Company’s income earned in the United ~~Stated~~States as compared with international operations.
Discontinued, Repositioning and Restructuring Reserves
The Company exited four business segments as part of its discontinuation and restructuring programs. The final discontinued segment and disposition of the restructured businesses were completed in 2001. In order to identify and calculate the associated costs to exit these businesses, management made assumptions regarding estimates of future liabilities for operating leases and other contractual agreements, the net realizable value of assets held for sale or disposal and the fair value of non-cash consideration received. The Company has settled the majority of these liabilities and the remaining activity relates to the disposition of the residual lease liabilities.
As a result of achieving divestiture accounting in the fourth quarter of 2002, the Northern Group note was recorded at its fair value. The Company is required to review the collectibility of the note based upon various criteria such as the credit-worthiness of the issuer or a delay in payment of the principal or interest. Future adjustments, if any, to the carrying value of the note will be recorded pursuant to SEC Staff Accounting Bulletin Topic 5:Z:5, “Accounting and Disclosure Regarding Discontinued Operations,” which requires changes in the carrying value of assets received as consideration from the disposal of a discontinued operation to be classified within continuing operations. The Company has evaluated the projected performance of the business and will continue to monitor its results during the coming year. At ~~January 28, 2006,~~February 3, 2007, CAD$15.5 million remains outstanding on the note, the fair value of which is US$1011 million.
The remaining discontinued reserve balances at ~~January 28, 2006~~February 3, 2007 totaled ~~$22~~$15 million of which $8$3 million is expected to be utilized within the next twelve months. The remaining repositioning and restructuring reserves totaled $4 million at ~~January 28, 2006,~~February 3, 2007, whereby $1 million is expected to be utilized within the next twelve months.
20
Disclosure Regarding Forward-Looking Statements
This report ~~including the Shareholders’ Letter,~~ contains forward-looking statements within the meaning of the federal securities laws. All statements, other than statements of historical facts, which address activities, events or developments that the Company expects or anticipates will or may occur in the future, including, but not limited to, such things as future capital expenditures, expansion, strategic plans, dividend payments, stock repurchases, growth of the Company’s business and operations, including future cash flows, revenues and earnings, and other such matters are forward-looking statements. These forward-looking statements are based on many assumptions and factors detailed in the Company’s filings with the Securities and Exchange Commission, including the effects of currency fluctuations, customer demand, fashion trends, competitive market forces, uncertainties related to the effect of competitive products and pricing, customer acceptance of the Company’s merchandise mix and retail locations, the Company’s reliance on a few key vendors for a majority of its merchandise purchases (including a significant portion from one key vendor), unseasonable weather, economic conditions worldwide, any changes in business, political and economic conditions due
18

to the threat of future terrorist activities in the United States or in other parts of the world and related U.S. military action overseas, the ability of the Company to execute its business plans effectively with regard to each of its business units, risks associated with foreign global sourcing, including political instability, changes in import regulations, and disruptions to transportation services and distribution. Any changes in such assumptions or factors could produce significantly different results. The Company undertakes no obligation to update forward-looking statements, whether as a result of new information, future events, or otherwise.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Information regarding interest rate risk management and foreign exchange risk management is included in the “Financial Instruments and Risk Management” footnote under “Item 8. Consolidated Financial Statements and Supplementary Data.”
19
21

Item 8. Consolidated Financial Statements and Supplementary Data
MANAGEMENT’S REPORT
The integrity and objectivity of the financial statements and other financial information presented in this annual report are the responsibility of the management of the Company. The financial statements have been prepared in conformity with U.S. generally accepted accounting principles and include, when necessary, amounts based on the best estimates and judgments of management.
The Company maintains a system of internal controls designed to provide reasonable assurance, at appropriate cost, that assets are safeguarded, transactions are executed in accordance with management’s authorization and the accounting records provide a reliable basis for the preparation of the financial statements. The system of internal accounting controls is continually reviewed by management and improved and modified as necessary in response to changing business conditions. The Company also maintains an internal audit function to assist management in evaluating and formally reporting on the adequacy and effectiveness of internal accounting controls, policies and procedures.
The Company’s financial statements have been audited by KPMG LLP, the Company’s independent registered public accounting firm, whose report expresses their opinion with respect to the fairness of the presentation of these financial statements.
The Audit Committee of the Board of Directors, which comprises solely independent non-management directors who are not officers or employees of the Company, meets regularly with the Company’s management, internal auditors, legal counsel and KPMG LLP to review the activities of each group and to satisfy itself that each is properly discharging its responsibility. In addition, the Audit Committee meets on a periodic basis with KPMG LLP, without management’s presence, to discuss the audit of the financial statements as well as other auditing and financial reporting matters. The Company’s internal auditors and independent registered public accounting firm have direct access to the Audit Committee.

MATTHEW D. SERRA,
ROBERT W. MCHUGH,
Chairman of the Board,
Senior Vice President and
President and Chief Executive Officer ~~ROBERT W. MCHUGH~~
~~Senior Vice President and~~
Chief Financial Officer

~~March 27, 2006~~
20
April 2, 2007
22

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING
The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Securities Exchange Act of 1934. The Company’s 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 U.S. generally accepted accounting principles. The Company’s internal control over financial reporting includes those policies and procedures that: (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with U.S. 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 (iii) provide reasonable 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. Management assessed the effectiveness of the Company’s internal control over financial reporting as of ~~January 28, 2006.~~February 3, 2007. 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. Based on our assessment and those criteria, management believes that the Company maintained effective internal control over financial reporting as of ~~January 28, 2006.~~
February 3, 2007.
The Company’s independent registered public accounting firm has issued their attestation report on management’s assessment of the Company’s internal control over financial reporting. That report appears in this Annual Report on Form 10-K under the heading,Report of Independent Registered Public Accounting Firm on Internal Control Over Financial Reporting.

MATTHEW D. SERRA,
ROBERT W. MCHUGH,
Chairman of the Board,
Senior Vice President and
President and Chief Executive Officer ~~ROBERT W. MCHUGH,~~
~~Senior Vice President and~~
Chief Financial Officer

~~March 27, 2006~~
21
April 2, 2007
23

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM
The Board of Directors and Shareholders of
Foot Locker, Inc.
We have audited the accompanying consolidated balance sheets of Foot Locker, Inc. and subsidiaries as of February 3, 2007 and January 28, 2006, ~~and January 29, 2005,~~ and the related consolidated statements of operations, comprehensive income, shareholders’ equity, and cash flows for each of the years in the three-year period ended ~~January 28, 2006.~~February 3, 2007. These consolidated financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated 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, on 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 consolidated financial statements referred to above present fairly, in all material respects, the financial position of Foot Locker, Inc. and subsidiaries as of February 3, 2007 and January 28, 2006, ~~and January 29, 2005,~~ and the results of their operations and their cash flows for each of the years in the three-year period ended ~~January 28, 2006,~~February 3, 2007, in conformity with U.S. generally accepted accounting principles.
As discussed in the notes to the consolidated financial statements, effective January 29, 2006, the Company adopted Statement of Financial Accounting Standards (“SFAS”) No. 123(R), “Share-Based Payment,” and SFAS No. 151, “Inventory Costs - An Amendment of ARB No. 43, Chapter 4,” as well as changed their method for quantifying errors based on SEC Staff Accounting Bulletin No. 108, “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.” Also as discussed in the notes to the consolidated financial statements, effective February 3, 2007, the Company adopted SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Post Retirement Plans – An Amendment of FASB Statements No. 87, 88, 106, and 132(R).”
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of Foot ~~Locker,~~Locker. Inc.’s internal control over financial reporting as of ~~January 28, 2006,~~February 3, 2007, based on criteria established in Internal ~~Control —~~ Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated ~~March 27, 2006~~April 2, 2007 expressed an unqualified opinion on management’s assessment of, and the effective operation of, internal control over financial reporting.

/s/ KPMG LLP
New York, New York
~~March 27, 2006~~
April 2, 2007
22
24

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM ON
INTERNAL CONTROL OVER FINANCIAL REPORTING
The Board of Directors and Shareholders of
Foot Locker, Inc.
We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that Foot Locker, Inc. maintained effective internal control over financial reporting as of ~~January 28, 2006,~~February 3, 2007, based on criteria established in Internal ~~Control —~~ Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Foot Locker, Inc.’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal 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 ~~U.S.~~ 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 ~~U.S.~~ 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 reasonable 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.
In our opinion, management’s assessment that Foot Locker, Inc. maintained effective internal control over financial reporting as of ~~January 28, 2006,~~February 3, 2007, is fairly stated, in all material respects, based on criteria established in Internal ~~Control —~~ Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Also, in our opinion, Foot Locker, Inc. maintained, in all material respects, effective internal control over financial reporting as of ~~January 28, 2006,~~February 3, 2007, based on criteria established in Internal ~~Control —~~ Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of Foot Locker, Inc. and subsidiaries as of February 3, 2007 and January 28, 2006, ~~and January 29, 2005,~~ and the related consolidated statements of operations, comprehensive income, shareholders’ equity, and cash flows for each of the years in the three-year period ended ~~January 28, 2006,~~February 3, 2007, and our report dated ~~March 27, 2006~~April 2, 2007 expressed an unqualified opinion on those consolidated financial statements.

/s/ KPMG LLP
New York, New York
~~March 27, 2006~~
April 2, 2007
23
25

CONSOLIDATED STATEMENTS OF OPERATIONS

     2005
     2004
     2003

     (in millions, except per
share amounts)


Sales
                 $ 5,653           $ 5,355           $ 4,779
Costs and expenses

Cost of sales                     3,944              3,722              3,297
Selling, general and administrative expenses                     1,129              1,088              987
Depreciation and amortization                     171               154               152
Restructuring charges                     —               2               1
Interest expense, net                     10               15               18
                    5,254              4,981              4,455
Other income                     (6 )             —               —
                    5,248              4,981              4,455
Income from continuing operations before income taxes                     405               374               324
Income tax expense                     142               119               115
Income from continuing operations
                    263               255               209

Income (loss) on disposal of discontinued operations,
net of income tax benefit of $3, $37, and $4, respectively                     1               38               (1 )
Cumulative effect of accounting change,
net of income tax benefit of $ —                     —               —               (1 )
Net income
                 $ 264            $ 293            $ 207

Basic earnings per share:

Income from continuing operations                  $ 1.70           $ 1.69           $ 1.47
Income (loss) from discontinued operations                     0.01              0.25              (0.01 )
Cumulative effect of accounting change                     —               —               —
Net income                  $ 1.71           $ 1.94           $ 1.46
Diluted earnings per share:

Income from continuing operations                  $ 1.67           $ 1.64           $ 1.40
Income (loss) from discontinued operations                     0.01              0.24              (0.01 )
Cumulative effect of accounting change                     —               —               —
Net income                  $ 1.68           $ 1.88           $ 1.39

2006             2005            2004
(in millions, except per share amounts)
Sales $ 5,750 $ 5,653 $ 5,355
Costs and expenses
Cost of sales 4,014 3,944 3,722
Selling, general and administrative expenses 1,163 1,129 1,090
Depreciation and amortization 175 171 154
Impairment charge 17 — —
Interest expense, net 3 10 15
5,372 5,254 4,981
Other income (14 ) (6 ) —
5,358 5,248 4,981
Income from continuing operations before income taxes 392 405 374
Income tax expense 145 142 119
Income from continuing operations 247 263 255
Income on disposal of discontinued operations,
net of income tax benefit of $1, $3, and $37, respectively 3 1 38
Cumulative effect of accounting change,
net of income tax benefit of $ — 1 — —
Net income $ 251 $ 264 $ 293
Basic earnings per share:
Income from continuing operations $ 1.59 $ 1.70 $ 1.69
Income from discontinued operations 0.02 0.01 0.25
Cumulative effect of accounting change 0.01 — —
Net income $ 1.62 $ 1.71 $ 1.94
Diluted earnings per share:
Income from continuing operations $ 1.58 $ 1.67 $ 1.64
Income from discontinued operations 0.02 0.01 0.24
Cumulative effect of accounting change — — —
Net income $ 1.60 $ 1.68 $ 1.88

See Accompanying Notes to Consolidated Financial Statements.
24
26

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

     2005
     2004
     2003

     (in millions)

Net income
                 $ 264            $ 293            $ 207
Other comprehensive income, net of tax


Foreign currency translation adjustment:

Translation adjustment arising during the period                     (25 )             19               31

Cash flow hedges:

Change in fair value of derivatives, net of income tax                     2               (1 )             —
Reclassification adjustments, net of income tax                     (1 )             1               (1 )
Net change in cash flow hedges
                    1               —               (1 )

Minimum pension liability adjustment:

Minimum pension liability adjustment, net of deferred tax expense (benefit) of $10, $(9) and $10 million, respectively                     15               (14 )             16

Comprehensive income
                 $ 255            $ 298            $ 253

2006            2005            2004
(in millions)
Net income $ 251 $ 264 $ 293
Other comprehensive income, net of tax
Foreign currency translation adjustment:
Translation adjustment arising during the period, net of tax 27 (25 ) 19
Cash flow hedges:
Change in fair value of derivatives, net of income tax — 2 (1 )
Reclassification adjustments, net of income tax — (1 ) 1
Net change in cash flow hedges — 1 —
Minimum pension liability adjustment:
Minimum pension liability adjustment, net of deferred tax expense
(benefit) of $120, $10 and $(9) million, respectively 181 15 (14 )
Comprehensive income $ 459 $ 255 $ 298

See Accompanying Notes to Consolidated Financial Statements.
25
27

CONSOLIDATED BALANCE SHEETS

     2005
     2004

     (in millions)

ASSETS


Current assets

Cash and cash equivalents                  $ 289            $ 225
Short-term investments                     298               267
Total cash, cash equivalents and short-term investments                     587               492
Merchandise inventories                     1,254              1,151
Other current assets                     173               189
                    2,014              1,832
Property and equipment, net
                    675               715
Deferred taxes
                    147               180
Goodwill
                    263               271
Intangible assets, net
                    117               135
Other assets
                    96               104
                 $ 3,312           $ 3,237
LIABILITIES AND SHAREHOLDERS’ EQUITY


Current liabilities

Accounts payable                  $ 361            $ 381
Accrued and other liabilities                     305               285
Current portion of long-term debt and obligations under capital leases                     51               18
                    717               684

Long-term debt and obligations under capital leases
                    275               347
Other liabilities
                    293               376
Total liabilities
                    1,285              1,407

Shareholders’ equity
                    2,027              1,830
                 $ 3,312           $ 3,237

2006            2005
(in millions)
ASSETS

Current assets
Cash and cash equivalents $ 221 $ 289
Short-term investments 249 298
Total cash, cash equivalents and short-term investments 470 587
Merchandise inventories 1,303 1,254
Other current assets 261 173
2,034 2,014
Property and equipment, net 654 675
Deferred taxes 109 147
Goodwill 264 263
Intangible assets, net 105 117
Other assets 83 96
$ 3,249 $ 3,312
LIABILITIES AND SHAREHOLDERS’ EQUITY

Current liabilities
Accounts payable $ 256 $ 361
Accrued and other liabilities 246 305
Current portion of long-term debt and obligations under capital leases 14 51
516 717
Long-term debt and obligations under capital leases 220 275
Other liabilities 218 293
Total liabilities 954 1,285
Shareholders’ equity 2,295 2,027
$ 3,249 $ 3,312

See Accompanying Notes to Consolidated Financial Statements.
26
28

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

     2005
     2004
     2003


     Shares
     Amount
     Shares
     Amount
     Shares
     Amount

     (shares in thousands, amounts in millions)

Common Stock and Paid-In Capital

Par value $0.01 per share,
500 million shares authorized

Issued at beginning of year                     156,155           $ 608               144,009           $ 411               141,180           $ 378
Restricted stock issued under stock option
and award plans                     225               —               400               —               845               —
Forfeitures of restricted stock                     —               2               —               2               —               1
Amortization of stock issued under
restricted stock option plans                     —               6               —               8               —               4
Conversion of convertible debt                     —               —               9,490              150               —               —
Reclassification of convertible debt issuance costs                     —               —               —               (3 )             —               —
Issued under director and employee stock plans,
net of tax                     900               19               2,256              40               1,984              28
Issued at end of year                     157,280              635               156,155              608               144,009              411
Common stock in treasury at beginning of year                     (64 )             (2 )             (57 )             (1 )             (105 )             (1 )
Reissued under employee stock plans                     90               2               260               5               152               1
Restricted stock issued under stock option
and award plans                     —               —               —               —               —               —
Forfeitures/cancellations of restricted stock                     (135 )             (2 )             (100 )             (2 )             (80 )             (1 )
Shares of common stock used to satisfy tax withholding obligations                     (49 )             (1 )             (137 )             (3 )             —               —
Stock repurchases                     (1,590 )             (35 )             —               —               —               —
Exchange of options                     (28 )             —               (30 )             (1 )             (24 )             —
Common stock in treasury at end of year                     (1,776 )             (38 )             (64 )             (2 )             (57 )             (1 )
                    155,504              597               156,091              606               143,952              410
Retained Earnings

Balance at beginning of year                                   1,386                            1,132                            946
Net income                                   264                             293                             207
Cash dividends declared on common stock
$0.32, $0.26 and $0.15 per share, respectively                                   (49 )                           (39 )                           (21 )
Balance at end of year                                   1,601                            1,386                            1,132
Accumulated Other Comprehensive Loss

Foreign Currency Translation Adjustment

Balance at beginning of year                                   35                             16                             (15 )
Translation adjustment arising during the period                                   (25 )                           19                             31
Balance at end of year                                   10                             35                             16
Cash Flow Hedges

Balance at beginning of year                                   (1 )                           (1 )                           —
Change during year, net of tax                                   1                             —                             (1 )
Balance at end of year                                   —                             (1 )                           (1 )
Minimum Pension Liability Adjustment

Balance at beginning of year                                   (196 )                           (182 )                           (198 )
Change during year, net of tax                                   15                             (14 )                           16
Balance at end of year                                   (181 )                           (196 )                           (182 )
Total Accumulated Other Comprehensive Loss
                                  (171 )                           (162 )                           (167 )
Total Shareholders’ Equity
                               $ 2,027                         $ 1,830                         $ 1,375

2006      2005      2004
Shares      Amount Shares      Amount Shares      Amount
(shares in thousands, amounts in millions)
Common Stock and Paid-In Capital
Par value $0.01 per share, 500 million shares authorized
Issued at beginning of year 157,280 $ 635 156,155 $ 608 144,009 $ 411
Restricted stock issued under stock option and award plans — (3 ) 225 — 400 —
Forfeitures of restricted stock — — — 2 — 2
Share-based compensation expense — 10 — 6 — 8
Conversion of convertible debt — — — — 9,490 150
Reclassification of convertible debt issuance costs — — — — — (3 )
Issued under director and employee stock plans, net of tax 530 11 900 19 2,256 40
Issued at end of year 157,810 653 157,280 635 156,155 608
Common stock in treasury at beginning of year (1,776 ) (38 ) (64 ) (2 ) (57 ) (1 )
Reissued under employee stock plans 122 3 90 2 260 5
Restricted stock issued under stock option and award plans 157 3 — — — —
Forfeitures/cancellations of restricted stock (30 ) (1 ) (135 ) (2 ) (100 ) (2 )
Shares of common stock used to satisfy tax
withholding obligations (241 ) (6 ) (49 ) (1 ) (137 ) (3 )
Stock repurchases (334 ) (8 ) (1,590 ) (35 ) — —
Exchange of options (5 )    — (28 ) — (30 ) (1 )
Common stock in treasury at end of year (2,107 ) (47 ) (1,776 ) (38 ) (64 ) (2 )
155,703 606 155,504 597 156,091 606
Retained Earnings
Balance at beginning of year 1,601 1,386 1,132
Cumulative effect of adjustments resulting from
the adoption of SAB 108, net of tax (see note 2) (6 ) — —
Adjusted balance at beginning of year 1,595 1,386 1,132
Net income 251 264 293
Cash dividends declared on common stock
$0.40, $0.32 and $0.26 per share, respectively (61 ) (49 ) (39 )
Balance at end of year 1,785 1,601 1,386
Accumulated Other Comprehensive Loss
Foreign Currency Translation Adjustment
Balance at beginning of year 10 35 16
Translation adjustment arising during the period, net of tax 27 (25 ) 19
Balance at end of year 37 10 35
Cash Flow Hedges
Balance at beginning of year — (1 ) (1 )
Change during year, net of tax — 1 —
Balance at end of year — — (1 )
Minimum Pension Liability Adjustment
Balance at beginning of year (181 ) (196 ) (182 )
Change during year, net of tax 181 15 (14 )
Balance at end of year — (181 ) (196 )
Adjustment related to initial application of
SFAS No. 158, net of tax (see note 21) (133 ) — —
Total Accumulated Other Comprehensive Loss (96 ) (171 ) (162 )
Total Shareholders’ Equity $ 2,295 $ 2,027 $ 1,830

See Accompanying Notes to Consolidated Financial Statements.
27
29

CONSOLIDATED STATEMENTS OF CASH FLOWS

     2005
     2004
     2003

     (in millions)

From Operating Activities

Net income                  $ 264            $ 293            $ 207
Adjustments to reconcile net income to net cash provided
by operating activities of continuing operations:

(Income) loss on disposal of discontinued operations, net of tax                     (1 )             (38 )             1
Restructuring charges                     —               2               1
Cumulative effect of accounting change, net of tax                     —               —               1
Depreciation and amortization                     171               154               152
Restricted stock compensation expense                     6               8               4
Tax benefit on stock compensation                     3               10               2
Deferred income taxes                     24               50               (5 )
Change in assets and liabilities:

Merchandise inventories                     (111 )             (183 )             (63 )
Accounts payable and other accruals                     14               157               (17 )
Repositioning and restructuring reserves                     —               (1 )             (1 )
Pension contributions                     (26 )             (106 )   ��         (50 )
Income taxes                     (8 )             —               9
Other, net                     18               (57 )             23
Net cash provided by operating activities of continuing operations                     354               289               264
From Investing Activities

Acquisitions                     1               (242 )             —
Gain from insurance recoveries                     3               —               —
Purchases of short-term investments                     (2,798 )             (2,884 )             (1,546 )
Sales of short-term investments                     2,767              2,875              1,440
Lease acquisition costs                     (8 )             (17 )             (15 )
Capital expenditures                     (155 )             (156 )             (144 )
Premiums paid on foreign currency option contracts                     (3 )             —               —
Proceeds from foreign currency option contracts                     6               —               —
Net cash used in investing activities of continuing operations                     (187 )             (424 )             (265 )
From Financing Activities

Debt issuance costs                     —               (2 )             —
(Reduction) increase in long-term debt                     (35 )             175               (19 )
Dividends paid on common stock                     (49 )             (39 )             (21 )
Issuance of common stock                     12               28               26
Treasury stock reissued under employee stock plans                     2               5               1
Purchase of treasury shares                     (35 )             —               —
Net cash (used in) provided by financing activities of
continuing operations                     (105 )             167               (13 )
Net Cash Provided by operating activities of Discontinued Operations (revised — note 1)
                    —               1               7
Effect of Exchange Rate Fluctuations on Cash and Cash Equivalents
                    2               2               (8 )

Net Change in Cash and Cash Equivalents
                    64               35               (15 )
Cash and Cash Equivalents at Beginning of Year
                    225               190               205
Cash and Cash Equivalents at End of Year
                 $ 289            $ 225            $ 190
Cash Paid During the Year:

Interest                  $ 20            $ 23            $ 25
Income taxes                  $ 93            $ 121            $ 77
Non-cash Financing Activities:

Common stock issued upon conversion of convertible debt                  $ —            $ 150            $ —
Debt issuance costs reclassified to equity upon conversion
of convertible debt                  $ —            $ 3            $ —

2006       2005       2004
(in millions)
From Operating Activities
Net income $ 251 $ 264 $ 293
Adjustments to reconcile net income to net cash provided by operating
activities of continuing operations:
Income on disposal of discontinued operations, net of tax (3 ) (1 ) (38 )
Impairment charge 17 — —
Cumulative effect of accounting change, net of tax (1 ) — —
Depreciation and amortization 175 171 154
Share-based compensation expense 10 6 8
Deferred income taxes 21 24 50
Change in assets and liabilities:
Merchandise inventories (38 ) (111 ) (183 )
Accounts payable and other accruals (103 ) 14 157
Qualified pension plan contributions (68 ) (26 ) (106 )
Income taxes (3 ) (8 ) —
Other, net (69 ) 16 (63 )
Net cash provided by operating activities of continuing operations 189 349 272
From Investing Activities
Acquisitions — 1 (242 )
Gain from lease termination 4 — —
Gain from insurance recoveries 4 3 —
Purchases of short-term investments (1,992 ) (2,798 ) (2,884 )
Sales of short-term investments 2,041 2,767 2,875
Capital expenditures (165 ) (155 ) (156 )
Net cash used in investing activities of continuing operations (108 ) (182 ) (407 )
From Financing Activities
Debt issuance costs — — (2 )
(Reduction) increase in long-term debt (86 ) (35 ) 175
Repayment of capital lease (1 ) — —
Dividends paid on common stock (61 ) (49 ) (39 )
Issuance of common stock 9 12 28
Treasury stock reissued under employee stock plans 3 2 5
Purchase of treasury shares (8 ) (35 ) —
Tax benefit on stock compensation 2 — —
Net cash (used in) provided by financing activities of continuing operations (142 ) (105 ) 167
Net Cash (Used In) Provided by operating activities of Discontinued Operations (8 ) — 1
Effect of Exchange Rate Fluctuations on Cash and Cash Equivalents 1 2 2
Net Change in Cash and Cash Equivalents (68 ) 64 35
Cash and Cash Equivalents at Beginning of Year 289 225 190
Cash and Cash Equivalents at End of Year $ 221 $ 289 $ 225
Cash Paid During the Year:
Interest $ 20 $ 21 $ 23
Income taxes $ 133 $ 93 $ 121
Non-cash Financing Activities:
Common stock issued upon conversion of convertible debt $ — $ — $ 150
Debt issuance costs reclassified to equity upon conversion of convertible debt $ — $ — $ 3

See Accompanying Notes to Consolidated Financial Statements.
28
30

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1     Summary of Significant Accounting Policies
1
~~Summary of Significant Accounting Policies~~

Basis of Presentation
The consolidated financial statements include the accounts of Foot Locker, Inc. and its domestic and international subsidiaries (the “Company”), all of which are wholly owned. All significant intercompany amounts have been eliminated. The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions relating to the reporting of assets and liabilities and the disclosure of contingent liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results may differ from those estimates.
Reporting Year
The ~~reporting period~~2006 fiscal year end for the Company is the Saturday closest to the last day in January. Fiscal ~~years~~year 2006 represents the 53 weeks ending February 3, 2007. Fiscal year 2005 ~~2004~~ and ~~2003~~2004 represented the 52 weeks ended January 28, 2006 and January 29, 2005, ~~and January 31, 2004,~~ respectively. References to years in this annual report relate to fiscal years rather than calendar years.
Revenue Recognition
Revenue from retail stores is recognized at the point of sale when the product is delivered to customers. ~~Revenue from~~ Internet and catalog sales revenue is recognized ~~when~~upon estimated receipt by the ~~product is shipped to customers.~~customer. Sales include shipping and handling fees for all periods presented. ~~Retail sales~~Sales include merchandise, net of returns and exclude all taxes. The Company provides for estimated returns based on return history and sales levels. The Company recognizes revenue, including gift card sales and layaway sales, in accordance with SEC Staff Accounting Bulletin No. 101, “Revenue Recognition in Financial Statements,” as amended by SAB No. 104, “Revenue Recognition.” Revenue from ~~gift card sales is recorded when the gift cards are redeemed. Unredeemed gift cards are recorded as a current liability. Revenue from~~ layaway sales is recognized when the customer receives the product, rather than when the initial deposit is paid.
Gift Cards
     The Company sells gift cards to its customers; the cards do not have expiration dates. Revenue from gift card sales is recorded when the gift cards are redeemed or when the likelihood of the gift card being redeemed by the customer is remote and there is no legal obligation to remit the value of unredeemed gift cards to the relevant jurisdictions. The Company has determined its gift card breakage rate based upon historical redemption patterns. Historical experience indicates that after 12 months the likelihood of redemption is deemed to be remote. Gift card breakage income is included in selling, general and administrative expenses and totaled $7 million in 2006 and $2 million, for both 2005 and 2004. Unredeemed gift cards are recorded as a current liability.
Statement of Cash Flows
The Company has selected to present the operations of the discontinued business as one line in the Consolidated Statements of Cash Flows. For all the periods presented this caption includes only operating activities.
Store Pre-Opening and Closing Costs
Store pre-opening costs are charged to expense as incurred. In the event a store is closed before its lease has expired, the estimated post-closing lease exit costs, less the ~~fair market value of~~ sublease rental income, is provided for once the store ceases to be used, in accordance with SFAS No. 146, “Accounting for Costs Associated with Exit or Disposal Activities.”
Advertising Costs and Sales Promotion
Advertising and sales promotion costs are expensed at the time the advertising or promotion takes place, net of reimbursements for cooperative advertising. Cooperative advertising reimbursements earned for the launch and promotion of certain products is agreed upon with vendors and is recorded in the same period as the associated
31
expense is incurred. In accordance with EITF 02-16, “Accounting by a Reseller for Cash Consideration from a Vendor,” the Company accounts for reimbursements received in excess of expenses incurred related to specific, incremental advertising, as a reduction to the cost of merchandise and is reflected in cost of sales as the merchandise is sold.
Advertising costs, which are included as a component of selling, general and administrative expenses, net of reimbursements for cooperative advertising, were as follows:
2006           2005           2004
(in millions)
Advertising expenses $ 92.5 $ 99.0 $ 102.5
Cooperative advertising reimbursements (23.0 ) (21.2 ) (24.8 )
Net advertising expense $ 69.5 $ 77.8 $ 77.7

     2005
     2004
     2003

     (in millions)

Advertising expenses                  $ 99.0           $ 102.5           $ 97.5
Cooperative advertising reimbursements                     (21.2 )             (24.8 )             (23.4 )
Net advertising expense                  $ 77.8           $ 77.7           $ 74.1

29

Catalog Costs
Catalog costs, which primarily comprise paper, printing, and postage, are capitalized and amortized over the expected customer response period to each catalog, generally 90 days. Cooperative reimbursements earned for the promotion of certain products is agreed upon with vendors and is recorded in the same period as the associated catalog expenses are amortized. Prepaid catalog costs totaled $3.9 million and $3.0 million at February 3, 2007 and ~~$3.5 million at~~ January 28, 2006, ~~and January 29, 2005,~~ respectively.
Catalog costs, which are included as a component of selling, general and administrative expenses, net of reimbursements for cooperative reimbursements, were as follows:
2006           2005           2004
(in millions)
Catalog costs $ 47.0 $ 48.2 $ 50.3
Cooperative reimbursements (3.5 ) (3.0 ) (2.9 )
Net catalog expense $ 43.5 $ 45.2 $ 47.4

     2005
     2004
     2003

     (in millions)

Catalog costs                  $ 48.2           $ 50.3           $ 42.4
Cooperative reimbursements                     (3.0 )             (2.9 )             (3.5 )
Net catalog expense                  $ 45.2           $ 47.4           $ 38.9

Earnings Per Share
Basic earnings per share is computed as net income divided by the weighted-average number of common shares outstanding for the period. Diluted earnings per share reflects the potential dilution that could occur from common shares issuable through ~~stock-based~~share-based compensation including stock options and the conversion of convertible long-term debt. The following table reconciles the numerator and denominator used to compute basic and diluted earnings per share for continuing operations.
2006           2005           2004
(in millions)
Income from continuing operations $ 247 $ 263 $ 255
Effect of Dilution:
Convertible debt⁽¹⁾ — — 2
Income from continuing operations assuming dilution $ 247 $ 263 $ 257
Weighted-average common shares outstanding 155.0 155.1 150.9
Effect of Dilution:
Stock options and awards 1.8 2.5 3.0
Convertible debt⁽¹⁾ — — 3.2
Weighted-average common shares outstanding
       assuming dilution 156.8 157.6 157.1
____________________

(1) In 2001, the Company issued $150 million of subordinated convertible notes due 2008. Effective June 4, 2004, all of the convertible subordinated notes were cancelled and approximately 9.5 million new shares of the Company’s common stock were issued.
32

     2005
     2004
     2003

     (in millions)

Income from continuing operations                  $ 263            $ 255            $ 209
Effect of Dilution:

Convertible debt                     —               2               5
Income from continuing operations assuming dilution                  $ 263            $ 257            $ 214

Weighted-average common shares outstanding                     155.1              150.9              141.6
Effect of Dilution:

Stock options and awards                     2.5              3.0              1.8
Convertible debt                     —               3.2              9.5
Weighted-average common shares outstanding
assuming dilution                     157.6              157.1              152.9

Options to purchase 2.8 million, 2.2 million ~~1.5 million~~ and ~~3.6~~1.5 million shares of common stock as of February 3, 2007, January 28, 2006, and January 29, 2005, ~~and January 31, 2004~~ respectively, were not included in the computations because the exercise price of the options was greater than the average market price of the common shares and, therefore, the effect of their inclusion would be antidilutive.
~~Stock-Based~~Share-Based Compensation
~~The~~     Effective January 29, 2006, the Company ~~accounts~~adopted the provisions of Statement of Financial Accounting Standards No. 123(R), “Share-Based Payment,” and related interpretations, (“SFAS No. 123(R)”) to account for stock-based compensation ~~plans~~using the modified prospective transition method and, therefore, will not restate its prior period results. SFAS No. 123(R) supersedes Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” (“APB No. 25”), and revises guidance in ~~accordance with the intrinsic-value based method permitted by~~ SFAS No. 123, “Accounting for Stock-Based Compensation” (“SFAS No. 123”). Among other things, SFAS No. 123(R) requires that compensation expense be recognized in the financial statements for share-based awards based on the grant date fair value of those awards. The modified prospective transition method applies to unvested stock options, restricted shares and stock appreciation rights and issuances under the employee stock purchase plan outstanding as of January 29, 2006 based on the grant-date fair value estimated in accordance with the pro forma provisions of SFAS No. 123, and any new share-based awards granted subsequent to January 29, 2006, based on the grant-date fair value estimated in accordance with the provisions of SFAS No. 123(R). Additionally, stock-based compensation expense includes an estimate for pre-vesting forfeitures and is recognized over the requisite service periods of the awards over the vesting term.
     Prior to January 29, 2006, the Company accounted for these stock-based compensation plans in accordance with APB No. 25 and related interpretations. This method ~~has~~did not ~~resulted~~result in compensation cost for stock options and shares purchased under employee stock purchase plans. No compensation expense for employee stock options ~~is reflected in net income,~~was recorded, as all stock options granted under ~~those~~the stock option plans had an exercise price that was not less than the quoted market price at the date of grant. Compensation expense was also not recorded for employee purchases of stock under the employee stock purchase plans as it was considered non-compensatory under APB No. 25. Prior to the Company’s adoption of SFAS No. 123(R), as required under the disclosure provisions of SFAS No. 123, as amended, the Company provided pro forma net income and earnings per common share for each period as if it had applied the fair value method to measure stock-based compensation expense.
The ~~market value at date~~Company has recorded an additional $6 million of ~~grant~~stock-based compensation expense, net of estimated forfeitures, during 2006 as a result of its adoption of SFAS No. 123(R). During 2006, the Company recorded a cumulative effect of a change in accounting of $1 million to reflect estimated forfeitures for prior periods related to the Company’s nonvested restricted stock ~~is recorded as compensation expense over the period of vesting.~~
In March 2005, the SEC issued Staff Accounting Bulletin (SAB) No.107 to provide supplemental guidance in adopting SFAS No.123 (R), “Share-Based Payment” (“SFAS No. 123(R)”). The bulletin provides guidance in accounting for share-based transactions with non-employees, valuation methods, the classification of compensation expense, accounting for the income tax effects of share-based payments, and disclosures in Management’s Discussion and Analysis subsequentawards. Prior to the adoption of SFAS No. ~~123 (R). We are evaluating this guidance in conjunction with~~123(R), the ~~adoption~~Company recognized compensation cost of ~~SFAS No. 123 (R) and do not expect that~~restricted stock awards over the ~~bulletin will have a material effect on~~vesting term based upon the ~~results~~fair value of ~~operations or financial position.~~
~~On April 14, 2005,~~ the ~~Securities and Exchange Commission issued a ruling that amended~~Company’s common stock at the ~~effective~~ date ~~for SFAS No. 123(R). The Company will adopt~~of grant. Forfeitures were recorded as they occurred, however under SFAS No. 123(R) ~~effective January 29, 2006 using~~an estimate of forfeitures is required to be included over the ~~modified prospective~~
30

method, whereby compensation expense is recognized for all awards granted subsequent to the effective date of this statement, as well as for the unvested portion of awards outstanding as of the effective date. The Company is currently evaluating the impactvesting term. Under SFAS No. 123(R), ~~however, based upon preliminary analysis an additional $6–$8 million, or $0.03–$0.05 per diluted share, of~~the Company will continue to recognize compensation expense ~~will~~over the vesting term, net of estimated forfeitures. See Note 22 for information on the assumptions the Company used to calculate the fair value of stock-based compensation.
     SFAS No. 123(R) requires the benefits associated with tax deductions in excess of recognized compensation cost to be ~~recorded during the fiscal year ending February 3, 2007~~reported as a ~~result~~financing cash flow rather than as an operating cash flow as previously required. For 2006, the Company recorded an excess tax benefit of ~~this new accounting standard. This estimate is based upon many factors such~~$2 million as ~~the market value and the amount of share-based payments granted in future periods.~~
~~On October 18, 2005, the FASB issued FSP No. SFAS 123(R)-2, “Practical Accommodation to the Application of Grant Date~~a financing cash flow as Defined in FASB Statement No. 123(R),” to provide guidance on determining the grant date for an award as defined in SFAS No. 123(R). This FSP stipulates that assuming all other criteria in the grant date definition are met, a mutual understanding of the key terms and conditions of an award to an individual employee is presumed to exist upon the award’s approval in accordance with the relevant corporate governance requirements, provided that the key terms and conditions of an award (a) cannot be negotiatedrequired by the ~~recipient with~~standard.
     Upon exercise of stock options, issuance of restricted stock or issuance of shares under the ~~employer because~~employee stock purchase plan, the ~~award is a unilateral grant,~~Company will issue authorized but unissued common stock or use common stock held in treasury. The Company may make repurchases of its common stock from time to time, subject to legal and ~~(b) are expected to be communicated to an individual recipient within a relatively short time period from the date of approval.~~
contractual restrictions, market conditions and other factors.
33
The following table illustrates the effect on net income and earnings per common share as if the Company had applied the fair value ~~recognition~~method to measure stock-based compensation, as required under the disclosure provisions of SFAS No. ~~123 to measure stock-based compensation expense:~~123:
2005           2004
Net income:
As reported $ 264 $ 293
Compensation expense included in reported net income,
net of income tax benefit 4 5
Total compensation expense under fair value method for
all awards, net of income tax benefit    (9 ) (13 )
Pro forma $ 259 $ 285
Basic earnings per share:
As reported $ 1.71 $ 1.94
Pro forma $ 1.67 $ 1.89
Diluted earnings per share:
As reported $ 1.68 $ 1.88
Pro forma $ 1.64 $ 1.83

     2005
     2004
     2003

     (in millions, except
per share amounts)

Net income:

As reported                  $ 264            $ 293            $ 207
Compensation expense included in reported net income, net of income tax benefit                     4               5               2
Total compensation expense under fair value method for all awards, net of income tax benefit                     (9 )             (13 )             (7 )
Pro forma                  $ 259            $ 285            $ 202
Basic earnings per share:

As reported                  $ 1.71           $ 1.94           $ 1.46
Pro forma                  $ 1.67           $ 1.89           $ 1.43
Diluted earnings per share:

As reported                  $ 1.68           $ 1.88           $ 1.39
Pro forma                  $ 1.64           $ 1.83           $ 1.36

Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less, including commercial paper and money market funds, to be cash equivalents. Amounts due from third party credit card processors for the settlement of debit and credit cards transactions are included as cash equivalents as they are generally collected within three business days. Cash equivalents at February 3, 2007 and January 28, 2006 were $208 million and ~~January 29, 2005 were~~ $237 million, ~~and $166 million,~~ respectively.
Short-Term Investments
The Company accounts for its short-term investments in accordance with SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” At ~~January 28, 2006,~~February 3, 2007, all of the Company’s investments were classified as available for sale, and accordingly are reported at fair value. Short-term investments comprise auction rate securities. Auction rate securities are perpetual preferred or long-dated securities whose dividend/coupon resets periodically through a Dutch auction process. A Dutch auction is a competitive bidding process designed to determine a rate for the next term, such that all sellers sell at par and all buyers buy at par. Accordingly, there were no realized or unrealized gains or losses for any of the periods presented.
Merchandise Inventories and Cost of Sales
Merchandise inventories for the Company’s Athletic Stores are valued at the lower of cost or market using the retail inventory method. Cost for retail stores is determined on the last-in, first-out (LIFO) basis for domestic inventories and on the first-in, first-out (FIFO) basis for international inventories. Merchandise inventories of the Direct-to-Customers business are valued at the lower of cost or market using weighted-average cost, which approximates FIFO. Transportation, distribution center and sourcing costs are capitalized in merchandise inventories.
In 2006, the Company adopted SFAS No. 151, “Inventory Costs- An Amendment of ARB 43, Chapter 4.” This standard amends the guidance to clarify that abnormal amounts of idle facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as current-period charges. With the adoption of this standard the Company no longer capitalized the freight associated with transfers between its store locations.
31

Cost of sales is comprised of the cost of merchandise, occupancy, buyers’ compensation and shipping and handling costs. The cost of merchandise is recorded net of amounts received from vendors for damaged product returns, markdown allowances and volume rebates, as well as cooperative advertising reimbursements received in excess of specific, incremental advertising expenses. Occupancy reflects the amortization of amounts received from landlords for tenant improvements.
34
Property and Equipment
Property and equipment are recorded at cost, less accumulated depreciation and amortization. Significant additions and improvements to property and equipment are capitalized. Maintenance and repairs are charged to current operations as incurred. Major renewals or replacements that substantially extend the useful life of an asset are capitalized and depreciated. Owned property and equipment is depreciated on a straight-line basis over the estimated useful lives of the assets: maximum of 50 years for buildings and 3 to 10 years for furniture, fixtures and equipment. Property and equipment under capital leases and improvements to leased premises are generally amortized on a straight-line basis over the shorter of the estimated useful life of the asset or the remaining lease term. Capitalized software reflects certain costs related to software developed for internal use that are capitalized and amortized. After substantial completion of the project, the costs are amortized on a straight-line basis over a 2 to 7 year period. Capitalized software, net of accumulated amortization, is included in property and equipment and was $29 million at February 3, 2007 and $39 million at January 28, ~~2006 and $50 million at January 29, 2005.~~
2006.
Recoverability of Long-Lived Assets
In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets” (“SFAS No. 144”), an impairment loss is recognized whenever events or changes in circumstances indicate that the carrying amounts of long-lived tangible and intangible assets with finite lives may not be recoverable. Assets are grouped and evaluated at the lowest level for which there are identifiable cash flows that are largely independent of the cash flows of other groups of assets. The Company has identified this lowest level to be individual stores. The Company considers historical performance and future estimated results in its evaluation of potential impairment and then compares the carrying amount of the asset with the estimated future cash flows expected to result from the use of the asset. If the carrying amount of the asset exceeds estimated expected undiscounted future cash flows, the Company measures the amount of the impairment by comparing the carrying amount of the asset with its estimated fair value. The estimation of fair value is generally measured by discounting expected future cash flows at the Company’s weighted-average cost of capital. The Company estimates fair value based on the best information available using estimates, judgments and projections as considered necessary.
     During 2006, the Company recorded an impairment charge of $17 million ($12 million after-tax) to write-down long-lived assets such as store fixtures and leasehold improvements in 69 stores in the European operations to their estimated fair value.
Goodwill and Intangible Assets
The Company accounts for goodwill and other intangibles in accordance with SFAS No. 142, “Goodwill and Other Intangible Assets,” which requires that goodwill and intangible assets with indefinite lives be reviewed for impairment if impairment indicators arise and, at a minimum, annually.
     The Company performs its annual impairment review as of the beginning of each fiscal year. The fair value of each reporting unit is evaluated as of the beginning of each year, determined using a combination of market and discounted cash flow approaches, exceeded the carrying value of each respective reporting unit. Separable intangible assets that are deemed to have finite lives will continue to be amortized over their estimated useful lives. Intangible assets with finite lives primarily reflect lease acquisition costs and are amortized over the lease term.
Derivative Financial Instruments
All derivative financial instruments are recorded in the Consolidated Balance Sheets at their fair values. Changes in fair values of derivatives are recorded each period in earnings, other comprehensive gain or loss or as a basis adjustment to the underlying hedged item, depending on whether a derivative is designated and effective as part of a hedge ~~transaction and, if it is, the type of hedge~~ transaction. The effective portion of the gain or loss on the hedging derivative instrument is reported as a component of other comprehensive ~~income~~income/loss or as a basis adjustment to the underlying hedged item and reclassified to earnings in the period in which the hedged item affects earnings.
35
     The effective portion of the gain or loss on hedges of foreign net investments is generally not reclassified to earnings unless the net investment is disposed of. To the extent derivatives do not qualify as hedges, or are ineffective, their changes in fair value are recorded in earnings immediately, which may subject the Company to increased earnings volatility. The changes in the fair value of the Company’s hedges of net investments in various foreign subsidiaries is computed using the spot method.
Fair Value of Financial Instruments
The fair value of financial instruments is determined by reference to various market data and other valuation techniques as appropriate. The carrying value of cash and cash equivalents, short-term investments, and other current
32

receivables and payables approximates fair value due to the short-term nature of these assets and liabilities. Quoted market prices of the same or similar instruments are used to determine fair value of long-term debt and forward foreign exchange contracts. Discounted cash flows are used to determine the fair value of long-term investments and notes receivable if quoted market prices on these instruments are unavailable.
Income Taxes
The Company determines its deferred tax provision under the liability method, whereby deferred tax assets and liabilities are recognized for the expected tax consequences of temporary differences between the tax bases of assets and liabilities and their reported amounts using presently enacted tax rates. Deferred tax assets are recognized for tax credits and net operating loss carryforwards, reduced by a valuation allowance, which is established when it is more likely than not that some portion or all of the deferred tax assets will not be realized. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.
A taxing authority may challenge positions that the Company adopted in its income tax filings. Accordingly, the Company may apply different tax treatments for transactions in filing its income tax returns than for income tax financial reporting. The Company regularly assesses its tax position for such transactions and records reserves for those differences when considered necessary.
Provision for U.S. income taxes on undistributed earnings of foreign subsidiaries is made only on those amounts in excess of the funds considered to be permanently reinvested.
Pension and Postretirement Obligations
The discount rate selected to measure the present value of the Company’s benefit obligations as of ~~January 28, 2006~~February 3, 2007 was derived using a cash flow matching method whereby the Company compares the plans’ projected payment obligations by year with the corresponding yield on the Citibank Pension Discount Curve. The cash flows are then discounted to their present value and an overall discount rate is determined.
Insurance Liabilities
The Company is primarily self-insured for health care, workers’ compensation and general liability costs. Accordingly, provisions are made for the Company’s actuarially determined estimates of discounted future claim costs for such risks for the aggregate of claims reported and claims incurred but not yet reported. Self-insured liabilities totaled $16 million at February 3, 2007 and January 28, ~~2006 and $14 million at January 29, 2005.~~2006. The Company discounts its workers’ compensation and general liability using a risk-free interest rate. Imputed interest expense related to these liabilities was $1 million in each of 2006, 2005 ~~2004~~ and ~~2003.~~
2004.
Accounting for Leases
The Company recognizes rent expense for operating leases as of the ~~earlier of~~ possession date for store leases or the commencement of the agreement for a non-store lease. Rental expense, inclusive of rent holidays, concessions and tenant allowances are recognized over the lease term on a straight-line basis. Contingent payments based upon sales and future increases determined by inflation related indices cannot be estimated at the inception of the lease and accordingly, are charged to operations as incurred.
36
Foreign Currency Translation
The functional currency of the Company’s international operations is the applicable local currency. The translation of the applicable foreign currency into U.S. dollars is performed for balance sheet accounts using current exchange rates in effect at the balance sheet date and for revenue and expense accounts using the weighted-average rates of exchange prevailing during the year. The unearned gains and losses resulting from such translation are included as a separate component of accumulated other comprehensive loss within shareholders’ equity.
Reclassifications
Certain balances in prior years have been reclassified to conform to the presentation adopted in the current year.
Recent Accounting Pronouncements Not Previously Discussed Herein
In ~~November 2004,~~March 2006, the EITF reached a consensus on EITF Issue No. 06-3, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement (That is, Gross versus Net Presentation)” that entities may adopt a policy of presenting taxes in the income statement on either a gross or net basis. Gross or net presentation may be elected for each different type of tax, but similar taxes should be presented consistently. Taxes within the scope of this EITF would include taxes that are imposed on a revenue transaction between a seller and a customer, for example, sales taxes, use taxes, value-added taxes, and some types of excise taxes. EITF 06-3 will not impact the method for recording these sales taxes in the Company’s consolidated financial statements as the Company has historically presented sales excluding all taxes.
     In July 2006, the FASB issued ~~SFAS~~Interpretation No. ~~151, “Inventory Costs — an amendment~~48, “Accounting for Uncertainty in Income Taxes - An interpretation of ~~ARB 43, Chapter 4.”~~FASB Statement No. 109” (“FIN 48”), which clarifies the accounting and disclosure requirements for uncertainty in tax positions. This ~~Statement amends~~Interpretation requires financial statement recognition of the ~~guidance to clarify~~impact of a tax position if that ~~abnormal amounts~~position is more likely than not of ~~idle facility expense, freight, handling costs, and wasted materials (spoilage) should be recognized as current-period charges. In addition, this Statement requires that~~
33

~~allocation of fixed production overheads to the costs of conversions be~~being sustained on audit based on the ~~normal capacity~~technical merits of the ~~production facilities.~~position. Additionally, FIN 48 provides guidance on measurement, derecognition, classification, accounting in interim periods, and disclosure requirements for uncertain tax positions. The ~~Statement~~provisions of FIN 48 will be effective as of the beginning of 2007, with the cumulative effect of the change in accounting principle, if any, recorded as an adjustment to opening retained earnings. The Company is ~~effective for inventory costs incurred during fiscal years beginning after June 15, 2005. Management~~currently evaluating the effect of FIN 48. However, the Company does not ~~believe that the effect of~~expect the adoption of this ~~Statement~~interpretation will ~~have a material effect on its~~significantly affect the Company’s financial position ~~and~~or results of operations.
In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets — an amendment of APB Opinion No. 29, Accounting for Nonmonetary Transactions.” This Statement requires that exchanges should be recorded and measured at the fair value of the assets exchanged, with certain exceptions. The Statement is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. Management does not believe that the adoption of this Statement will have a material effect on its financial position and results of operations as the Company does not currently have any exchanges of nonmonetary assets.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections,” (“SFAS No. 154”). SFAS No. 154 replaces APB No. 20, “Accounting Changes,” and SFAS No. 3, “Reporting Changes in Interim Financial Statements.” SFAS No. 154 changes the accounting for, and reporting of, a change in accounting principle. SFAS No. 154 requires retrospective application to the prior period’s financial statements of voluntary changes in accounting principle and changes required by new accounting standards when the standard does not include specific transition provisions, unless it is impractical to do so. SFAS No. 154 is effective for accounting changes and corrections of errors in fiscal years beginning after December 15, 2005. Currently, the Company is not aware of any financial impact that the adoption of this Statement will have on our consolidated financial statements.
~~In February~~September 2006, the FASB issued SFAS No. ~~155, “Accounting for Certain Hybrid Financial Instruments.~~157, “Fair Value Measurements,” ~~This Statement amends~~ (“SFAS No. ~~133, “Accounting~~157”). This statement provides a single definition of fair value, a framework for ~~Derivative Instruments~~measuring fair value, and ~~Hedging Activities”~~expanded disclosures concerning fair value. Previously, different definitions of fair value were contained in various accounting pronouncements creating inconsistencies in measurement and disclosures. SFAS No. ~~140, “Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities” and provides for simplified accounting for certain hybrid financial instruments by permitting~~157 applies under those previously issued pronouncements that prescribe fair value ~~remeasurement for any hybrid financial instrument~~as the relevant measure of value, except SFAS No. 123(R) and related interpretations and pronouncements that ~~contains an embedded derivative that otherwise would~~ require ~~bifurcation and by eliminating a restriction on the passive derivative instruments that a qualifying special-purpose entity (SPE) may hold.~~or permit measurement similar to fair value but are not intended to measure fair value. This ~~Statement~~pronouncement is effective for ~~all financial instruments acquired or issued~~fiscal years beginning after ~~the beginning of an entity’s first fiscal year that begins after September~~November 15, ~~2006. Management~~2007. The Company does not believe that this standard will significantly affect the Company’s financial position or results of operations.
     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." This statement permits, but does not require, entities to measure many financial instruments at fair value. The objective is to provide entities with an opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The Company does not believe that this standard will significantly affect the Company's financial position or results of operations.
2     Staff Accounting Bulletin No. 108
     In September 2006, the SEC issued Staff Accounting Bulletin No. 108 (“SAB 108”) “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements,” that provides interpretive guidance on how the effects of the carryover or reversal of prior year misstatements should be considered in quantifying a current year misstatement. There are two widely recognized methods for quantifying the effects of financial statement misstatements: the “rollover” or income statement method and the “iron curtain” or balance sheet method. The SEC staff believes that registrants should quantify errors using both a balance sheet and an income
37
statement approach (“dual method”) and evaluate whether either approach results in quantifying a misstatement that, when all relevant quantitative and qualitative factors are considered, is material. The Company had historically evaluated uncorrected misstatements using the “rollover” method. SAB 108 permits companies to apply its provisions initially by either (i) restating prior financial statements as if the provisions had always been applied or (ii) recording the cumulative effect of initially applying SAB 108 as adjustments to the ~~adoption of this Statement will have a material effect on its financial position and results of operations.~~
2
~~Goodwill~~

~~The~~ carrying value of ~~goodwill related~~assets and liabilities as of the beginning of 2006 with an offsetting adjustment recorded to the opening balance of shareholders’ equity.
     The Company believes its prior period assessments of uncorrected misstatements and the conclusions reached regarding its quantitative and qualitative assessments of materiality of such items, both individually and in the aggregate, were appropriate. These items did not significantly affect 2005 or 2004 as these items originated in earlier periods. In accordance with SAB 108, the Company has adjusted its opening retained earnings for 2006 for the items described below.
Adjustment
at Jan. 29,
(in millions) 2006
Accrued liabilities⁽¹⁾ $ 3.4
Revenue recognition⁽²⁾ 2.8
Inventory valuation⁽³⁾ 4.2
10.4
Provision for income taxes 4.1
Decrease to shareholders’ equity $ 6.3
____________________

(1) Accrued liabilities – The Company understated its accrued liabilities for certain items, such as telecommunications, utilities and property taxes in years prior to 2003. These items originated when the Company was accruing for these items on a calendar year rather than a fiscal year basis.
(2) Revenue recognition – The Company had historically recorded revenue from its catalog and Internet operations when the product was shipped to the customer, rather than upon the actual receipt of the product by the customer.
(3) Inventory valuation – The Company did not properly recognize the permanent reduction of the retail value of its inventory upon the transfer to clearance stores. The Company provided a reserve for the value of this inventory that had not been marked down to current selling prices.
     In addition, the Company had historically included its lease acquisition costs of $8 million in 2005 and $17 million in 2004 within the investing section of the Statement of Cash Flows. In 2005, the Company classified the premiums paid and proceeds received ($3 million, net) associated with its option currency contracts as an investing activity. The Company has determined that these activities would be more appropriately classified as an operating activity. Accordingly, the Company reclassified $5 million and $17 million for 2005 and 2004, respectively, to operating activities.
3     Segment Information
     The Company has determined that its reportable segments are those that are based on its method of internal reporting. As of February 3, 2007, the Company has two reportable segments, Athletic Stores, ~~segment was $183 million at January 28, 2006~~which sells athletic footwear and ~~$191 million at January 29, 2005.~~apparel through its various retail stores, and Direct-to-Customers, which includes the Company’s catalogs and Internet business.
     The ~~carrying value~~accounting policies of ~~goodwill related to~~both segments are the ~~Direct-to-Customers segment was $80 million at~~same as those described in the “Summary of Significant Accounting Policies.” The Company evaluates performance based on several factors, of which the primary financial measure is division results. Division profit reflects income from continuing operations before income taxes, corporate expense, non-operating income, and net interest expense.
Sales
2006           2005           2004
(in millions)
Athletic Stores $ 5,370 $ 5,272 $ 4,989
Direct-to-Customers 380 381 366
     Total sales $ 5,750 $ 5,653 $ 5,355

38

Operating Results

2006            2005            2004
(in millions)
Athletic Stores $ 405 $ 419 $ 420
Direct-to-Customers 45 48 45
450 467 465
Restructuring charges⁽¹⁾ (1
)
— (2
)
Division profit 449 467 463
Corporate expense⁽²⁾ (68 ) (58 )    (74
)
Operating profit 381 409 389
Other income⁽³⁾ 14 6 —
Interest expense, net 3 10 15
Income from continuing operations before income taxes $ 392 $ 405 $ 374
____________________

(1) The restructuring charge in 2006 represents a revision to the original estimate of the lease liability associated with the guarantee of The San Francisco Music Box distribution center. During 2004, the Company recorded a restructuring charge of $2 million related to the dispositions of non-core businesses. These charges were classified within selling, general and administrative expenses in the Consolidated Statements of Operations.
(2) 2004 includes integration costs of $5 million related to the acquisitions of Footaction and the 11 stores in the Republic of Ireland.
(3) 2006 includes $4 million gain on lease terminations; $8 million of insurance proceeds related to the 2005 hurricane; and $2 million gain on debt repurchase.
2005 includes a $3 million gain from insurance recoveries associated with Hurricane Katrina. Additionally, $3 million represents a net gain on foreign currency option contracts that were entered into by the Company to mitigate the effect of fluctuating foreign exchange rates on the reporting of euro dominated earnings.
Depreciation and
Amortization Capital Expenditures Total Assets
2006        2005        2004        2006        2005        2004        2006        2005      2004
(in millions)
Athletic Stores $ 147 $ 141 $ 126 $ 135 $ 137 $ 139 $ 2,374 $ 2,322 $ 2,335
Direct-to-Customers 6 6 5 4 6 8 195 196 190
153 147 131 139 143 147 2,569 2,518 2,525
Corporate 22 24 23 26 12 9 680 794 711
Discontinued operations — — — — — — — — 1
Total Company $ 175 $ 171 $ 154 $ 165 $ 155 $ 156 $ 3,249 $ 3,312 $ 3,237

     Sales and long-lived asset information by geographic area as of and for the fiscal years ended February 3, 2007, January 28, 2006 and January 29, ~~2005.~~
~~The goodwill activity during the fiscal year ended January 28, 2006 represents adjustments of $5 million reducing goodwill relating~~2005 are presented below. Sales are attributed to the ~~Footaction acquisition~~country in which the sales originate, which is where the legal subsidiary is domiciled. Long-lived assets reflect property and equipment. The Company’s sales in Italy and France represent approximately 36, 39 and 40 percent of the International category’s sales for the three-year period ended February 3, 2007. No other individual country included in the International category is significant.
Sales

2006       2005       2004
(in millions)
United States $ 4,356 $ 4,257 $ 3,982
International 1,394 1,396 1,373
Total sales $ 5,750 $ 5,653 $ 5,355

39

Long-Lived Assets

2006       2005       2004
(in millions)
United States $ 504 $ 523 $ 547
International 150 152 168
Total long-lived assets $ 654 $ 675 $ 715

4     Other Income
     In 2006, other income includes a gain of $8 million related to a final settlement with the Company’s insurance carriers of claims related to Hurricane Katrina. In 2005, the Company recorded a gain of $3 million of insurance recoveries in excess of losses associated with Hurricane Katrina.
     During 2006, the Company purchased and retired $38 million of the $200 million 8.50 percent debentures payable in 2022, at a $2 million discount from face value. Also during 2006, the Company terminated two of its leases and recorded a net gain of $4 million.
     In 2005, the Company recorded a net gain of $3 million related to foreign currency option contracts that were entered into by the Company to mitigate the effect of fluctuating foreign exchange rates on the reporting of euro denominated earnings.
5     Short-Term Investments
     The Company’s auction rate security investments are accounted for as ~~a result~~available-for-sale securities. The fair value of all investments approximate their carrying cost as the investments are generally not held for more than 49 days and they are traded at par value. The following represents the composition of the Company’s ~~decision~~auction rate securities by underlying investment.
2006       2005
(in millions)
Tax exempt municipal bonds $ 44 $ 41
Equity securities 205 257
$ 249 $ 298

     Contractual maturities of the bonds outstanding at February 3, 2007 range from 2026 to ~~continue operating~~2042.
6     Merchandise Inventories
2006       2005
(in millions)
LIFO inventories $ 967 $ 939
FIFO inventories 336 315
Total merchandise inventories $ 1,303 $ 1,254

     The value of the Company’s LIFO inventories, as calculated on a store that the Company had originally intended to close at the acquisition date. Additionally, the Company resolved the remaining Footaction lease related matter and received $1 million return from the escrow account, thereby reducing goodwill.LIFO basis, approximates their value as calculated on a FIFO basis.
40

7     Other Current Assets

2006         2005
(in millions)
Net receivables $ 59 $  49
Prepaid expenses and other current assets 36 31
Prepaid rent 62 15
Prepaid income taxes 67 49
Deferred taxes 21 28
Investments 14 —
Current portion of Northern Group note receivable 1 1
Fair value of derivative contracts 1 —
$261 $173

8     Property and Equipment, net

2006         2005
(in millions)
Land $ 3 $ 3
Buildings:
Owned 30 31
Furniture, fixtures and equipment:
Owned 1,139 1,087
Leased 14 15
1,186 1,136
Less: accumulated depreciation (870 ) (800 )
316 336
Alterations to leased and owned buildings,
net of accumulated amortization 338 339
$ 654 $ 675

9     Goodwill

2006         2005
(in millions)
Athletic Stores $184 $183
Direct-to-Customers 80 80
$264 $263

     The effect of foreign exchange fluctuations for the fiscal year ended ~~January 28, 2006 reduced~~February 3, 2007 increased goodwill by $2$1 million, resulting from the ~~decline in the value~~strengthening of the euro in relation to the U.S. dollar.
41
10     Intangible Assets, net
February 3, 2007 January 28, 2006
Net Wtd. Avg. Net
Gross Accum. Value Useful Life Gross Accum. Value
(in millions) value      amort.      (1)      in Years      value      amort.      (1)
Finite life intangible assets
Lease acquisition costs $ 178 $ (98 ) $ 80 11.9 $ 165 $ (77 ) $ 88
Trademark 21 (3 ) 18 20.0 21 (2 ) 19
Loyalty program 1 (1 ) — 2.0 1 (1 ) —
Favorable leases 9 (5 ) 4 3.9 10 (4 ) 6
Total finite life intangible assets 209 (107 ) 102 12.3 197 (84 ) 113
Intangible assets not subject to
amortization 3 — 3 4 — 4
Total intangible assets $ 212 $ (107 ) $ 105 $ 201 $ (84 ) $ 117
____________________

3
(1)       ~~Intangible Assets, net~~Includes effect of foreign currency translation of $5 million in 2006 and $8 million in 2005 primarily related to the strengthening of the euro in relation to the U.S. dollar.

     2005
     2004

     (in millions)

Intangible assets not subject to amortization                  $ 4            $ 4
Intangible assets subject to amortization (net of accumulated amortization of $84 and $70, respectively)                     113               131
                 $ 117            $ 135

Intangible assets not subject to amortization at ~~January 28, 2006,~~February 3, 2007, includes $3 million related to the trademark of the 11 stores acquired in the Republic of Ireland. The additional minimum ~~pension~~ liability ~~required~~ at January 28, 2006, ~~and January 29, 2005,~~ which represented the amount by which the accumulated benefit obligation exceeded the fair market value of U.S. defined benefit plan’s assets, was offset by an intangible asset to the extent of previously unrecognized prior service costs of $1 ~~million at both January 28,~~million. The adoption of SFAS No. 158 in 2006 ~~and January 29, 2005.~~
has eliminated the intangible asset.
34

~~The changes in the carrying amount of intangibles subject to amortization for the year ended January 28, 2006 are as follows:~~

     2004
     Additions
     Amortization
/ Other⁽¹⁾
     2005
     Wtd.
Avg.
Useful Life
in Years

     (in millions)

Finite life intangible assets

Lease acquisition costs                  $ 102            $ 8            $ (22 )          $ 88               11.9
Trademark                     20               —               (1 )             19               20.0
Loyalty program                     1               —               (1 )             —               2.0
Favorable leases                     8               —               (2 )             6               3.8
Total                  $ 131            $ 8            $ (26 )          $ 113               12.3

~~(1)~~ ~~Includes effect of foreign currency translation of $8 million primarily related to the decline in the value of the euro in relation to the U.S. dollar.~~

Lease acquisition costs represent amounts that are required to secure prime lease locations and other lease rights, primarily in Europe. Included in finite life intangibles, as a result of the Footaction and Republic of Ireland purchases, are the trademark for the Footaction name, amounts paid for leased locations with rents below their fair value for both acquisitions and amounts paid to obtain names of members of the Footaction loyalty program.
Amortization expense for the intangibles subject to amortization was approximately $19 million, $18 million and $17 million for 2006, 2005 and ~~$11 million for 2005,~~ 2004, ~~and 2003,~~ respectively. Annual estimated amortization expense for finite life intangible assets is expected to approximate $19 million for ~~2006, $18 million for~~ 2007, $16 million for 2008, ~~$13~~$14 million for 2009, ~~and~~ $12 million for ~~2010.~~2010 and $10 million for 2011.
11     Other Assets
2006          2005
(in millions)
Deferred tax costs $21 $24
Investments and note receivable 7 22
Northern Group note receivable, net of current portion 10 9
Fair value of derivative contracts — 1
Pension benefits 8 —
Other 37 40
$83 $96

42
12     Accrued and Other Liabilities
2006             2005
(in millions)
Pension and postretirement benefits $ 4 $ 72
Incentive bonuses 12 20
Other payroll and payroll related costs, excluding taxes 46 52
Taxes other than income taxes 46 43
Property and equipment 24 16
Customer deposits¹ 33 31
Income taxes payable 2 3
Fair value of derivative contracts 2 1
Current deferred tax liabilities 4 3
Sales return reserve 4 4
Liabilities of discontinued operations — 2
Current portion of repositioning and restructuring reserves 1 1
Current portion of reserve for discontinued operations 3 8
Other operating costs 65 49
$ 246 $ 305
____________________

4
1       ~~Segment Information~~

The Company has determined that its reportable segments are those that are based on its method of internal reporting. As of January 28, 2006, the Company has two reportable segments, Athletic Stores, which sells athletic footwear and apparel through its various retail stores, and Direct-to-Customers, which includes the Company’s catalogs and Internet business.
The accounting policies of both segments are the same as those described in the “Summary of Significant Accounting Policies.” The Company evaluates performance based on several factors, of which the primary financial measure is division results. Division profit reflects income from continuing operations before income taxes, corporate expense, non-operating income and net interest expense.
~~Sales~~

     2005
     2004
     2003

     (in millions)

Athletic Stores                  $ 5,272           $ 4,989           $ 4,413
Direct-to-Customers                     381               366               366
Total sales                  $ 5,653           $ 5,355           $ 4,779

35

~~Operating Results~~

     2005
     2004
     2003

     (in millions)

Athletic Stores                  $ 419            $ 420            $ 363
Direct-to-Customers                     48               45               53
                    467               465               416
All Other⁽¹⁾
                    —               2               1
Division profit                     467               463               415
Corporate expense⁽²⁾
                    58               74               73
Operating profit                     409               389               342
Other income⁽³⁾
                    (6 )             —               —
Interest expense, net                     10               15               18
Income from continuing operations before income taxes                  $ 405            $ 374            $ 324

~~(1)~~ ~~2004~~Customer deposits include unredeemed gift cards and ~~2003 include restructuring charges of $2 million~~certificates, merchandise credits and, ~~$1 million, respectively.~~

~~(2)~~ ~~2004 includes integration costs of $5 million~~deferred revenue related to ~~the acquisitions of Footaction and the 11 stores in the Republic of Ireland.~~undelivered merchandise, including layaway sales.

~~(3)~~ 2005 includes a $3 million gain from insurance recoveries associated with Hurricane Katrina. Additionally, $3 million represents a net gain on foreign currency option contracts that were entered into by the Company to mitigate the effect of fluctuating foreign exchange rates on the reporting of euro dominated earnings.

     Depreciation and
Amortization
     Capital Expenditures
     Total Assets


     2005
     2004
     2003
     2005
     2004
     2003
     2005
     2004
     2003

     (in millions)

Athletic Stores                  $ 141            $ 126            $ 123            $ 137            $ 139            $ 126            $ 2,322           $ 2,335           $ 1,739
Direct-to-Customers                     6               5               4               6               8               6               196               190               183
                    147               131               127               143               147               132               2,518              2,525              1,922
Corporate                     24               23               25               12               9               12               794               711               789
Discontinued operations                                                                                                                       1               2
Total Company                  $ 171            $ 154            $ 152            $ 155            $ 156            $ 144            $ 3,312           $ 3,237           $ 2,713

Sales and long-lived asset information by geographic area as of and for the fiscal years ended January 28, 2006, January 29, 2005 and January 31, 2004 are presented below. Sales are attributed to the country in which the sales originate, which is where the legal subsidiary is domiciled. Long-lived assets reflect property and equipment. The Company’s sales in Italy and France represents approximately 39, 40 and 38 percent of the International category’s sales for the three year period ended January 28, 2006. No other individual country included in the International category is significant.
13     Revolving Credit Facility
~~Sales~~

     2005
     2004
     2003

     (in millions)

United States                  $ 4,257           $ 3,982           $ 3,597
International                     1,396              1,373              1,182
Total sales                  $ 5,653           $ 5,355           $ 4,779

~~Long-Lived Assets~~

     2005
     2004
     2003

     (in millions)

United States                  $ 523            $ 547            $ 525
International                     152               168               143
Total long-lived assets                  $ 675            $ 715            $ 668

36

~~5    Hurricanes~~
Hurricanes Katrina, Rita and Wilma adversely affected the Company’s third quarter and fourth quarter operations and resulted in the closure of approximately 400 of the Company’s retail stores for varying periods of time. As of January 28, 2006, 25 of these stores remain closed. The Company expects to re-open up to 7 of the remaining stores in the early part of 2006 and continues to examine additional potential re-openings with the respective landlords and government agencies.
The hurricanes caused approximately $15 million in property and inventory losses and other costs. The Company recorded a loss of $3 million in the third quarter of 2005 as a component of selling, general and administrative expenses in the Consolidated Statements of Operations which included probable insurance recoveries of $12 million. The Company received $5 million from its insurance carriers in the third quarter of 2005.
In the fourth quarter of 2005, the Company received an additional $10 million from its insurance carriers. As a result the Company recorded a gain of $3 million in the fourth quarter of 2005, which was recorded as a component of other income in the Consolidated Statements of Operations. Additionally, the Company revised its original estimates of inventory losses considering proceeds received from liquidators, resulting in a reversal of $3 million recorded in selling, general and administrative expenses.
6
~~Short-Term Investments~~

The Company’s auction rate security investments are accounted for as available-for-sale securities. The fair value of all investments approximate their carrying cost as the investments are generally not held for more than 49 days and they are traded at par value. The following represents the composition of the Company’s auction rate securities by underlying investment.

     2005
     2004

     (in millions)

Tax exempt municipal bonds                  $ 41            $ 50
Taxable bonds                     —               40
Equity securities                     257               177
                 $ 298            $ 267

~~Contractual maturities of the bonds outstanding at January 28, 2006 range from 2018 to 2042.~~
~~7    Merchandise Inventories~~

     2005
     2004

     (in millions)

LIFO inventories                  $ 939            $ 856
FIFO inventories                     315               295
Total merchandise inventories                  $ 1,254           $ 1,151

~~The value of the Company’s LIFO inventories, as calculated on a LIFO basis, approximates their value as calculated on a FIFO basis.~~
8
~~Other Current Assets~~

     2005
     2004

     (in millions)

Net receivables                  $ 49            $ 47
Prepaid expenses and other current assets                     46               47
Prepaid income taxes                     49               40
Deferred taxes                     28               53
Current portion of Northern Group note receivable                     1               1
Assets of discontinued operations                     —               1
                 $ 173            $ 189

37

9
~~Property and Equipment, net~~

     2005
     2004

     (in millions)

Land
                 $ 3            $ 3
Buildings:

Owned                     31               31
Furniture, fixtures and equipment:

Owned                     1,087              1,072
Leased                     15               14
                    1,136              1,120
Less: accumulated depreciation                     (800 )             (755 )
                    336               365
Alterations to leased and owned buildings,
net of accumulated amortization
                    339               350
                 $ 675            $ 715

10
~~Other Assets~~

     2005
     2004

     (in millions)

Deferred tax costs                  $ 24            $ 25
Investments and notes receivable                     22               22
Northern Group note receivable, net of current portion                     9               8
Fair value of derivative contracts                     1               2
Other                     40               47
                 $ 96            $ 104

11
~~Accrued Liabilities~~

     2005
     2004

     (in millions)

Pension and postretirement benefits                  $ 72            $ 30
Incentive bonuses                     20               34
Other payroll and payroll related costs, excluding taxes                     52               51
Taxes other than income taxes                     43               45
Property and equipment                     16               22
Gift cards and certificates                     25               22
Income taxes payable                     3               9
Fair value of derivative contracts                     1               3
Current deferred tax liabilities                     3               1
Sales return reserve                     4               3
Liabilities of discontinued operations                     2               2
Current portion of repositioning and restructuring reserves                     1               1
Current portion of reserve for discontinued operations                     8               7
Other operating costs                     55               55
                 $ 305            $ 285

38

12
~~Revolving Credit Facility~~

At ~~January 28, 2006,~~February 3, 2007, the Company had unused domestic lines of credit of $186 million, pursuant to a $200 million unsecured revolving credit agreement. $14 million of the line of credit was committed to support standby letters of credit. These letters of credit are primarily used for insurance programs.
In May 2004, shortly after the Footaction acquisition, the Company amended its revolving credit agreement, thereby extending the maturity date to May 2009 from July 2006. The agreement includes various restrictive financial covenants with which the Company was in compliance on ~~January 28, 2006.~~February 3, 2007. Deferred financing fees are amortized over the life of the facility on a straight-line basis, which is comparable to the interest method. The unamortized balance at ~~January 28, 2006 approximates $2.7~~February 3, 2007 is approximately $1.9 million. Interest is determined at the time of borrowing based on variable rates and the Company’s fixed charge coverage ratio, as defined in the agreement. The rates range from LIBOR plus 0.875 percent to LIBOR plus 1.625 percent. The quarterly facility fees paid on the unused portion during 2006 and 2005, which are also based on the Company’s fixed charge coverage ratio, ranged from 0.175 percent to 0.25 percent. ~~Quarterly facility fees paid in 2004 ranged from 0.175 percent to 0.25 percent.~~ There were no short-term borrowings during ~~2005~~2006 or ~~2004.~~
2005.
Interest expense, including facility fees, related to the revolving credit facility was $2 million in ~~both~~2006, 2005 and ~~2004~~2004.
14     Long-Term Debt and ~~$3 million in 2003.~~
13
~~Long-Term Debt and~~ Obligations ~~under Capital Leases~~

In 2001, the Company issued $150 million of subordinated convertible notes due 2008, at an interest rate of 5.50 percent. The notes were convertible into the Company’s common stock at the option of the holder at a conversion price of $15.806 per share. In 2004, the Company notified The Bank of New York, as Trustee under the indenture, that it intended to redeem its entire $150 million outstanding 5.50 percent convertible subordinated notes. Effective June 4, 2004, all of the convertible subordinated notes were cancelled and approximately 9.5 million new shares of the Company’s common stock were issued. The Company reclassified the remaining $3 million of unamortized deferred costs related to the original issuance of the convertible debt to equity as a result of the conversion.
Capital Leases
~~In 2003, the Company purchased and retired $19 million of the $200 million debentures, bringing the total amount retired to date to $27 million.~~
In May 2004, the Company obtained a 5-year, $175 million amortizing term loan from the bank group participating in its existing revolving credit facility to finance a portion of the purchase price of the Footaction stores. The interest rate on the LIBOR-based, floating-rate loan was 6.5 percent on February 3, 2007 and 5.568 percent on January 28, ~~2006 and was 3.875 percent on January 29, 2005.~~2006. The loan requires minimum principal payments each May, equal to a percentage of the original principal amount of 10 percent in 2005 and 2006, 15 percent in years 2007 and 2008 and 50 percent in year 2009. Closing and upfront fees totaling approximately $1 million were paid for the term loan and these fees are being amortized using the interest rate method as determined by the principal repayment schedule. During 2005, the Company repaid $35 million of its 5-year term loan. This payment was in advance of the originally scheduled payment dates of May 19, 2005 and May 19, 2006 as permitted by the agreement. ~~In February of~~During 2006, the Company repaid an additional $50 million of its 5-year term loan. This payment was in advance of the originally scheduled payment dates of May 19, 2007 and May 19, 2008.
~~Following is a summary of long-term debt and obligations under capital leases:~~

     2005
     2004

     (in millions)

8.50% debentures payable 2022                  $ 171            $ 176
$175 million term loan                     140               175
Total long-term debt                     311               351
Obligations under capital leases                     15               14
                    326               365
Less: Current portion                     51               18
                 $ 275            $ 347

39
43

~~Maturities~~     During 2006, the Company purchased and retired $38 million of ~~long-term debt and minimum rent payments under capital leases~~the $200 million 8.50 percent debentures payable in ~~future periods are:~~

     Long-Term
Debt
     Capital
Leases
     Total

     (in millions)

2006                  $ 50 ⁽¹⁾          $ 1            $ 51
2007                     —               14               14
2008                     2               —               2
2009                     88               —               88
2010                     —               —               —
Thereafter                     171               —               171
                    311               15               326
Less: Current portion                     50               1               51
                 $ 261            $ 14            $ 275

~~(1)~~ Represents the Company’s $50 million principal payment on its 5-year term loan that was made in February 2006 and was in advance of the originally scheduled payment dates of May 19, 2007 and May 19, 2008.

2022 at a $2 million discount from face value bringing the outstanding amount to $134 million as of February 3, 2007. The Company has various interest rate swap agreements, which convert $100 million of the 8.50 percent debentures from a fixed interest rate to a variable interest ~~rate.~~rate, which are collectively classified as a fair value hedge. The ~~effect~~net fair value of ~~these~~the interest rate swaps ~~resulted in~~at February 3, 2007 was a ~~combined reduction in interest expense~~liability of ~~$1 million in 2005, $3 million in 2004, and~~ $4 million, which was included in ~~2003.~~
other liabilities, the carrying value of the 8.50 percent debentures was decreased by the corresponding amount. The net fair value of the interest rate swaps at January 28, 2006 was a liability $1 million, of which $1 million was included in other assets and $2 million was included in other liabilities. ~~The~~Accordingly, the fair value of the interest rate swaps decreased the carrying value of the 8.50 percent debentures ~~was decreased~~at January 28, 2006 by $1 ~~million for these swaps, which are collectively classified as~~million.
     Following is a ~~fair value hedge. At January 29, 2005, the net fair value~~summary of ~~the interest rate swaps was $2 million,~~long-term debt and ~~was included~~obligations under capital leases:
2006              2005
(in millions)
8.50% debentures payable 2022 $ 130 $ 171
$175 million term loan 90 140
Total long-term debt 220 311
Obligations under capital leases 14 15
234 326
Less: Current portion 14 51
$ 220 $ 275

     Maturities of long-term debt and minimum rent payments under capital leases in ~~other assets.~~future periods are:
Long-Term Capital
Debt Leases Total
(in millions)
2007 $ — $ 14 $ 14
2008 2 — 2
2009 88 — 88
2010 — — —
2011 — — —
Thereafter 130 — 130
220 14 234
Less: Current portion — 14 14
$ 220 $ — $ 220

Interest expense related to long-term debt and capital lease obligations, including the ~~impact~~effect of the interest rate swaps and the amortization of the associated debt issuance costs ~~and~~ was $20 million in both 2006 and 2005, and $19 million in ~~2004 and $22~~2004. The effect of the interest rate swaps was not significant for the year ended February 3, 2007. The effect of the interest rate swaps resulted in a combined reduction in interest expense of $1 million in ~~2003.~~
2005, and $3 million in 2004.
14
~~Leases~~

15     Leases
The Company is obligated under operating leases for almost all of its store properties. Some of the store leases contain renewal options with varying terms and conditions. Management expects that in the normal course of business, expiring leases will generally be renewed or, upon making a decision to relocate, replaced by leases on other premises. Operating lease periods generally range from 5 to 10 years. Certain leases provide for additional rent payments based on a percentage of store sales. Rent expense includes real estate taxes, insurance, maintenance, and other costs as required by some of the Company’s leases. The present value of operating leases is discounted using various interest rates ranging from 4 percent to 13 percent.
~~Rent expense consists of the following:~~

     2005
     2004
     2003

     (in millions)

Rent                  $ 630            $ 605            $ 532
Contingent rent based on sales                     13               11               11
Sublease income                     (1 )             (1 )             (1 )
Total rent expense                  $ 642            $ 615            $ 542

40
44

Rent expense consists of the following:

2006 2005 2004
(in millions)
Minimum rent $ 496 $ 489 $ 470
Other occupancy expenses 145 141 135
Contingent rent based on sales 21 13 11
Sublease income (1 ) (1 ) (1 )
Total rent expense $ 661 $ 642 $ 615

Future minimum lease payments under non-cancelable operating leases are:
(in millions)
2007     $ 486
2008 432
2009 371
2010 332
2011 289
Thereafter 829
Total operating lease commitments $ 2,739
Present value of operating lease commitments $ 2,069

     (in millions)

2006                  $ 454
2007                     420
2008                     362
2009                     299
2010                     262
Thereafter                     803
Total operating lease commitments                  $ 2,600
Present value of operating lease commitments                  $ 1,934

15
~~Other Liabilities~~

16     Other Liabilities
2006                2005
(in millions)
Pension benefits $ 21 $ 42
Postretirement benefits 11 84
Straight-line rent liability 91 83
Income taxes 45 35
Workers’ compensation / general liability reserves 12 12
Reserve for discontinued operations 12 14
Repositioning and restructuring reserves 3 3
Fair value of derivatives 12 2
Unfavorable leases 2 3
Other 9 15
$ 218 $ 293

     2005
     2004

     (in millions)

Pension benefits                  $ 42            $ 130
Postretirement benefits                     84               95
Straight-line rent liability                     83               77
Income taxes                     35               29
Workers’ compensation / general liability reserves                     12               11
Reserve for discontinued operations                     14               11
Repositioning and restructuring reserves                     3               3
Fair value of derivatives                     2               —
Unfavorable leases                     3               3
Other                     15               17
                 $ 293            $ 376

16
~~Discontinued Operations~~

17     Discontinued Operations
On January 23, 2001, the Company announced that it was exiting its 694-store Northern Group segment. During the second quarter of 2001, the Company completed the liquidation of the 324 stores in the United States. On September 28, 2001, the Company completed the stock transfer of the 370 Northern Group stores in Canada, through one of its wholly owned subsidiaries for approximately CAD$59 million, ~~(approximately US$38 million),~~ which was paid in the form of a note. Over the last several years, the note ~~(the “Note”). Another wholly owned subsidiary~~has been amended and payments have been received, however the interest and payment terms remained unchanged. The note is required to be repaid upon the occurrence of ~~the Company was the assignor of the store leases involved~~“payment events,” as defined in the ~~transaction and therefore retains potential liability for such leases.~~purchase agreement, but no later than September 28, 2008. As of February 3, 2007, CAD$15.5 million remains outstanding on the note. The ~~net amount of the assets and liabilities of the former operations was written down to the estimated~~ fair value of the ~~Note. The transaction was accounted for pursuant to SEC Staff Accounting Bulletin Topic 5:E, “Accounting for Divestiture of a Subsidiary or Other Business Operation,”~~note at February 3, 2007 and January 28, 2006, is $11 million and $1 million is classified as a ~~“transfer of~~current receivable, with the remainder classified as long term within other assets and liabilities under contractual arrangement” as no cash proceeds were received and the consideration comprised the Note, the repayment of which was dependent on the future successful operations of the business.
An agreement in principle had been reached during December 2002 to receive CAD$5 million (approximately US$3 million) cash consideration in partial prepayment of the Note and accrued interest, and further, the Company agreed to reduce the face value of the Note to CAD$17.5 million (approximately US$12 million). During the fourth quarter of 2002, circumstances had changed sufficiently such that it became appropriate to recognize the transaction as an accounting divestiture. Accordingly, the Note was recorded in the financial statements at its estimated fair value of CAD$16 million (approximately US$10 million). On May 6, 2003, the amendments to the Note were executed and a cash payment of CAD$5.2 million was received from the purchasers of the Northern Group, representingaccompanying Consolidated Balance Sheets. All scheduled principal and interest ~~through~~payments have been received in accordance with the date of the amendment. On January 15, 2004, the Company received an additional payment of CAD$1 million, representing a partial repayment of the Note. On August 20, 2004, the Company received a contingent payment of CAD$1 million, which was based upon a certain transaction that occurred. As a result of the settlement of the contingent transaction, the CAD$17.5 million Note was replaced with a new CAD$15.5 million note. The terms of the ~~new note are substantially~~note. During 2006, the ~~same as~~Company revised its estimates related to the ~~May 6, 2003 Note, including the expiration date and interest payment terms.~~
U.S. Northern store reserve resulting in a reduction of $2 million.
41
45

Future adjustments, if any, to the carrying value of the ~~Note~~note will be recorded pursuant to SEC Staff Accounting Bulletin Topic 5:Z:5, “Accounting and Disclosure Regarding Discontinued Operations,” which requires changes in the carrying value of assets received as consideration from the disposal of a discontinued operation to be classified within continuing operations. Interest income will also be recorded within continuing operations. The Company will recognize an impairment loss when, and if, circumstances indicate that the carrying value of the ~~Note~~note may not be recoverable. Such circumstances would include deterioration in the business, as evidenced by significant operating losses incurred by the purchaser or nonpayment of an amount due under the terms of the ~~Note.~~note. The purchaser has made all payments required under the terms of the ~~Note, however the business had sustained unexpected operating losses in prior years. During the current year, the operations have improved.~~note. The Company has evaluated the projected performance of the business and will continue to monitor its results during the coming year.
~~At January 28, 2006 and January 29, 2005, US$1million is classified as a current receivable, with~~     Another wholly owned subsidiary of the ~~remainder classified as long term within other assets~~Company was the assignor of the store leases involved in the ~~accompanying Consolidated Balance Sheets. All scheduled principal~~transaction and ~~interest payments have been received and in accordance with the terms of the Note.~~
therefore retains potential liability for such leases. As ~~indicated above, as~~ the assignor of the Northern Canada leases, the Company remained secondarily liable under these leases. As of ~~January 28, 2006,~~February 3, 2007, the Company estimates that its gross contingent lease liability is CAD$1911 million (approximately US$169 million). The Company currently estimates the expected value of the lease liability to be approximately US$1 million. The Company believes that, because it is secondarily liable on the leases, it is unlikely that it would be required to make such contingent payments.
During 2003, a charge in the amount of $1 million before-tax was recorded related to the Northern Group discontinuance to cover additional liabilities related to the exiting of the former leased corporate office in excess of the previous estimate. Subsequently in 2003, the Company made a CAD$10 million payment (approximately US$7 million) to the landlord, which released the Company from all future liability related to the lease.
In 1998, the Company exited both its International General Merchandise and Specialty Footwear segments. In 1997, the Company exited its Domestic General Merchandise segment. During 2006, the Company adjusted its International General Merchandise reserve by $2 million, reflecting favorable lease terminations. During 2005, the Company recorded a charge of $2 million to revise estimates on its lease liability for one store in the International General Merchandise segment. During 2004, the Company recorded income of $1 million, after-tax, related to a refund of Canadian customs duties related to certain of the businesses that comprised the Specialty Footwear segment.
In 1997, the Company exited its Domestic General Merchandise segment. In 2002, the successor-assignee of the leases of a former business included in the Domestic General Merchandise segment filed a petition in bankruptcy, and rejected in the bankruptcy proceeding certain leases it originally acquired from a subsidiary of the Company. During 2003, the Company recorded charges totaling $4 million related to claims with regard to certain of these leases, as well as others that have been settled. At January 28, 2006, one of these actions remains unresolved, the court has granted the Company’s motion for summary judgment. The landlord is currently appealing the matter.
The major components of the pre-tax losses (gains) on disposal and disposition activity related to the reserves are presented below. The remaining reserve balances as of ~~January 28, 2006~~February 3, 2007 primarily represent lease obligations; $8$3 million is expected to be utilized within twelve months and the remaining ~~$14~~$12 million thereafter.

     2002
     2003
     2004
     2005


     Balance
     Charge/
(Income)
     Net
Usage*
     Balance
     Charge/
(Income)
     Net
Usage*
     Balance
     Charge/
(Income)
     Net
Usage*
     Balance

     (in millions)

Northern Group                  $ 7            $ 1            $ (6 )          $ 2            $ —            $ 1            $ 3            $ —            $ 2            $ 5
International General Merchandise                     7               —               (2 )             5               —               —               5               2               1               8
Specialty Footwear                     3               —               (1 )             2               (1 )             1               2               —               (1 )             1
Domestic General Merchandise                     10               4               (4 )             10               —               (2 )             8               —               —               8
Total                  $ 27            $ 5            $ (13 )          $ 19            $ (1 )          $ —            $ 18            $ 2            $ 2            $ 22

2003 2004 2005 2006
Charge/ Net Charge/ Net Charge/ Net
Balance      (Income)      Usage*      Balance      (Income)      Usage*      Balance      (Income)      Usage*      Balance

(in millions)
Northern Group $ 2 $ — $ 1 $ 3 $ — $ 2 $ 5 $ (2 ) $ (1 ) $ 2
International General Merchandise 5 — — 5 2 1 8 (2 ) — 6
Specialty Footwear 2 (1 ) 1 2 — (1 ) 1 — — 1
Domestic General Merchandise 10 —    (2 ) 8 —    —    8 —    (2 ) 6
Total $ 19 $ (1 ) $ — $ 18 $ 2 $ 2    $ 22 $ (4 ) $ (3 ) $ 15
____________________

*       Net usage includes effect of foreign exchange translation adjustments.

42
18     Repositioning and Restructuring Reserves

17
~~Repositioning and Restructuring Reserves~~

1999 Restructuring
The Company recorded restructuring charges in 1999 for programs to sell or liquidate eight non-core businesses. The restructuring plan also included an accelerated store-closing program in North America and Asia, corporate headcount reduction and a distribution center shutdown. The dispositions of Randy River Canada, Foot Locker Outlets, Colorado, Going to the Game!, Weekend Edition and the store-closing program were essentially completed in 2000. In 2001, the Company completed the sales of The San Francisco Music Box Company (“SFMB”) and the assets related to its Burger King and Popeye’s franchises. The termination of the Maumelle distribution center lease was completed in 2002.
In connection with the sale of SFMB, the Company remained as ~~an assignor or~~ guarantor of ~~leases of SFMB related to~~ a distribution center ~~and five store locations. In May 2003, SFMB filed a voluntary petition under Chapter 11 of the Bankruptcy Code in the U.S. Bankruptcy Court for the District of Delaware.~~lease. During ~~July and August 2003, SFMB rejected four of the store leases and the distribution center lease and assumed one of the store leases in the bankruptcy proceedings. During the second quarters of 2003~~2006 and 2004, the Company recorded charges of $1 million and $2 million, respectively, primarily related to the distribution center lease. The lease for the distribution center expires January 31, ~~2010, while the store leases expired on January 31, 2004.~~2010. As of ~~January 28, 2006,~~February 3, 2007, the Company estimates its gross contingent lease liability for the distribution center lease to be approximately $3$2 million, offset in part by the estimated sublease income of $2$1 million. The Company entered into a sublease on November 15, 2004 for a significant portion of the distribution center that will expire concurrent with the Company’s lease term. ~~In addition, the Company is considering additional sublease offers for the remaining square footage.~~ Accordingly, at ~~January 28, 2006~~February 3, 2007 the reserve balance is $1 million.
46
1993 Repositioning and 1991 Restructuring
The Company recorded charges in 1993 and in 1991 to reflect the anticipated costs to sell or close under-performing specialty and general merchandise stores in the United States and Canada. As of ~~January 28, 2006~~February 3, 2007 the reserve balance is $3 million.
~~Total Repositioning and Restructuring Reserves~~19     Income Taxes
~~The components of the pre-tax losses (gains) on restructuring charges and disposition activity related to the reserves are presented below:~~

     2002
     2003
     2004
     2005


     Balance
     Charge/
(Income)
     Net
Usage
     Balance
     Charge/
(Income)
     Net
Usage
     Balance
     Charge/
(Income)
     Net
Usage
     Balance

     (in millions)

Real estate                  $ 2            $ 1            $ (1 )          $ 2            $ 2            $ (1 )          $ 3            $ —            $ —            $ 3
Other disposition costs                     1               —               —               1               —               —               1               —               —               1
Total                  $ 3            $ 1            $ (1 )          $ 3            $ 2            $ (1 )          $ 4            $ —            $ —            $ 4

~~At January 28, 2006, $1 million of the total restructuring reserves is expected to be utilized within the next twelve months and the remaining $3 million thereafter.~~
18
~~Income Taxes~~

Following are the domestic and international components of pre-tax income from continuing operations:
2006 2005 2004
(in millions)
Domestic $ 320 $ 309 $ 222
International 72 96 152
Total pre-tax income $ 392 $ 405 $ 374

     2005
     2004
     2003

     (in millions)

Domestic                  $ 309            $ 222            $ 186
International                     96               152               138
Total pre-tax income                  $ 405            $ 374            $ 324

43

The income tax provision consists of the following:
2006             2005             2004
(in millions)
Current:
Federal $ 93 $ 72 $ 11
State and local 14 11 6
International 17 35 52
Total current tax provision 124 118 69
Deferred:
Federal 10 22 43
State and local 6 7 8
International 5 (5 ) (1 )
Total deferred tax provision 21 24 50
Total income tax provision $ 145 $ 142 $ 119

     2005
     2004
     2003

     (in millions)

Current:

Federal                  $ 72            $ 11            $ 48
State and local                     11               6               14
International                     35               52               58
Total current tax provision                     118               69               120
Deferred:

Federal                     22               43               11
State and local                     7               8               (6 )
International                     (5 )             (1 )             (10 )
Total deferred tax provision                     24               50               (5 )
Total income tax provision                  $ 142            $ 119            $ 115

Provision has been made in the accompanying Consolidated Statements of Operations for additional income taxes applicable to dividends received or expected to be received from international subsidiaries. The amount of unremitted earnings of international subsidiaries for which no such tax is provided and which is considered to be permanently reinvested in the subsidiaries totaled $426 million and $388 million at February 3, 2007, and ~~$327 million at~~ January 28, 2006, ~~and January 29, 2005,~~ respectively.
A reconciliation of the significant differences between the federal statutory income tax rate and the effective income tax rate on pre-tax income from continuing operations is as follows:
2006          2005          2004

Federal statutory income tax rate    35.0 %    35.0 %    35.0 %
State and local income taxes, net of federal tax benefit 3.3 2.8 2.3
International income taxed at varying rates (0.9 ) 0.8 (0.6 )
Foreign tax credit utilization (1.2 ) (3.1 ) (2.5 )
Increase (decrease) in valuation allowance 0.1 (1.5 ) 0.1
Federal/foreign tax settlements (0.1 ) 0.4 (3.3 )
Tax exempt obligations (0.5 ) (0.4 ) (0.2 )
Federal tax credits (0.2 ) (0.2 ) (0.2 )
Other, net 1.4 1.2 1.1
Effective income tax rate 36.9 % 35.0 % 31.7 %

     2005
     2004
     2003

Federal statutory income tax rate                     35.0 %             35.0 %             35.0 %
State and local income taxes, net of federal tax benefit                     2.8              2.3              2.4
International income taxed at varying rates                     0.8              (0.6 )             0.5
Foreign tax credit utilization                     (3.1 )             (2.5 )             (1.0 )
Increase (decrease) in valuation allowance                     (1.5 )             0.1              (1.5 )
Federal/foreign tax settlements                     0.4              (3.3 )             —
State and local tax settlements                     —               —               (0.2 )
Tax exempt obligations                     (0.4 )             (0.2 )             (0.2 )
Work opportunity tax credit                     (0.2 )             (0.2 )             (0.1 )
Other, net                     1.2              1.1              0.6
Effective income tax rate                     35.0 %             31.7 %             35.5 %

47
Items that gave rise to significant portions of the deferred tax accounts are as follows:
2006           2005
(in millions)
Deferred tax assets:
Tax loss/credit carryforwards $ 56 $ 71
Employee benefits 26 75
Reserve for discontinued operations 6 8
Repositioning and restructuring reserves 2 3
Property and equipment 116 108
Allowance for returns and doubtful accounts 4 4
Straight-line rent 24 22
Other 21 19
Total deferred tax assets 255 310
Valuation allowance (105 ) (123 )
              Total deferred tax assets, net $ 150 $ 187

2006           2005
(in millions)
Deferred tax liabilities:
Inventories $ 24 $ 18
Goodwill 13 12
Other 8 10
Total deferred tax liabilities 45 40
Net deferred tax asset $ 105 $ 147
Balance Sheet caption reported in:
Deferred taxes $ 109 $ 147
Other current assets 21 28
Other current liabilities (4 ) (3 )
Other liabilities (21 ) (25 )
$ 105 $ 147

     2005
     2004

     (in millions)

Deferred tax assets:

Tax loss/credit carryforwards                  $ 71            $ 89
Employee benefits                     75               116
Reserve for discontinued operations                     8               5
Repositioning and restructuring reserves                     3               3
Property and equipment                     108               89
Allowance for returns and doubtful accounts                     4               7
Straight-line rent                     22               19
Other                     19               17
Total deferred tax assets                     310               345
Valuation allowance                     (123 )             (124 )
Total deferred tax assets, net                  $ 187            $ 221

44

     2005
     2004

     (in millions)

Deferred tax liabilities:

Inventories                  $ 18            $ 8
Goodwill                     12               2
Other                     10               1
Total deferred tax liabilities                     40               11
Net deferred tax asset                  $ 147            $ 210
Balance Sheet caption reported in:

Deferred taxes                  $ 147            $ 180
Other current assets                     28               53
Other current liabilities                     (3 )             (1 )
Other liabilities                     (25 )             (22 )
                 $ 147            $ 210

The Company operates in multiple taxing jurisdictions and is subject to audit. Audits can involve complex issues and may require an extended period of time to resolve. A taxing authority may challenge positions that the Company has adopted in its income tax filings. Accordingly, the Company may apply different tax treatments for transactions in filing its income tax returns than for income tax financial reporting. The Company regularly assesses its tax ~~position~~positions for such transactions and records reserves for those differences.
The Company’s U.S. Federal income tax filings have been examined by the Internal Revenue Service (the “IRS”) through ~~2004.~~2005. The Company participated in the IRS’ Compliance Assurance Process (“CAP”) for ~~2005,~~2006, which is expected to conclude during ~~2006.~~2007. The Company has started the ~~Compliance Assurance Process~~CAP for ~~2006.~~
2007.
As of ~~January 28, 2006,~~February 3, 2007, the Company has a valuation allowance of ~~$123~~$105 million to reduce its deferred tax assets to an amount that is more likely than not to be realized. The valuation allowance primarily relates to the deferred tax assets arising from state tax loss carryforwards, tax loss carryforwards of certain foreign operations, and capital loss carryforwards and unclaimed tax depreciation of the Canadian operations. The valuation allowance for state tax loss carryforwards decreased, principally due to anticipated expirations of those losses. The valuation allowance for Canadian tax loss carryforwards and tax depreciation decreased as a result of a reorganization of the Company’s Canadian operations that increased the amount of deferred tax assets the Company expects to benefit from, offset in part by an increase in the valuation allowance attributable to currency fluctuations and other adjustments.
48
Based upon the level of historical taxable income and projections for future taxable income over the periods in which the temporary differences are anticipated to reverse, management believes it is more likely than not that the Company will realize the benefits of these deductible differences, net of the valuation allowances at ~~January 28, 2006.~~February 3, 2007. However, the amount of the deferred tax asset considered realizable could be adjusted in the future if estimates of taxable income are revised.
At ~~January 28, 2006,~~February 3, 2007, the Company’s tax loss/credit carryforwards ~~included~~includes international operating loss carryforwards with a potential tax benefit of ~~$35~~$26 million. Those expiring between ~~2006~~2007 and 2013 total ~~$33~~$23 million and those that do not expire total $2$3 million. The Company also has state net operating loss carryforwards with a potential tax benefit of ~~$25~~$18 million, which principally relate to the 16 states where the Company does not file a combined ~~return.~~or consolidated returns. These loss carryforwards expire between ~~2006~~2007 and 2025. The Company has state credits carryforwards of approximately $1 million that expire between 2010 and 2013 and Canadian capital loss carryforwards of approximately $11 million that do not expire.
45
20     Financial Instruments and Risk Management

19
~~Financial Instruments and Risk Management~~

Foreign Exchange Risk Management — Derivative Holdings Designated as Hedges
The Company operates internationally and utilizes certain derivative financial instruments to mitigate its foreign currency exposures, primarily related to third party and intercompany forecasted transactions.
For a derivative to qualify as a hedge at inception and throughout the hedged period, the Company formally documents the nature of the hedged items and the relationships between the hedging instruments and the hedged items, as well as its risk-management objectives, strategies for undertaking the various hedge transactions, and the methods of assessing hedge effectiveness and hedge ineffectiveness. Additionally, for hedges of forecasted transactions, the significant characteristics and expected terms of a forecasted transaction must be specifically identified, and it must be probable that each forecasted transaction would occur. If it were deemed probable that the forecasted transaction would not occur, the gain or loss would be recognized in earnings immediately. No such gains or losses were recognized in earnings during ~~2005~~2006 or ~~2004.~~2005. Derivative financial instruments qualifying for hedge accounting must maintain a specified level of effectiveness between the hedging instrument and the item being hedged, both at inception and throughout the hedged period, which management evaluates periodically.
The primary currencies to which the Company is exposed are the euro, the British Pound, and the Canadian Dollar. For option and forward foreign exchange contracts designated as cash flow hedges of the purchase of inventory, the effective portion of gains and losses is deferred as a component of accumulated other comprehensive loss and is recognized as a component of cost of sales when the related inventory is sold. ~~Amounts~~The amount classified to cost of sales related to such contracts ~~were~~was not significant in 2006 and was a gain of ~~approximately~~ $2 million in ~~2005 and a loss of $1 million in 2004.~~2005. The ineffective portion of gains and losses related to cash flow hedges recorded to earnings in ~~2005~~2006 was not significant and ~~2004~~ was approximately $1 million in ~~each year.~~2005. When using a forward contract as a hedging instrument, the Company excludes the time value from the assessment of effectiveness. At each year-end, the Company had not hedged forecasted transactions for more than the next twelve months, and the Company expects all derivative-related amounts reported in accumulated other comprehensive loss to be reclassified to earnings within twelve months.
     The Company has numerous investments in foreign subsidiaries, and the net assets of those subsidiaries are exposed to foreign exchange-rate volatility. In 2005, the Company hedged a portion of its net investment in its European subsidiaries. The Company entered into a 10-year cross currency swap, effectively creating a ~~euro 100~~€100 million long-term liability and a $122 million long-term asset. During the term of this transaction, the Company will remit to and receive from its counterparty interest payments based on rates that are reset monthly equal to one-month EURIBOR and one-month U.S. LIBOR rates, respectively. In 2006, the Company hedged a portion of its net investment in its Canadian subsidiaries. The Company entered into a 10-year cross currency swap, creating a CAD $40 million liability and a $35 million long-term asset. During the term of this transaction, the Company will remit to and receive from its counterparty interest payments based on rates that are reset monthly equal to one-month CAD B.A. and one-month U.S. LIBOR rates, respectively.
49
The Company has designated ~~this~~these hedging ~~instrument~~instruments as ~~a hedge~~hedges of the net ~~investment~~investments in a foreign ~~subsidiary,~~subsidiaries, and will use the spot rate method of accounting to value changes of the hedging instrument attributable to currency rate fluctuations. As such, adjustments in the fair market value of the hedging instrument due to changes in the spot rate will be recorded in other comprehensive income and are expected to offset changes in the euro-denominated net investment. Amounts recorded to foreign currency translation within accumulated other comprehensive loss will remain there until the net investment is disposed of. The amount recorded within the foreign currency translation adjustment included in accumulated other comprehensive loss on the Consolidated Balance Sheet at February 3, 2007 decreased shareholders’ equity by $5 million, net of tax. At January 28, 2006, the amount recorded to foreign currency translation was not significant. ~~In February 2006,~~The effect on the ~~Company hedged a portion~~Consolidated Statements of its net investment in its Canadian subsidiaries. The Company entered into a 10-year cross currency swap, creating a CAD $40 million liability and a $35 million long-term asset. During the term of this transaction, the Company will remitOperations related to and receive from its counterparty interest payments based on rates that are reset monthly equal to one-month CAD B.A. and one-month U.S. LIBOR rates, respectively. The Company has designated this hedging instrument as a hedge of the net ~~investment in a foreign subsidiary, and will account for the hedge accordingly.~~
~~The fair value of foreign exchange derivative contracts designated as~~investments hedges was ~~insignificant at both January 28,~~income of $3 million for 2006 and ~~January 29,~~was not significant for 2005.
Foreign Exchange Risk Management — Derivative Holdings Designated as Non-Hedges
The Company mitigates the effect of fluctuating foreign exchange rates on the reporting of foreign currency denominated earnings by entering into a variety of derivative instruments including option currency contracts. These contracts are not designated as hedges and as a result, the changes in the fair value of these financial instruments are charged to the statement of operations immediately. The ~~Company~~changes in fair values recorded in the Consolidated Statement of Operations for the year ended February 3, 2007 was not significant and was a net gain of approximately $3 million ~~related to foreign option currency~~for contracts ~~designated as non-hedges~~ that settled in the second quarter of 2005.
The Company also enters into certain forward foreign exchange contracts to hedge intercompany foreign-currency denominated transactions. In 2005, the Company recorded gains of approximately $3 million in selling, general and administrative expenses to reflect the fair value of these contracts. These gains were offset by the foreign exchange losses on the revaluation of the underlying assets or liabilities.
The amount recorded during 2006 was not significant.
The fair value of foreign exchange derivative contracts designated as non-hedges was included as an addition to accrued liabilities of $1 million at January 28, 2006 and $3 million at January 29, 2005.
46

Foreign Currency Exchange Rates
The table below presents the fair value, notional amounts, and weighted-average exchange rates of foreign exchange forward and option contracts outstanding at ~~January 28, 2006.~~February 3, 2007.
Fair Value Contract Value Weighted-Average
(US in millions)      (US in millions)      Exchange Rate
Inventory
Buy €/Sell British £    $ (1 )    $ 63 .6799
Buy $US/Sell € — 4         1.3108
Buy $US/Sell CAD$ — 2 .9088

Earnings
Sell €/Buy $US $ — $ 29 1.2962
Sell CAD$/ Buy $US — 7 .8739

Intercompany
Buy €/ Sell British £ $ — $ 25 .6762
Buy British £/Sell € — 25 .6668
Buy SEK/Sell € — 1 .7456
Buy €/Sell $US — 1 1.3078
Buy US/Sell NZD — 2 .5985
Buy US/Sell AUD — 2 .7456
Buy US/Sell CAD — 1 .8727

     Fair Value
(US in millions)
     Contract Value
(US in millions)
     Weighted-Average
Exchange Rate
Inventory

Buy €/Sell British £                  $ —            $ 34               0.6848
Buy British £/Sell €                     —               (4 )             0.6860
Buy $US/Sell €                     —               (8 )             1.2187
                    —               22
Earnings

Buy €/Sell $US                  $ —            $ 18               1.1500
                    —               18
Intercompany

Buy €/Sell $US                  $ (1 )          $ 49               1.2173
Buy $US/Sell €                     —               (18 )             1.2394
Buy €/Sell British £                     —               21               0.6948
Buy British £/Sell €                     —               (3 )             0.6926
                    (1 )             49

50
Interest Rate Risk Management
The Company has employed various interest rate swaps to minimize its exposure to interest rate fluctuations. These swaps, which mature in 2022, have been designated as a fair value hedge of the changes in fair value of $100 million of the Company’s 8.50 percent debentures payable in 2022 attributable to changes in interest rates and effectively convert the interest rate on the debentures from 8.50 percent to a 1-month variable rate of LIBOR plus 3.45 percent.
The fair value of the swaps, included as an addition to other liabilities, was approximately $1 million at January 28, 2006, and the fair value of the swaps, included as an addition to other assets was approximately $2 million at January 29, 2005.
The following table presents the Company’s outstanding interest rate derivatives:
2006         2005         2004
(in millions)
Interest Rate Swaps:
     Fixed to Variable ($US) — notional amount $ 100 $ 100 $ 100
          Average pay rate
8.53
% 8.00 % 6.46 %
          Average receive rate 8.50 % 8.50 % 8.50 %
     Variable to variable ($US) — notional amount $ 100 $ 100 $ 100
          Average pay rate
5.57
% 4.82 % 2.73 %
          Average receive rate
5.32
% 4.79 % 3.25 %

Fair Value
     The following represents the fair value of foreign exchange derivative contracts and interest rate swaps:
2006         2005
(in millions)
Current assets $ 1 $ —
Non-current assets — 1
Current liabilities 2 1
Non-current liabilities 12 2

     2005
     2004
     2003

     (in millions)

Interest Rate Swaps:

Fixed to Variable ($US) — notional amount                  $ 100            $ 100            $ 100
Average pay rate                     8.00 %             6.46 %             5.07 %
Average receive rate                     8.50 %             8.50 %             8.50 %
Variable to variable ($US) — notional amount                  $ 100            $ 100            $ —
Average pay rate                     4.82 %             2.73 %             — %
Average receive rate                     4.79 %             3.25 %             — %

Interest Rates
The Company’s major exposure to market risk is to changes in interest rates, primarily in the United States.
The table below presents the fair value of principal cash flows and related weighted-average interest rates by maturity dates, including the effect of the interest rate swaps outstanding at ~~January 28, 2006,~~February 3, 2007, of the Company’s long-term debt obligations.

     2006
     2007
     2008
     2009
     2010
     Thereafter
     Jan. 28,
2006
Total
     Jan. 29,
2005
Total

     ($ in millions)

Long-term debt                  $ 50               —               2               88               —               190            $ 330            $ 368
Weighted-average interest rate                     7.3 %             7.3 %             7.3 %             7.9 %             8.2 %             8.2 %

Feb. 3, Jan. 28,
2007 2006
2007      2008      2009      2010      2011      Thereafter      Total      Total
($ in millions)
Long-term debt $ — 2 88 — — 132 $222 $330
Weighted-average interest rate 7.8 % 7.8 % 7.8 % 8.7 % 8.7 % 8.7 %

Fair Value of Financial Instruments
The carrying value and estimated fair value of long-term debt was $220 million and $222 million, respectively, at February 3, 2007 and $311 million and $330 million, respectively, at January 28, ~~2006 and $351 million and $368 million, respectively, at January 29, 2005.~~2006. The carrying value and estimated fair value of long-term investments and notes receivable was $18 million and $19 million, respectively, at February 3, 2007 and $33 million and $33 million, respectively, at January 28, ~~2006,~~2006. The carrying value and ~~$32~~estimated fair value of short-term investment was $14 million and ~~$33~~$15 million, respectively, at ~~January 29, 2005.~~February 3, 2007. The carrying values of cash and cash equivalents, other short-term investments and other current receivables and payables approximate their fair value.
47
51

Business Risk
The retailing business is highly competitive. Price, quality and selection of merchandise, reputation, store location, advertising and customer service are important competitive factors in the Company’s business. The Company operates in 20 countries and purchased approximately 7578 percent of its merchandise in ~~2005~~2006 from its top 5 vendors. In ~~2005,~~2006, the Company purchased approximately 4950 percent of its athletic merchandise from one major vendor and approximately 814 percent from another major vendor. Each of our operating divisions are highly dependent on Nike, they individually purchase 40 to 65 percent of their merchandise from Nike. The Company generally considers all vendor relations to be satisfactory.
Included in the Company’s Consolidated Balance Sheet as of ~~January 28, 2006,~~February 3, 2007, are the net assets of the Company’s European operations totaling ~~$422~~$478 million, which are located in 16 countries, 11 of which have adopted the euro as their functional currency.
21    Retirement Plans and Other Benefits
20
~~Retirement Plans and Other Benefits~~

Pension and Other Postretirement Plans
The Company has defined benefit pension plans covering most of its North American employees, which are funded in accordance with the provisions of the laws where the plans are in effect. In addition to providing pension benefits, the Company sponsors postretirement medical and life insurance plans, which are available to most of its retired U.S. employees. These plans are contributory and are not funded. The measurement date of the assets and liabilities is the last day of ~~January each~~the fiscal year.
     In September 2006, the FASB issued SFAS No. 158, “Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans- An Amendment of FASB Statements No. 87, 88, 106, and 132(R),” (“SFAS No. 158”). This new standard requires an employer to: recognize in its statement of financial position an asset for a plan’s overfunded status or a liability for a plan’s underfunded status; measure a plan’s assets and its obligations that determine its funded status as of the end of the employer’s fiscal year (with limited exceptions); and recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur. Those changes will be reported in comprehensive income/loss. The initial effect of the standard, due to unrecognized prior service cost and net actuarial gains or losses, as well as subsequent changes in the funded status, is recognized as a component of accumulated comprehensive income/loss within shareholders’ equity. Additional minimum pension liabilities (“AML”) and related intangible assets are derecognized upon the adoption of SFAS No. 158. The Company adopted this standard as of February 3, 2007.
The following tables set forth the plans’ changes in benefit obligations and plan assets, funded status and amounts recognized in the Consolidated Balance Sheets, measured at February 3, 2007 and January 28, 2006:
Postretirement
Pension Benefits Benefits
        2006         2005         2006         2005
(in millions)
Change in benefit obligation
     Benefit obligation at beginning of year $ 689 $ 703 $ 17 $ 24
     Service cost 10 9 — —
     Interest cost 36 36 1 1
     Plan participants’ contributions — — 5 5
     Actuarial gain (12 ) — (3 ) (5 )
     Foreign currency translation adjustments (2 ) 7 — —
     Plan amendment 1 — — —
     Benefits paid (60 ) (66 ) (7 ) (8 )
     Benefit obligation at end of year $ 662 $ 689 $ 13 $ 17

52

Postretirement
Pension Benefits Benefits
        2006         2005         2006         2005
(in millions)
Change in plan assets
     Fair value of plan assets at beginning of year $ 579 $ 551
     Actual return on plan assets 60 60
     Employer contribution 70 29
     Foreign currency translation adjustments (2 ) 5
     Benefits paid (60 ) (66 )
     Fair value of plan assets at end of year $ 647 $ 579
Funded status
     Funded status $ (15 ) $ (110 ) $ (13 ) $ (17 )
     Unrecognized prior service cost (benefit) 3 (9 )
     Unrecognized net (gain) loss 303 (60 )
     Prepaid asset (accrued liability) $ 196 $ (86 )
Balance Sheet caption reported in:
     Intangible assets $ — $ 1 $ — $ —
     Other assets 8 — — —
     Accrued and other liabilities (2 ) (70 ) (2 ) (2 )
     Other liabilities (21 ) (42 ) (11 ) (84 )
     Accumulated other comprehensive loss, pre-tax — 307 — —
$ (15 ) $ 196 $ (13 ) $ (86 )

     At February 3, 2007, the aggregate amount of accumulated benefit obligations which exceed plan assets totaled $23 million representing the Company’s nonqualified pension plans. The Company's qualified pension plans were fully funded at February 3, 2007. At January 28, 2006, ~~and January 29, 2005:~~
the accumulated benefit obligations of $688 million exceeded plan assets of $579 million for all pension plans.

     Pension Benefits
     Postretirement
Benefits


     2005
     2004
     2005
     2004

     (in millions)

Change in benefit obligation

Benefit obligation at beginning of year                  $ 703            $ 697            $ 24            $ 27
Service cost                     9               9               —               —
Interest cost                     36               39               1               1
Plan participants’ contributions                     —               —               5               5
Actuarial loss (gain)                     —               16               (5 )             —
Foreign currency translation adjustments                     7               5               —               —
Benefits paid                     (66 )             (63 )             (8 )             (9 )
Benefit obligation at end of year                  $ 689            $ 703            $ 17            $ 24
Change in plan assets

Fair value of plan assets at beginning of year                  $ 551            $ 474
Actual return on plan assets                     60               28
Employer contribution                     29               108
Foreign currency translation adjustments                     5               4
Benefits paid                     (66 )             (63 )
Fair value of plan assets at end of year                  $ 579            $ 551
Funded status

Funded status                  $ (110 )          $ (152 )          $ (17 )          $ (24 )
Unrecognized prior service cost (benefit)                     3               4               (9 )             (10 )
Unrecognized net (gain) loss                     303               324               (60 )             (67 )
Prepaid asset (accrued liability)                  $ 196            $ 176            $ (86 )          $ (101 )
Balance Sheet caption reported in:

Intangible assets                  $ 1            $ 1            $ —            $ —
Accrued liabilities                     (70 )             (24 )             (2 )             (6 )
Other liabilities                     (42 )             (130 )             (84 )             (95 )
Accumulated other comprehensive loss, pre-tax                     307               329               —               —
                 $ 196            $ 176            $ (86 )          $ (101 )

48

~~The change~~     Amounts recognized in ~~the additional minimum liability was a decrease of $15 million after-tax in 2005 and an increase of $14 million after-tax in 2004 to~~ accumulated other comprehensive ~~loss.~~loss (pre-tax) at February 3, 2007 consists of:
Pension              Postretirement
Benefits Benefits
Prior service cost (benefit) $ 4 $ (7 )
Net actuarial (gain) loss    274    (53 )
Total amount recognized $ 278 $ (60 )
As     The following represents the change to the Consolidated Balance Sheet as of ~~January 28, 2006 and January 29, 2005,~~February 3, 2007 as a result of the ~~accumulated benefit obligation for all pension plans, totaling $688 million and $702 million, respectively, exceeded plan assets.~~
adoption of SFAS No. 158:
Prior to
AML and Effect of Post AML and
Statement Adoption Statement
No. 158 AML Statement No. 158
        Adjustments         Adjustment         No. 158         Adjustments
(in millions)
Current assets 2,034 — — 2,034
Deferred taxes 144 (120 ) 85 109
Intangible assets 106 (1 ) — 105
Other assets 75 — 8 83
Total assets $ 3,277 (121 ) 93 $ 3,249

53

Prior to
AML and Effect of Post AML and
Statement Adoption Statement
No. 158 AML Statement No. 158
        Adjustments         Adjustment         No. 158         Adjustments
(in millions)
Accrued and other liabilities 246 — — 246
Total current liabilities 516 — — 516
Other liabilities 300 (308 ) 226 218
Other comprehensive loss (150 ) 187 (133 ) (96 )
Total shareholders’ equity 2,323 (121 ) 93 2,295
Total liabilities and shareholders’ equity $ 3,277 (121 ) 93 $ 3,249
The following weighted-average assumptions were used to determine the benefit obligations under the plans:
Pension Benefits Postretirement Benefits
2006         2005         2006         2005
Discount rate 5.68% 5.43% 5.80% 5.50%
Rate of compensation increase 3.76% 3.77%

     Pension Benefits
     Postretirement Benefits


     2005
     2004
     2005
     2004
Discount rate                     5.43 %             5.50 %             5.50 %             5.50 %
Rate of compensation increase                     3.77 %             3.79 %

The components of net benefit expense (income) are:

     Pension Benefits
     Postretirement Benefits


     2005
     2004
     2003
     2005
     2004
     2003

     (in millions)

Service cost                  $ 9            $ 9            $ 8            $ —            $ —            $ —
Interest cost                     36               39               43               1               1               2
Expected return on plan assets                     (49 )             (48 )             (46 )             —               —               —
Amortization of prior service cost (benefit)                     1               1               —               (1 )             (1 )             (1 )
Amortization of net (gain) loss                     13               11               9               (12 )             (13 )             (16 )
Net benefit expense (income)                  $ 10            $ 12            $ 14            $ (12 )          $ (13 )          $ (15 )

Pension Benefits Postretirement Benefits
        2006         2005         2004         2006         2005         2004
(in millions)
Service cost $ 10 $ 9 $ 9 $ — $ — $ —
Interest cost 36 36 39 1 1 1
Expected return on plan assets (56 ) (49 ) (48 ) — — —
Amortization of prior service cost (benefit) 1 1 1 (1 ) (1 ) (1 )
Amortization of net (gain) loss 12 13 11 (10 ) (12 ) (13 )
Net benefit expense (income) $ 3 $ 10 $ 12 $ (10 ) $ (12 ) $ (13 )

The following weighted-average assumptions were used to determine net benefit cost:

     Pension Benefits
     Postretirement Benefits


     2005
     2004
     2003
     2005
     2004
     2003
Discount rate                     5.50 %             5.90 %             6.50 %             5.50 %             5.90 %             6.50 %
Rate of compensation increase                     3.77 %             3.79 %             3.72 %
Expected long-term rate of return on assets                     8.88 %             8.89 %             8.88 %

Pension Benefits Postretirement Benefits
        2006         2005         2004         2006         2005         2004
Discount rate 5.44% 5.50% 5.90% 5.50% 5.50% 5.90%
Rate of compensation increase 3.76% 3.77% 3.79%
Expected long-term rate of return on assets 8.87% 8.88% 8.89%

     The amounts in accumulated other comprehensive loss that are expected to be recognized as components of net periodic benefit cost (income) during the next year are as follows:
        Pension         Postretirement Benefits         Total
(in millions)
Amortization of prior service cost (benefit) $ 1   $ (1 ) $ —
Amortization of net loss (gain) $ 11   $ (8 ) $ 3

The expected long-term rate of return on invested plan assets is based on historical long-term performance and future expected performance of those assets based upon current asset allocations.
54
Beginning with 2001, new retirees were charged the expected full cost of the medical plan and existing retirees will incur 100 percent of the expected future increase in medical plan costs. Any changes in the health care cost trend rates assumed would not affect the accumulated benefit obligation or net benefit income, since retirees will incur 100 percent of such expected future increases.
In December 2003, the United States enacted into law the Medicare Prescription Drug, Improvement and Modernization Act of 2003 (the “Act”). The Act establishes a prescription drug benefit under Medicare, known as “Medicare Part D,” and a Federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. In May 2004, the FASB issued FASB Staff Position No. 106-2, “Accounting and Disclosure Requirements Related to the Medicare Prescription Drug, Improvement and Modernization Act of 2003” (“FSP 106-2”). FSP 106-2 requires companies to account for the effect of the subsidy on benefits attributable to past service as an actuarial experience gain and as a reduction of the service cost component of net postretirement health care costs for amounts attributable to current service, if the benefit provided is at least actuarially equivalent to Medicare Part D. During 2005, the Company reviewed its retiree health care benefit plans in light of the final regulations for implementing Medicare Part D by the Centers for Medicare and Medicaid Services. The Company has determined that it will qualify for the subsidy, however the effect of the subsidy ~~will~~was not be significant to either the benefit obligation or net benefit income.
49
     In August 2006, the Pension Protection Act of 2006 was signed into law. The major provisions of the statute will take effect January 1, 2008. Among other things, the statute is designed to ensure timely and adequate funding of pension plans by shortening the time period within which employers must fully fund pension benefits. The Company is currently evaluating the effect, if any, that the Pension Protection Act of 2006 will have on funding requirements. The effect on net periodic benefit cost is not expected to be significant.

The Company’s pension plan weighted-average asset allocations at February 3, 2007 and January 28, 2006, ~~and January 29, 2005,~~ by asset category are as follows:
2006                 2005
Asset Category
Equity securities 64 % 62 %
Foot Locker, Inc. common stock 1 % 2 %
Debt securities 33 % 34 %
Real estate 1 % 1 %
Other 1 % 1 %
Total 100 % 100 %

     2005
     2004
Asset Category

Equity securities                     62 %             63 %
Foot Locker, Inc. common stock                     2 %             2 %
Debt securities                     34 %             33 %
Real estate                     1 %             1 %
Other                     1 %             1 %
Total
               ��    100 %             100 %

The U.S. defined benefit plan held 396,000 shares of Foot Locker, Inc. common stock as of February 3, 2007 and January 28, ~~2006 and January 29, 2005.~~2006. Currently, the target composition of the weighted-average plan assets is 64 percent equity and 36 percent fixed income securities, although the Company may alter the targets from time to time depending on market conditions and the funding requirements of the pension plans. The Company believes that plan assets are invested in a prudent manner with an objective of providing a total return that, over the long term, provides sufficient assets to fund benefit obligations, taking into account the Company’s expected contributions and the level of risk deemed appropriate. The Company’s investment strategy is to utilize asset classes with differing rates of return, volatility and correlation to reduce risk by providing diversification relative to equities. Diversification within asset classes is also utilized to reduce the effect that the return of any single investment may have on the entire portfolio. ~~The Company contributed $68 million to its pension plans in February 2006.~~
Estimated future benefit payments for each of the next five years and the five years thereafter are as follows:
Pension Postretirement
Benefits         Benefits
(in millions)
2007 $ 64 $ 2
2008 62 2
2009 61 2
2010 58 2
2011 56 1
2012–2015 259 5

     Pension
Benefits
     Postretirement
Benefits

     (in millions)

      2006                  $ 64            $ 2
      2007                     62               3
      2008                     60               3
      2009                     60               2
      2010                     58               2
2011–2015                     263               6

     In the fourth quarter of 2006, the Company and its U.S. pension plan, the Foot Locker Retirement Plan, were named as defendants in a class action in federal court in Illinois. The Complaint alleged that the Company’s pension plan violated the Employee Retirement Income Security Act of 1974 as a result of the Company’s conversion of its defined benefit plan to a defined benefit pension plan with a cash balance feature in 1996. In March 2007, the class action was dismissed without prejudice. In February 2007, the same plaintiff filed a class action in federal court in New York against the Company and its U.S. pension plan, the Foot Locker Retirement Plan. The Complaint alleged that the
55
Company’s pension plan violated the Employee Retirement Income Security Act of 1974, including, without limitation, its age discrimination and notice provisions, as a result of the Company’s conversion of its defined benefit plan to a defined benefit pension plan with a cash balance feature in 1996. The Company plans to defend the action vigorously.
Savings Plans
The Company has two qualified savings plans, a 401(k) Plan that is available to employees whose primary place of employment is the U.S., and an 1165 (e) Plan, which began during 2004 that is available to employees whose primary place of employment is in Puerto Rico. Both plans require that the employees have attained at least the age of twenty-one and have completed one year of service consisting of at least 1,000 hours. The savings plans allow eligible employees to contribute up to 25 percent and 10 percent, for the U.S. and Puerto Rico plans, respectively, of their compensation on a pre-tax basis. The Company matches 25 percent of the first 4 percent of the employees’ contributions with Company stock and such matching Company contributions are vested incrementally over 5 years for both plans. The charge to operations for the Company’s matching contribution for the U.S. plan was $1.9 million, $1.6 million, and $1.3 million in 2006, 2005 and ~~$1.5 million in 2005,~~ 2004, ~~and 2003,~~ respectively.
21
~~Stock Plans~~

~~In 2003, the Company adopted~~22     Share-Based Compensation
Stock Options
     Under the 2003 Stock Option and Award Plan (the “2003 Stock Option Plan”) ~~and the 2003 Employees Stock Purchase Plan (the “2003 Stock Purchase Plan”). Under the 2003 Stock Option Plan,~~, options, restricted stock, stock appreciation rights (SARs), or other stock-based awards may be granted to officers and other employees, including those at the subsidiary levels, at not less than the market price on the date of the grant. Unless a longer or shorter period is established at the time of the option grant, generally, one-third of each stock option grant becomes exercisable on each of the first three anniversary dates of the date of grant. The maximum number of shares of stock reserved for issuance pursuant to the 2003 Stock Option Plan is 4,000,000 shares. The number of shares reserved for issuance as restricted stock and other stock-based awards cannot exceed 1,000,000 shares. The Company adopted the 2003 Stock Purchase Plan whose terms are substantially the same as the 1994 Employees Stock Purchase Plan (the “1994 Stock Purchase Plan”), which expired in June 2004. Under the 2003 Stock Purchase Plan, 3,000,000 shares of common stock became available for purchase beginning June 2005.
50

~~Under the Company’s 2003 Stock Purchase Plan participating employees are able to contribute~~options terminate up to 10 ~~percent~~years from the date of their annual compensation to acquire shares of common stock at 85 percent of the lower market price on one of two specified dates in each plan year. Of the 3,000,000 shares of common stock authorized for purchase under this plan, 1,191 participating employees purchased 237,353 shares in 2005.
grant.
Under the Company’s 1998 Stock Option and Award Plan (the “1998 Plan”), options to purchase shares of common stock may be granted to officers and other employees at not less than the market price on the date of grant. Under the plan, the Company may grant to officers and other employees, including those at the subsidiary level, stock options, SARs, restricted stock or other stock-based awards. Generally, one-third of each stock option grant becomes exercisable on each of the first three anniversary dates of the date of grant. The options terminate up to 10 years from the date of grant. In 2000, the Company amended the 1998 Plan to provide for awards of up to 12,000,000 shares of the Company’s common stock. The number of shares reserved for issuance as restricted stock and other stock-based awards, as amended, cannot exceed 3,000,000 shares.
In addition, options to purchase shares of common stock remain outstanding under the Company’s 1995 ~~and 1986 stock option plans. The 1995~~ Stock Option and Award Plan (the “1995 Plan”). The 1995 Plan is substantially the same as the 1998 Plan. The number of shares authorized for awards under the 1995 Plan is 6,000,000 shares. The number of shares reserved for issuance as restricted stock under the 1995 Plan ~~is limited to~~was 1,500,000 shares. NoAs of March 8, 2005 no further awards may be made under the 1995 ~~Plan as of March 8, 2005.~~Plan. Options granted under the 1986 Stock Option Plan ~~(the “1986 Plan”)~~ generally ~~become~~became exercisable in two equal installments on the first and the second anniversaries of the date of ~~grant. No~~grant, no further options may be granted under ~~the 1986~~this Plan.
The 2002 Foot Locker Directors’ Stock Plan (the “2002 Directors Plan”) replaced both the Directors’ Stock Plan, which was adopted in 1996, and the Directors’ Stock Option Plan, which was adopted in 2000. There are 500,000 shares authorized under the 2002 Directors Plan. No further grants or awards may be made under either of the prior plans. Options granted prior to 2003 have a three-year vesting schedule. Options granted beginning in 2003 become exercisable one year from the date of grant.
~~When~~ Employee Stock Purchase Plan
The Company’s 2003 Employees Stock Purchase Plan (the “2003 Employee Stock Purchase Plan”) terms are substantially the same as the 1994 Employees Stock Purchase Plan (the “1994 Employee Stock Purchase Plan”), which expired in June 2004. Under the Company’s 2003 Employee Stock Purchase Plan participating employees are able to contribute up to 10 percent of their annual compensation through payroll deductions to acquire shares of the Company’s
56
common stock ~~is issued under these plans,~~at 85 percent of the ~~proceeds from options exercised or~~lower market price on one of two specified dates in each plan year. Under the 2003 Employee Stock Purchase Plan, 3,000,000 shares ~~purchased are credited to~~of common stock are authorized for purchase beginning June 2005. Of the 3,000,000 shares of common stock authorized for purchase under this plan, 806 participating employees purchased 105,123 shares in 2006 and 1,191 participating employees purchased 237,353 shares in 2005.
Valuation Model and Assumptions
     The Company uses a Black-Scholes option-pricing model to estimate the ~~extent~~fair value of share-based awards under SFAS No. 123(R), which is the same valuation technique it previously used for pro forma disclosures under SFAS No. 123. The Black-Scholes option-pricing model incorporates various and highly subjective assumptions, including expected term and expected volatility.
     The Company estimates the expected term of share-based awards granted using the Company’s historical exercise and post-vesting employment termination patterns, which it believes are representative of future behavior. The expected term for the Company’s employee stock purchase plan valuation is based on the length of each purchase period as measured at the beginning of the ~~par value~~offering period, which is one year. The Company estimates the expected volatility of ~~the shares issued and the excess is credited to additional paid-in capital. When treasury~~its common stock is issued, the difference between the average cost of treasury stock used and the proceeds from options exercised or shares awarded or purchased is charged or credited, as appropriate, to either additional paid-in capital or retained earnings. The tax benefits relating to amounts deductible for federal income tax purposes, which are not included in income for financial reporting purposes, have been credited to additional paid-in capital.
~~The fair values of the issuance of the stock-based compensation pursuant to the Company’s various stock option and purchase plans were estimated~~ at the grant date using a ~~Black-Scholes option-pricing model.~~

     Stock Option Plans
     Stock Purchase Plan


     2005
     2004
     2003
     2005
     2004
     2003
Weighted-average risk free
rate of interest                     3.99 %             2.57 %             2.26 %             4.19 %             1.33 %             1.11 %
Expected volatility                     28 %             33 %             37 %             25 %             32 %             31 %
Weighted-average expected
award life                     3.8 years             3.7 years             3.4 years             .7 years             .7 years             .7 years
Dividend yield                     1.1 %             1.1 %             1.2 %             —               —               —
Weighted-average fair value                  $ 6.69           $ 6.51           $ 2.90           $ 5.54           $ 11.44           $ 14.15

~~The Black-Scholes option valuation model was developed for estimating~~weighted-average of the ~~fair value of~~Company’s historical volatility and implied volatility from traded options on the Company’s common stock. The Company believes that ~~have no vesting restrictions~~the combination of historical volatility and ~~are fully transferable. Because option valuation models require~~implied volatility provides a better estimate of future stock price volatility. The risk-free interest rate assumption is determined using the ~~use of subjective assumptions, changes in these assumptions can materially affect the fair value~~Federal Reserve nominal rates for U.S. Treasury zero-coupon bonds with maturities similar to those of the ~~options, and because~~expected term of the award being valued. The expected dividend yield is derived from the Company’s ~~options do not have~~historical experience.
     Additionally, SFAS No. 123(R) requires the ~~characteristics~~Company to estimate pre-vesting option forfeitures at the time of ~~traded options,~~grant and periodically revise those estimates in subsequent periods if actual forfeitures differ from those estimates. The Company records stock-based compensation expense only for those awards expected to vest using an estimated forfeiture rate based on its historical pre-vesting forfeiture data. Previously, the ~~option valuation models do not necessarily provide a reliable measure~~Company accounted for forfeitures as they occurred under the pro forma disclosure provisions of SFAS No. 123 for periods prior to 2006.
     The following table shows the ~~fair value of its options.~~Company’s assumptions used to compute the stock-based compensation expense and pro forma information:
Stock Option Plans Stock Purchase Plan
      2006       2005       2004       2006       2005       2004
Weighted-average risk free rate
     of interest 4.68 % 3.99 % 2.57 % 4.39 % 4.19 % 1.33 %
Expected volatility 30 % 28 % 33 % 22 % 25 % 32 %
Weighted-average expected
     award life 4.0 years 3.8 years 3.7 years 1.0 years .7 years .7 years
Dividend yield 1.5 % 1.1 % 1.1 % 1.4 % — —
Weighted-average fair value $6.36 $6.69 $6.51 $4.71 $5.54 $11.44

51
57

The information set forth in the following table covers options granted under the Company’s stock option plans:
2006 2005 2004
Weighted- Weighted- Weighted-
Number Average Number Average Number Average
of Exercise of Exercise of Exercise
      Shares       Price       Shares       Price       Shares       Price
(in thousands, except prices per share)
Options outstanding at beginning
     of year 5,962 $ 18.45 5,909 $ 16.69 6,886 $ 14.73
Granted 858 $ 23.98 1,014 $ 27.42 1,183 $ 25.20
Exercised (459 ) $ 15.12 (682 ) $ 15.03 (1,853 ) $ 14.43
Expired or cancelled (313 ) $ 24.83 (279 ) $ 22.11 (307 ) $ 19.13
Options outstanding at end of year 6,048 $ 19.15 5,962 $ 18.45 5,909 $ 16.69
Options exercisable at end of year 4,455 $ 16.94 4,042 $ 16.00 3,441 $ 15.34
Options available for future grant at end
     of year 4,931 5,768 7,464

     The total intrinsic value of options exercised for 2006 and 2005 was $4.0 million and $7.6 million, respectively. The aggregate intrinsic value for stock options outstanding and for stock options exercisable as of February 3, 2007 was $30 million. The intrinsic value for stock options outstanding and exercisable is calculated as the difference between the fair market value as the end of the period and the exercise price of the shares. The Company received $6.8 million and $9.5 million in cash from option exercises for 2006 and 2005, respectively. The tax benefit realized by the Company on the stock option exercises for 2006 was approximately $1 million.

     2005
     2004
     2003


     Number
of
Shares
     Weighted-
Average
Exercise
Price
     Number
of
Shares
     Weighted-
Average
Exercise
Price
     Number
of
Shares
     Weighted-
Average
Exercise
Price

     (in thousands, except prices per share)

Options outstanding at beginning of year                     5,909           $ 16.69              6,886           $ 14.73              7,676           $ 15.18
Granted                     1,014           $ 27.42              1,183           $ 25.20              1,439           $ 10.81
Exercised                     682            $ 15.03              1,853           $ 14.43              1,830           $ 12.50
Expired or canceled                     279            $ 22.11              307            $ 19.13              399            $ 19.55
Options outstanding at end of year                     5,962           $ 18.45              5,909           $ 16.69              6,886           $ 14.73
Options exercisable at end of year                     4,042           $ 16.00              3,441           $ 15.34              4,075           $ 15.99
Options available for future grant at
end of year                     5,768                            7,464                            8,780

The following table summarizes information about stock options outstanding and exercisable at ~~January 28, 2006:~~February 3, 2007:
Options Outstanding Options Exercisable
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Contractual Exercise Exercise
Range of Exercise Prices         Shares         Life         Price         Shares         Price
(in thousands, except prices per share)
$ 4.53 to $11.91 1,540 4.8 $ 10.64 1,540 $ 10.64
$12.31 to $16.02 1,306 4.6 14.90 1,306 14.90
$16.19 to $25.19 1,241 7.4 22.80 399 20.52
$25.28 to $26.66 1,211 5.3 25.42 920 25.39
$26.87 to $28.50 750 7.9 27.86 290 27.80
$ 4.53 to $28.50 6,048 5.8 $ 19.15 4,455 $ 16.94

     Changes in the Company’s nonvested options at February 3, 2007 are summarized as follows:
Weighted-
average grant
Number of date fair value
shares per share
(in thousands)
Nonvested at January 29, 2006 1,920 $ 23.59
Granted 858 23.98
Vested (872 ) 20.35
Cancelled (313 ) 24.83
Nonvested at February 3, 2007 1,593 25.33

58
     As of February 3, 2007 there was $3.3 million of total unrecognized compensation cost related to nonvested stock options, which is expected to be recognized over a weighted-average period of 0.86 years.

     Options Outstanding
     Options Exercisable

Range of Exercise Prices
     Shares
     Weighted-
Average
Remaining
Contractual
Life
     Weighted-
Average
Exercise
Price
     Shares
     Weighted-
Average
Exercise
Price

     (in thousands, except prices per share)

$ 4.53 to $10.89                     1,012              6.6           $ 9.79              702            $ 9.59
$11.31 to $12.99                     1,158              5.0              12.24              1,154              12.24
$13.34 to $16.02                     1,047              6.0              15.83              1,043              15.84
$16.19 to $25.37                   �� 1,016              4.1              22.93              799               23.15
$25.39 to $27.01                     1,032              8.3              25.65              327               25.39
$27.10 to $28.50                     697               9.1              28.04              17               28.15
$ 4.53 to $28.50                     5,962              6.4           $ 18.45              4,042           $ 16.00

22    Restricted Stock
Restricted shares of the Company’s common stock may be awarded to certain officers and key employees of the Company. There were 225,000, 330,000, and 845,000 restricted shares of common stock granted in 2005, 2004 and 2003, respectively. In 2005 and 2004, 20,000 and 72,005 restricted stock units, respectively, were granted to certainFor executives ~~located~~ outside of the United ~~States; each~~States the Company issues restricted stock units. Each restricted stock unit represents the right to receive one share of the Company’s common stock provided that the vesting conditions are satisfied. ~~The~~In 2005 and 2004, 20,000 and 72,005 restricted stock units were awarded, respectively. Compensation expense is recognized using the fair market ~~values of the shares and units~~value at the date of grant ~~amounted to $6.5 million in 2005, $10.2 million in 2004~~ and ~~$9.8 million in 2003. The market values are recorded within shareholders’ equity and are~~is amortized ~~as compensation expense~~ over the ~~related~~ vesting ~~periods.~~period. These awards fully vest after the passage of ~~a restriction period,~~time, generally three ~~years, except for certain grants in 2005, 2004 and 2003. The Company granted 105,000 shares~~years. Restricted stock is considered outstanding at the time of grant, as the holders of restricted stock ~~in 2005, which vest in three equal installments on approximately each of the next three years grant date anniversary, 75,000 shares of restricted stock in 2004, which vest over 13 months~~are entitled to receive dividends and in 2003 granted 200,000 shares of restricted stock that vested 50 percent one year following the date of grant and 50 percent that will vest two years from the date of grant. During 2005, 2004 and 2003, respectively, 176,135, 30,000 and 80,000 restrictedhave voting rights.
     Restricted shares and units ~~were forfeited. The deferred compensation balance, reflected as a reduction to shareholders’ equity, was $6.2 million, $9.0 million and $7.1 million as of~~activity for the year-ended February 3, 2007, January 28, 2006 and January 29, 2005 is summarized as follows:
        2006         2005         2004
(in thousands)
Outstanding at beginning of the year 1,041 1,177 1,150
Granted 157 245 402
Vested (600 ) (205 ) (345 )
Cancelled or forfeited (61 ) (176 ) (30 )
Outstanding at end of year 537 1,041 1,177
Aggregate value (in millions) $ 13.6 $  18.0 $ 18.8
Weighted average remaining contractual life 0.93 0.69 1.25

The weighted average grant-date fair value per share was $24.08, $26.55 and $25.34 for 2006, 2005 and 2004, respectively. The total value of awards for which restrictions lapsed during the year-ended February 3, 2007, January 28, 2006 and January ~~31, 2004,~~29, 2005 was $6.7 million, $4.0 million and $3.0 million, respectively. As of February 3, 2007, there was $4.0 million of total unrecognized compensation cost, related to nonvested restricted stock awards. The Company recorded compensation expense related to restricted shares, net of forfeitures, of $4.0 million in 2006, $6.1 million in 2005 and $8.0 million in ~~2004 and $4.1 million in 2003.~~
2004.
52

23    Legal Proceedings
Legal proceedings pending against the Company or its consolidated subsidiaries consist of ordinary, routine litigation, including administrative proceedings, incidental to the business of the Company, as well as litigation incidental to the sale and disposition of businesses that have occurred in past years. These legal proceedings include commercial, intellectual property, customer, and labor-and-employment-related claims, including class action lawsuits in which plaintiffs allege violations by the Company of state wage and hour and other laws. Management does not believe that the outcome of such proceedings would have a material adverse effect on the Company’s consolidated financial position, liquidity, or results of operations, taken as a whole.
     These legal proceedings include commercial, intellectual property, customer, and labor-and-employment-related claims. Certain of the Company’s subsidiaries are defendants in a number of lawsuits filed in state and federal courts containing various class action allegations under state wage and hour laws, including allegations concerning classification of employees as exempt or nonexempt, unpaid overtime, meal and rest breaks, and uniforms.
24    Commitments
In connection with the sale of various businesses and assets, the Company may be obligated for certain lease commitments transferred to third parties and pursuant to certain normal representations, warranties, or indemnifications entered into with the purchasers of such businesses or assets. Although the maximum potential amounts for such obligations cannot be readily determined, management believes that the resolution of such contingencies will not have a material effect on the Company’s consolidated financial position, liquidity, or results of operations. The Company
59
is also operating certain stores and making rental payments for which lease agreements are in the process of being negotiated with landlords. Although there is no contractual commitment to make these payments, it is likely that a lease will be executed.
The Company does not have any off-balance sheet financing, other than operating leases entered into in the normal course of business and disclosed above, or unconsolidated special purpose entities. The Company does not participate in transactions that generate relationships with unconsolidated entities or financial partnerships, including variable interest entities.
25    Shareholder Information and Market Prices (Unaudited)
Foot Locker, Inc. common stock is listed on The New York Stock Exchange as well as on the böerse-stuttgart stock exchange in Germany and the Elektronische Börse Schweiz (EBS) stock exchange in Switzerland. In addition, the stock is traded on the Cincinnati stock exchange.
As of ~~January 28, 2006,~~February 3, 2007, the Company had ~~24,933~~23,709 shareholders of record owning ~~155,503,606~~155,702,670 common shares.
Market prices for the Company’s common stock were as follows:
2006 2005
        High         Low         High         Low
Common Stock
     Quarter
1^stQ $ 24.39 $ 22.26 $ 29.95 $ 25.88
2^ndQ 28.00 21.50 27.65 24.31
3^rdQ 27.80 22.34 25.37 18.75
4^thQ 24.92 21.10 24.07 18.74

During 2006, the Company declared quarterly dividends of $0.09 per share during the first, second and third quarters. On November 15, 2006, the Company increased the quarterly dividend per share by 39 percent to $0.125, beginning in the fourth quarter of 2006.

     2005
     2004


     High
     Low
     High
     Low
Common Stock

Quarter

1^st Q
                 $ 29.95           $ 25.88           $ 27.59           $ 21.75
2^nd Q
                    27.65              24.31              25.03              19.97
3^rd Q
                    25.37              18.75              24.80              19.98
4^th Q
                    24.07              18.74              27.26              22.75

During 2005, the Company declared quarterly dividends of $0.075 per share during the first, second and third quarters. On November 16, 2005, the Company increased the quarterly dividend per share by 20 percent to $0.09, beginning in the fourth quarter of 2005.
During 2004, the Company declared quarterly dividends of $0.06 per share during the first, second and third quarters. On November 17, 2004, the Company increased the quarterly dividend per share to $0.075, beginning in the fourth quarter of 2004.
53
60
26     Quarterly Results (Unaudited)
        1^stQ         2^ndQ         3^rdQ         4^thQ         Year
(in millions, except per share amounts)
Sales
     2006^(a)    $ 1,365 1,303 1,430 1,652 5,750
     2005 1,377 1,304 1,408 1,564 5,653
Gross margin^(b)
     2006^(a)    $ 419 361 422 534 1,736
     2005 418 377 430 484 ^(d) 1,709
Operating profit^(c)
     2006^(a)    $ 93 27 94 167 381
     2005 94 71 104 140 409
Income from continuing operations
     2006^(a)    $ 58 14 65 110 247
     2005 58 44 65 96 263
Net income
     2006^(a)    $ 59 14 65 113 251
     2005 58 44 66 96 264
Basic earnings per share:
     2006^(a)
          Income from continuing operations $ 0.37 0.09 0.42 0.71 1.59
          Income from discontinued operations — — — 0.02 0.02
          Cumulative effect of accounting change 0.01 — — — 0.01
          Net income 0.38 0.09 0.42 0.73 1.62
     2005
          Income from continuing operations $ 0.37 0.29 0.42 0.62 1.70
          Income from discontinued operations — — 0.01 — 0.01
          Net income 0.37 0.29 0.43 0.62 1.71
Diluted earnings per share:
     2006^(a)
          Income from continuing operations $ 0.37 0.09 0.42 0.70 1.58
          Income from discontinued operations — — — 0.02 0.02
          Cumulative effect of accounting change 0.01 — — — —
   ��      Net income 0.38 0.09 0.42 0.72 1.60
     2005
          Income from continuing operations $ 0.37 0.28 0.41 0.61 1.67
          Income from discontinued operations — — 0.01 — 0.01
          Net income 0.37 0.28 0.42 0.61 1.68
____________________
26
~~Quarterly Results (Unaudited)~~

     1^st Q
     2^nd Q
     3^rd Q
     4^th Q
     Year

     (in millions, except per share amounts)

Sales

2005                  $ 1,377              1,304              1,408              1,564              5,653
2004                     1,186              1,268              1,366              1,535              5,355
Gross margin^(a)

2005                  $ 418               377               430               484 ^(c)             1,709
2004                     361               369               426               477               1,633
Operating profit^(b)

2005                  $ 94               71               104               140               409
2004                     78               61               117               133               389
Income from continuing operations

2005                  $ 58               44               65               96               263
2004                     47               45               74               89               255
Net income

2005                  $ 58               44               66               96               264
2004                     48               82               74               89               293
Basic earnings per share:

2005

Income from continuing operations                  $ 0.37              0.29              0.42              0.62              1.70
Income from discontinued operations                     —               —               0.01              —               0.01
Net income                     0.37              0.29              0.43              0.62              1.71
2004

Income from continuing operations                  $ 0.33              0.30              0.47              0.58              1.69
Loss from discontinued operations                     —               0.25              —               —               0.25
Net income                     0.33              0.55              0.47              0.58              1.94
Diluted earnings per share:

2005

Income from continuing operations                  $ 0.37              0.28              0.41              0.61              1.67
Income from discontinued operations                     —               —               0.01              —               0.01
Net income                     0.37              0.28              0.42              0.61              1.68
2004

Income from continuing operations                  $ 0.31              0.29              0.47              0.57              1.64
Loss from discontinued operations                     —               0.24              —               —               0.24
Net income                     0.31              0.53              0.47              0.57              1.88

(a) The fourth quarter of 2006 represents the 14 weeks ended February 3, 2007.
(b) Gross margin represents sales less cost of sales. Includes the effects of the reclassification of tenant allowances as deferred credits, which are amortized as a reduction of rent expense as a component of costs of sales. Costs of sales was reduced by $1 million in each of the first three quarters of 2004 and by $2 million for the fourth quarter of 2004.

~~(b)~~
(c) Operating profit represents income from continuing operations before income taxes, interest expense, net and non-operating income.

~~(c)~~
(d) The fourth quarter of 2005 includes permanent markdowns of $7 million.

54
61

FIVE-YEAR SUMMARY OF SELECTED FINANCIAL DATA
The selected financial data below should be read in conjunction with the Consolidated Financial Statements and the notes thereto and other information contained elsewhere in this report. ~~All selected financial data have been restated for discontinued operations and the reclassification of tenant allowances as deferred rent credits.~~
       2006⁽¹⁾        2005        2004        2003        2002
($ in millions, except per share amounts)
Summary of Continuing Operations
Sales $ 5,750 5,653 5,355 4,779 4,509
Gross margin⁽²⁾ 1,736 1,709 1,633 1,482 1,348
Selling, general and administrative expenses 1,163 1,129 1,090 988 926
Impairment charge 17 — — — —
Depreciation and amortization⁽²⁾ 175 171 154 152 153
Interest expense, net 3 10 15 18 26
Other income (14 ) (6 ) — — (3 )
Income from continuing operations 247 263 255 209 162
Cumulative effect of accounting change⁽³⁾ 1 — — (1 ) —
Basic earnings per share from continuing operations 1.59 1.70 1.69 1.47 1.15
Basic earnings per share from cumulative effect of accounting change 0.01 — — — —
Diluted earnings per share from continuing operations 1.58 1.67 1.64 1.40 1.10
Diluted earnings per share from cumulative effect of accounting change — — — — —
Common stock dividends declared 0.40 0.32 0.26 0.15 0.03
Weighted-average common shares outstanding (in millions) 155.0 155.1 150.9 141.6 140.7
Weighted-average common shares outstanding assuming dilution (in millions) 156.8 157.6 157.1    152.9 150.8
Financial Condition
Cash, cash equivalents and short-term investments $ 470 587 492 448 357
Merchandise inventories 1,303 1,254 1,151 920 835
Property and equipment, net⁽⁴⁾ 654 675 715 668 664
Total assets⁽⁴⁾ 3,249 3,312 3,237 2,713 2,514
Short-term debt — — — — —
Long-term debt and obligations under capital leases 234 326 365 335 357
Total shareholders’ equity 2,295 2,027 1,830 1,375 1,110
Financial Ratios
Return on equity (ROE) 11.5 % 13.6 15.9 16.8 15.4
Operating profit margin 6.8 % 7.2 7.3 7.2 6.0
Income from continuing operations as a percentage of sales 4.3 % 4.7 4.8 4.4 3.6
Net debt capitalization percent⁽⁵⁾ 44.4 % 45.2 50.4 53.3 58.6
Net debt capitalization percent (without present value of operating leases)⁽⁵⁾ — — — — —
Current ratio 3.9 2.8 2.7 2.8 2.2
Other Data
Capital expenditures $ 165 155 156 144 150
Number of stores at year end 3,942 3,921 3,967 3,610 3,625
Total selling square footage at year end (in millions) 8.74 8.71 8.89 7.92 8.04
Total gross square footage at year end (in millions) 14.55 14.48 14.78 13.14 13.22

     2005
     2004
     2003
     2002
     2001
($ in millions, except per share amounts)





Summary of Continuing Operations

Sales                  $ 5,653              5,355              4,779              4,509              4,379
Gross margin⁽¹⁾
                    1,709              1,633              1,482              1,348              1,312
Selling, general and administrative expenses                     1,129              1,088              987               928               923
Restructuring charges (income)                     —               2               1               (2 )             34
Depreciation and amortization⁽¹⁾
                    171               154               152               153               158
Interest expense, net                     10               15               18               26               24
Other (income) expense                     (6 )             —               —               (3 )             (2 )
Income from continuing operations                     263               255               209               162               111 ⁽³⁾
Cumulative effect of accounting change⁽²⁾
                    —               —               (1 )             —               —
Basic earnings per share from continuing operations                     1.70              1.69              1.47              1.15              0.79 ⁽³⁾
Basic earnings per share from cumulative effect of accounting change                     —               —               —               —               —
Diluted earnings per share from continuing operations                     1.67              1.64              1.40              1.10              0.77 ⁽³⁾
Diluted earnings per share from cumulative effect of accounting change                     —               —               —               —               —
Common stock dividends declared                     0.32              0.26              0.15              0.03              —
Weighted-average common shares outstanding (in millions)                     155.1              150.9              141.6              140.7              139.4
Weighted-average common shares outstanding assuming dilution (in millions)                     157.6              157.1              152.9              150.8              146.9
Financial Condition

Cash, cash equivalents and short-term investments                  $ 587               492               448               357               215
Merchandise inventories                     1,254              1,151              920               835               793
Property and equipment, net⁽⁴⁾
                    675               715               668               664               665
Total assets⁽⁴⁾
                    3,312              3,237              2,713              2,514              2,328
Short-term debt                     —               —               —               —               —
Long-term debt and obligations under capital leases                     326               365               335               357               399
Total shareholders’ equity                     2,027              1,830              1,375              1,110              992
Financial Ratios

Return on equity (ROE)                     13.6 %             15.9              16.8              15.4              11.1
Operating profit margin                     7.2 %             7.3              7.2              6.0              4.5
Income from continuing operations as a percentage of sales                     4.7 %             4.8              4.4              3.6              2.5 ⁽³⁾
Net debt capitalization percent⁽⁵⁾
                    45.2 %             50.4              53.3              58.6              61.1
Net debt capitalization percent (without present value of operating leases)⁽⁵⁾
                    —               —               —               —               15.6
Current ratio                     2.8              2.7              2.8              2.2              2.0
Other Data

Capital expenditures                  $ 155               156               144               150               116
Number of stores at year end                     3,921              3,967              3,610              3,625              3,590
Total selling square footage at year end (in millions)                     8.71              8.89              7.92              8.04              7.94
Total gross square footage at year end (in millions)                     14.48              14.78              13.14              13.22              13.14

____________________

(1) 2006 represents the 53 weeks ended February 3, 2007.
(2) Gross margin and depreciation expense include the effects of the reclassification of tenant allowances as deferred credits, which are amortized as a reduction of rent expense as a component of costs of sales. Gross margin was reduced by $5 million in 2004 and 2003 and $4 million in 2002 ~~and 2001~~ and accordingly, depreciation expense was increased by the corresponding amount.

~~(2)~~
(3) 2006 relates to the adoption of SFAS No. 123(R), “Share-Based Payment.” 2003 relates to adoption of SFAS No. 143, “Accounting for Asset Retirement Obligations.”

~~(3)~~ In applying the provisions of EITF 90-16, income from continuing operations for 2001 would have been reclassified to include the results of the Northern Group. Accordingly, income from continuing operations would have been $91 million. As such basic earnings per share would have been $0.65 for fiscal 2001. Diluted earnings per share would have been $0.64 for fiscal 2001. However, upon achieving divestiture accounting in the fourth quarter of 2002, the results would have been reclassified to reflect the results as shown above and as originally reported by the Company.

(4) Property and equipment, net and total assets include the reclassification of tenant allowances as deferred credits, which were previously recorded as a reduction to the cost of property and equipment, and are now classified as part of the deferred rent liability. Property and equipment, net and total assets were increased by $22 million in 2004, $24 million in 2003 and $28 million in ~~each of 2002 and 2001.~~2002.

(5)      Represents total debt, net of cash, cash equivalents and short-term investments and includes the effect of interest rate swaps of $4 million and $1 million that decreased long-term debt at February 3, 2007 and January 28, 2006, respectively, $4 million that increased long-term debt at January 29, 2005 and $1 million that reduced long-term debt at January 31, 2004.

55
62

Item 9. Changes inIn and Disagreements with Accountants on Accounting and Financial Disclosure
There were no disagreements between the Company and its independent registered public accounting firm on matters of accounting principles or practices.
Item 9A. Controls and Procedures
~~Item 9A.~~
~~Controls and Procedures~~

(a)      Evaluation of Disclosure Controls and Procedures.

The Company’s management performed an evaluation under the supervision and with the participation of the Company’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), and completed an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of January 28, 2006. Based on that evaluation, the Company’s CEO and CFO concluded that the Company’s disclosure controls and procedures were effective as of January 28, 2006 in alerting them in a timely manner to all material information required to be disclosed in this report.
~~(b)~~
The Company’s management performed an evaluation under the supervision and with the participation of the Company’s Chief Executive Officer (“CEO”) and Chief Financial Officer (“CFO”), and completed an evaluation of the effectiveness of the design and operation of the Company’s disclosure controls and procedures (as that term is defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of February 3, 2007. Based on that evaluation, the Company’s CEO and CFO concluded that the Company’s disclosure controls and procedures were effective as of February 3, 2007 in alerting them in a timely manner to all material information required to be disclosed in this report.
     (b) Management’s Annual Report on Internal Control over Financial Reporting.

The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting (as that term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f)). To evaluate the effectiveness of the Company’s internal control over financial reporting, the Company uses the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO Framework”). Using the COSO Framework, the Company’s management, including the CEO and CFO, evaluated the Company’s internal control over financial reporting and concluded that the Company’s internal control over financial reporting was effective as of January 28, 2006. KPMG LLP, the independent registered public accounting firm that audits the Company’s consolidated financial statements included in this annual report, has issued an attestation report on the Company’s assessment of and effectiveness of internal control over financial reporting, which is included herein under the caption “Management’s Report on Internal Control over Financial Reporting” in “Item 8. Consolidated Financial Statements and Supplementary Data.”
~~(c)~~
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting (as that term is defined in Exchange Act Rules 13a-15(f) and 15d-15(f)). To evaluate the effectiveness of the Company’s internal control over financial reporting, the Company uses the framework in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the “COSO Framework”). Using the COSO Framework, the Company’s management, including the CEO and CFO, evaluated the Company’s internal control over financial reporting and concluded that the Company’s internal control over financial reporting was effective as of February 3, 2007. KPMG LLP, the independent registered public accounting firm that audits the Company’s consolidated financial statements included in this annual report, has issued an attestation report on the Company’s assessment of and effectiveness of internal control over financial reporting, which is included herein under the caption “Management’s Report on Internal Control over Financial Reporting” in “Item 8. Consolidated Financial Statements and Supplementary Data.”
     (c) Attestation Report of the Independent Registered Public Accounting Firm.

~~(d)~~
KPMG's attestation report on management's assessment and the effectiveness of our internal control over financial reporting is included in "Item 8. Consolidated Financial Statements and Supplementary Data."

     (d) Changes in Internal Control over Financial Reporting.
During the Company’s last fiscal quarter there were no changes in internal control over financial reporting that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

During the Company’s last fiscal quarter there were no changes in internal control over financial reporting that materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
Item 9B. Other Information
     None.
63
PART III
Item 10 Directors, Executive Officers and Corporate Governance
~~Item 10.~~
~~Directors and Executive Officers of the Company~~

(a)      Directors of the Company

~~Information relative to directors of the Company is set forth under the section captioned “Election of Directors” in the Proxy Statement and is incorporated herein by reference.~~
~~(b)~~
          Information relative to directors of the Company is set forth under the section captioned “Election of Directors” in the Proxy Statement and is incorporated herein by reference.
     (b) Executive Officers of the Company

~~Information with respect to executive officers of the Company is set forth immediately following Item 4 in Part I.~~
~~(c)~~
Information with respect to executive officers of the Company is set forth immediately following Item 4 in Part I.
     (c) Information with respect to compliance with Section 16(a) of the Securities Exchange Act of 1934 is set forth under the section captioned “Section 16(a) Beneficial Ownership Reporting Compliance” in the Proxy Statement and is incorporated herein by reference.

~~(d)~~
     (d) Information on our audit committee and the audit committee financial expert is contained in the Proxy Statement under the section captioned “Committees of the Board of Directors” and is incorporated herein by reference.

~~(e)~~
     (e) Information about the Code of Business Conduct governing our employees, including our Chief Executive Officer, Chief Financial Officer, Chief Accounting Officer, and the Board of Directors, is set forth under the heading “Code of Business Conduct” under the Corporate Governance Information section of the Proxy Statement and is incorporated herein by reference.

56
Item 11. Executive Compensation

~~Item 11.~~
~~Executive Compensation~~

Information set forth in the Proxy Statement beginning with the section captioned “Directors Compensation and Benefits” through and including the section captioned ~~“Compensation Committee Interlocks and Insider Participation”~~“Pension Benefits” is incorporated herein by reference, and information set forth in the Proxy Statement under the heading "Compensation Comittee Interlocks and Insider Participation" is incorporated herein by reference.
~~Item 12.~~
~~Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters~~

Item 12. Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters
Information set forth in the Proxy Statement under the sections captioned “Equity Compensation Plan Information” and “Beneficial Ownership of the Company’s Stock” is incorporated herein by reference.
~~Item 13.~~
~~Certain Relationships and Related Transactions~~

Item 13. Certain Relationships and Related Transactions, and Director Independence
Information set forth in the Proxy Statement under the section captioned ~~“Certain Relationships~~“Related Person Transactions” and ~~Related Transactions”~~under the section captioned "Independence" is incorporated herein by reference.
~~Item 14.~~
~~Principal Accountant Fees and Services~~

Item 14. Principal Accountant Fees and Services
Information about the principal accountant fees and services is set forth under the section captioned “Audit and Non-Audit Fees” in the Proxy Statement and is incorporated herein by reference. Information about the Audit Committee’s pre-approval policies and procedures is set forth in the section captioned “Audit Committee Pre-Approval Policies and Procedures” in the Proxy Statement and is incorporated herein by reference.
64
PART IV
~~Item 15.~~
~~Exhibits and Financial Statement Schedules~~

Item 15. Exhibits and Financial Statement Schedules
(a)(1)(a)(2) Financial Statements
The list of financial statements required by this item is set forth in Item 8. “Consolidated Financial Statements and Supplementary Data.”
(a)(3) and (c) Exhibits
An index of the exhibits which are required by this item and which are included or incorporated herein by reference in this report appears on pages 5967 through ~~62.~~70. The exhibits filed with this report immediately follow the index.
57
65

SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
FOOT LOCKER, INC.
By:
Matthew D. Serra
Chairman of the Board, President and
Chief Executive Officer
Date: April 2, 2007

~~FOOT LOCKER, INC.~~

~~By:~~
~~Matthew D. Serra~~
~~Chairman of the Board, President and~~
~~Chief Executive Officer~~
~~Date: March 27, 2006~~
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below on ~~March 27, 2006,~~April 2, 2007, by the following persons on behalf of the Company and in the capacities indicated.

Matthew D. Serra
Chairman of the Board,
President and
Chief Executive Officer

Robert W. McHugh
Senior Vice President and
Chief Financial Officer
/s/ GIOVANNA CIPRIANO /s/ MATTHEW M. MCKENNA
~~/s/ GIOVANNA~~ C~~IPRIANO~~
Giovanna Cipriano
Vice President and
Chief Accounting Officer
Matthew M. McKenna
Director

~~/s/ JAMES~~ E. P~~RESTON~~
~~James E. Preston~~
~~Director~~

~~/s/ PURDY~~ C~~RAWFORD~~
~~Purdy Crawford~~
~~Director~~
~~/s/ DAVID~~ Y. S~~CHWARTZ~~
~~David Y. Schwartz~~
~~Director~~

/s/~~s/ NICHOLAS~~ D~~IPAOLO~~PURDY CRAWFORD
~~Nicholas DiPaolo~~
~~Director~~
/s/ JAMES  E. PRESTON
Purdy Crawford
Director James E. Preston
Director
/s/ NICHOLAS DIPAOLO /s/ DAVID Y. SCHWARTZ
Nicholas DiPaolo
Director
David Y. Schwartz
Director
/~~s/ CHRISTOPHER~~ A. S~~INCLAIR~~s
/ ALAN D. FELDMAN /s/ CHRISTOPHER A. SINCLAIR
Alan D. Feldman
Director Christopher A. Sinclair
Director
/s/ PHILIP H. GEIER JR. /s/ CHERYL NIDO TURPIN
Philip H. Geier Jr.
Director Cheryl Nido Turpin
Director

/s/~~s/ ALAN~~ D. F~~ELDMAN~~JAROBIN GILBERT JR.
~~Alan~~
/s/ DONA D. ~~Feldman~~
~~Director~~
~~/s/ CHERYL~~ N~~IDO~~ T~~URPIN~~YOUNG
~~Cheryl Nido Turpin~~
~~Director~~

~~/s/ PHILIP~~ H. G~~EIER~~ JR. Jarobin Gilbert Jr.
~~Philip H. Geier Jr.~~
Director
~~/s/ DONA~~ D. Y~~OUNG~~
Dona D. Young
Director
~~/s/ JAROBIN~~ G~~ILBERT~~ JR.
~~Jarobin Gilbert Jr.~~
~~Director~~

58
66

FOOT LOCKER, INC.
INDEX OF EXHIBITS REQUIRED
BY ITEM 15 OF FORM 10-K
AND FURNISHED IN ACCORDANCE
WITH ITEM 601 OF REGULATION S-K
Exhibit No.
in Item 601 of
Regulation S-K
Description
3(i)(a) Certificate of Incorporation of the Registrant, as filed by the Department of State of the State of New York on April 7, 1989 (incorporated herein by reference to Exhibit 3(i)(a) to the Quarterly Report on Form 10-Q for the quarterly period ended July 26, 1997, filed by the Registrant with the SEC on September 4, 1997 (the “July 26, 1997 Form 10-Q”)).
3(i)(b) Certificates of Amendment of the Certificate of Incorporation of the Registrant, as filed by the Department of State of the State of New York on (a) July 20, 1989, (b) July 24, 1990, (c) July 9, 1997 (incorporated herein by reference to Exhibit 3(i)(b) to the July 26, 1997 Form 10-Q), (d) June 11, 1998 (incorporated herein by reference to Exhibit 4.2(a) of the Registration Statement on Form S-8 (Registration No. 333-62425), and (e) November 1, 2001 (incorporated herein by reference to Exhibit 4.2 to the Registration Statement on Form S-8 (Registration No. 333-74688) previously filed by the Registrant with the SEC).
3(ii) By-laws of the Registrant, as amended (incorporated herein by reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q for the quarterly period ended May 5, 2001 (the “May 5, 2001 Form 10-Q”), filed by the Registrant with the SEC on June 13, 2001).
~~4.1~~
4.1 The rights of holders of the Registrant’s equity securities are defined in the Registrant’s Certificate of Incorporation, as amended (incorporated herein by reference to (a) Exhibits 3(i)(a) and 3(i)(b) to the July 26, 1997 Form 10-Q, Exhibit 4.2(a) to the Registration Statement on Form S-8 (Registration No. 333-62425) previously filed by the Registrant with the SEC, and Exhibit 4.2 to the Registration Statement on Form S-8 (Registration No. 333-74688) previously filed by the Registrant with the SEC).
~~4.2~~
4.2 Indenture dated as of October 10, 1991 (incorporated herein by reference to Exhibit 4.1 to the Registration Statement on Form S-3 (Registration No. 33-43334) previously filed by the Registrant with the SEC).
~~4.3~~
4.3 Form of 8-1/2% Debentures due 2022 (incorporated herein by reference to Exhibit 4 to the Registrant’s Form 8-K dated January 16, 1992).
~~10.1~~
10.1 1986 Foot Locker Stock Option Plan (incorporated herein by reference to Exhibit 10(b) to the Registrant’s Annual Report on Form 10-K for the year ended January 28, 1995, filed by the Registrant with the SEC on April 24, 1995 (the “1994 Form 10-K”)).
~~10.2~~
10.2 Amendment to the 1986 Foot Locker Stock Option Plan (incorporated herein by reference to Exhibit 10(a) to the Registrant’s Annual Report on Form 10-K for the year ended January 27, 1996, filed by the Registrant with the SEC on April 26, 1996 (the “1995 Form 10-K”)).
~~10.3~~
10.3 Foot Locker 1995 Stock Option and Award Plan (incorporated herein by reference to Exhibit 10(p) to the 1994 Form 10-K).
~~10.4~~
10.4 Foot Locker 1998 Stock Option and Award Plan (incorporated herein by reference to Exhibit 10.4 to the Registrant’s Annual Report on Form 10-K for the year ended January 31, 1998, filed by the Registrant with the SEC on April 21, 1998).
59

~~Exhibit No.~~
~~in Item 601 of~~
~~Regulation S-K~~
~~Description~~
10.5 Amendment to the Foot Locker 1998 Stock Option and Award Plan (incorporated herein by reference to Exhibit 10.2 to the Registrant’s Quarterly Report on Form 10-Q for the period ended July 29, 2000, filed by the Registrant with the SEC on September 7, 2000 (the “July 29, 2000 Form 10-Q”)).
~~10.6~~
10.6 Executive Supplemental Retirement Plan (incorporated herein by reference to Exhibit 10(d) to the Registration Statement on Form 8-B filed by the Registrant with the SEC on August 7, 1989 (Registration No. 1-10299) (the “8-B Registration Statement”)).

67

Exhibit No.
in Item 601 of
Regulation S-K Description
10.7 Amendment to the Executive Supplemental Retirement Plan (incorporated herein by reference to Exhibit 10(c)(i) to the 1994 Form 10-K ).
~~10.8~~
10.8 Amendment to the Executive Supplemental Retirement Plan (incorporated herein by reference to Exhibit 10(d)(ii) to the 1995 Form 10-K).
~~10.9~~
10.9 Supplemental Executive Retirement Plan, as amended (incorporated herein by reference to Exhibit ~~10(e)~~10.1 to the ~~1995~~Current Report on Form ~~10-K)~~8-K dated August 21, 2006 filed by the Registrant with the SEC on August 25, 2006).
10.10 ~~Amendment to the Supplemental Executive Retirement Plan adopted November 16, 2005.~~
~~10.11~~ Long-Term Incentive Compensation Plan, as amended and restated (incorporated herein by reference to Exhibit 10(f) to the 1995 Form 10-K).
~~10.12~~
10.11 Annual Incentive Compensation Plan, as amended (incorporated herein by reference to Exhibit 10.3 to the Quarterly Report on Form 10-Q for the quarterly period ended August 2, 2003 filed by the Registrant with the SEC on September 15, 2003 (the “August 2, 2003 Form 10-Q”)).
~~10.13~~
10.12 Form of indemnification agreement, as amended (incorporated herein by reference to Exhibit 10(g) to the 8-B Registration Statement).
~~10.14~~
10.13 Amendment to form of indemnification agreement (incorporated herein by reference to Exhibit 10.5 to the Quarterly Report on Form 10-Q for the quarterly period ended May 5, 2001 filed by the Registrant with the SEC on June 13, 2001 (the “May 5, 2001 Form 10-Q”)).
~~10.15~~
10.14 Foot Locker Voluntary Deferred Compensation Plan (incorporated herein by reference to Exhibit 10(i) to the 1995 Form 10-K).
~~10.16~~
10.15 Foot Locker Directors Stock Option Plan (incorporated herein by reference to Exhibit 10.1 to the July 29, 2000 Form 10-Q).
~~10.17~~
10.16 Trust Agreement dated as of November 12, 1987 (“Trust Agreement”), between F.W. Woolworth Co. and The Bank of New York, as amended and assumed by the Registrant (incorporated herein by reference to Exhibit 10(j) to the 8-B Registration Statement).
~~10.18~~
10.17 Amendment to Trust Agreement made as of April 11, 2001 (incorporated herein by reference to Exhibit 10.4 to May 5, 2001 Form 10-Q).
~~10.19~~
10.18 Foot Locker Directors’ Retirement Plan, as amended (incorporated herein by reference to Exhibit 10(k) to the 8-B Registration Statement).
~~10.20~~
10.19 Amendments to the Foot Locker Directors’ Retirement Plan (incorporated herein by reference to Exhibit 10(c) to the Registrant’s Quarterly Report on Form 10-Q for the period ended October 28, 1995, filed by the Registrant with the SEC on December 11, 1995).
~~10.21~~
10.20 Employment Agreement with Matthew D. Serra dated as of ~~February 9, 2005~~October 5, 2006 (incorporated herein by reference to Exhibit 10.1 to the Current Report on Form 8-K dated ~~February 9, 2005~~October 5, 2006 filed by the Registrant with the SEC on ~~February 11, 2005~~October 10, 2006 (the ~~“February 9, 2005~~“October 10, 2006 Form 8-K”)).
60

~~Exhibit No.~~
~~in Item 601 of~~
~~Regulation S-K~~
~~Description~~
~~10.22~~
10.21 Amendment of Restricted Stock Agreement ~~with~~for Matthew D. Serra dated ~~as of February 2, 2003~~
~~(incorporated~~October 6, 2006 (incorporated herein by reference to Exhibit ~~10.22~~10.2 to the ~~Registrant’s Annual Report~~October 10, 2006 Form 8-K).
10.22 Amendments to the Credit Agreement (incorporated herein by reference to Exhibits 10.1 to the Current Reports on Form ~~10-K for the year ended February 1, 2003,~~8-K dated (i) November 13, 2006 filed by the Registrant with the SEC on ~~May 19, 2003).~~
~~10.23~~ ~~Restricted Stock Agreement with Matthew D. Serra dated as of September 11, 2003 (incorporated herein by reference to Exhibit 10 to the Quarterly Report on Form 10-Q for the period ended~~ November ~~1, 2003~~17, 2006, and (ii) March 7, 2007 filed by the Registrant with the SEC on ~~December 15, 2003)~~March 12, 2007).

68

~~10.24~~Exhibit No.
in Item 601 of
Regulation S-K       Restricted Stock Agreement with Matthew D. Serra dated as of February 18, 2004 (incorporated herein by reference to Exhibit 10 to the Registrant’s Quarterly Report on Form 10-Q for the period ended May 1, 2004, filed by the Registrant with the SEC on June 8, 2004).Description
~~10.25~~10.23 Restricted Stock Agreement with Matthew D. Serra dated as of February 9, 2005 (incorporated herein by reference to Exhibit 10.2 to the February 9, 2005 Form 8-K).
~~10.26~~
10.24 Foot Locker Executive Severance Pay Plan (incorporated herein by reference to Exhibit 10.1 to the Registrant’s Quarterly Report on Form 10-Q for the period ended October 31, 1998 (the “October 31, 1998).
~~10.27~~
10.25 Form of Senior Executive Employment Agreement (incorporated herein by reference to Exhibit 10.23 to the Registrant’s Annual Report on Form 10-K for the year ended January 29, 2000 filed by the Registrant with the SEC on April 21, 2000 (the “1999 Form 10-K”)).
~~10.28~~
10.26 Form of Executive Employment Agreement (incorporated herein by reference to Exhibit 10.24 to the 1999 Form 10-K).
~~10.29~~
10.27 Foot Locker, Inc. Excess Cash Balance Plan (incorporated herein by reference to Exhibit 10(c) to the 1995 Form 10-K).
~~10.30~~
10.28 Form of Restricted Stock Agreement (incorporated herein by reference to Exhibit 10.30 to the Registrant’s Annual Report on Form 10-K for the year ended January 30, 1999 filed by the Registrant on April 30, 1999 (the “1998 Form 10-K”)).
~~10.31~~
10.29 Fifth Amended and Restated Credit Agreement dated as of April 9, 1997, amended and restated as of May 19, 2004 (“Credit Agreement”) (incorporated herein by reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q for the period ended July 31, 2004, filed by the Registrant with the SEC on September 8, 2004).
~~10.32~~
10.30 Amendment No. 1 to the Credit Agreement (incorporated herein by reference to Exhibit 10.1 to the Form 8-K filed by the Registrant on May 18, 2005).
~~10.33~~
10.31 Letter of Credit Agreement dated as of March 19, 1999 (incorporated herein by reference to Exhibit 10.35 to the 1998 Form 10-K).
~~10.34~~
10.32 Foot Locker 2002 Directors Stock Plan, as amended (incorporated herein by reference to Exhibit 10.1 to the Current Report on Form 8-K dated February 16, 2005, filed by the Registrant with the SEC on February 18, 2005).
~~10.35~~
10.33 Foot Locker 2003 Stock Option and Award Plan (incorporated herein by reference to Exhibit 10.2 to the August 2, 2003 Form 10-Q).
~~10.36~~ Summary of Changes to Non-Employee Directors’ Compensation (incorporated herein by reference to Exhibit 10.1 to the Quarterly Report on Form 10-Q for the period ended October 30, 2004, filed by the Registrant with the SEC on December 7, 2004).
~~10.37~~10.34 Automobile Expense Reimbursement Program for Senior Executives (incorporated herein by reference to Exhibit 10.36 to the Annual Report on Form 10-K for the year ended January 29, 2005 filed by the Registrant on March 29, 2005 (the “2004 Form 10-K”).
61

~~Exhibit No.~~
~~in Item 601 of~~
~~Regulation S-K~~
~~Description~~
~~10.38~~
10.35 Executive Medical Expense Allowance Program for Senior Executives (incorporated herein by reference to Exhibit 10.37 to the 2004 Form 10-K).
~~10.39~~
10.36 Financial Planning Allowance Program for Senior Executives (incorporated herein by reference to Exhibit 10.38 to the 2004 Form 10-K).
~~10.40~~
10.37 Form of Nonstatutory Stock Option Award Agreement for Executive ~~Officers.~~Officers (incorporated herein by reference to Exhibit 10.40 to the Annual Report on Form 10-K for the year ended January 28, 2006 filed by the Registrant with the SEC on March 27, 2006 (the “2005 Form 10-K”)).
~~10.41~~
10.38 Form of Incentive Stock Option Award Agreement for Executive ~~Officers.~~Officers (incorporated herein by reference to Exhibit 10.41 to the 2005 Form 10-K).
~~10.42~~
10.39 Form of Nonstatutory Stock Option Award Agreement for Non-employee Directors (incorporated herein by reference to Exhibit 10.2 to the July 31, 2004 Form 10-Q).
~~10.43~~
10.40 Long-term Disability Program for Senior Executives (incorporated herein by reference to Exhibit 10.42 to the 2004 Form 10-K).

69

~~10.44~~Exhibit No.
in Item 601 of
Regulation S-K       ~~Letter Agreement with Bruce L. Hartman (incorporated herein by reference to Exhibit 99.1 to the Form 8-K filed by the Registrant on December 28, 2005).~~
Description
12 Computation of Ratio of Earnings to Fixed Charges.
18 Letter on Change in Accounting Principle (incorporated herein by reference to Exhibit 18 to the 1999 Form 10-K).
21
21 Subsidiaries of the Registrant.
23 Consent of Independent Registered Public Accounting Firm.
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

62
70

Exhibits filed with this Form 10-K:
Exhibit No.
in Item 601 of
Regulation S-K
~~Description~~
~~10.10~~       ~~Amendment to the Supplemental Executive Retirement Plan adopted November 16, 2005.~~
~~10.40~~ ~~Form of Nonstatutory Stock Option Award Agreement for Executive Officers.~~
~~10.41~~ ~~Form of Incentive Stock Option Award Agreement for Executive Officers.~~Description
12 Computation of Ratio of Earnings to Fixed Charges.
21 Subsidiaries of the Registrant.
23 Consent of Independent Registered Public Accounting Firm.
31.1 Certification of Chief Executive Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Chief Financial Officer Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
32 Certification of Chief Executive Officer and Chief Financial Officer Pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.

63
71

New York				13-3513936
(State or other jurisdiction of				(I.R.S. Employer Identification No.)
incorporation or organization)

112 West 34^thStreet, New York, New York	10120			~~10120~~
(Address of principal executive offices)			(Zip Code)

Registrant’s telephone number, including area code:
(212)720-3700

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

		~~(Zip Code)~~

Title of each class	Name of each exchange on which registered
Common Stock, par value $0.01		New York Stock Exchange

Securities registered pursuant to Section 12(g) of the Act:
None

	Number of shares of Common Stock outstanding at March ~~17, 2006:~~27, 2007:					~~155,487,431~~	154,675,352
	The aggregate market value of voting stock held by non-affiliates of the Registrant computed by reference to the closing price as of the last business day of the Registrant’s most recently completed second fiscal quarter, July 29, ~~2005,~~2006, was approximately:		$			$	~~2,851,036,844~~	* 3,676,901,508*

PART I

Item 1		Business	~~Business~~		1
Item 1A			Risk Factors				2
Item 1B			Unresolved Staff Comments				4
Item 2		Properties	~~Properties~~		4
Item 3			Legal Proceedings				4
Item 4			Submission of Matters to a Vote of Security Holders				4	5

PART II

Item 5			Market for the Company’s Common Equity and Related Stockholder Matters and Issuer			6
		Purchases of Equity Securities		6
Item 6			Selected Financial Data				6	7
Item 7			Management’s Discussion and Analysis of Financial Condition and Results of Operations				6	7
Item 7A			Quantitative and Qualitative Disclosures ~~about~~About Market Risk				19	21
Item 8			Consolidated Financial Statements and Supplementary Data				20	22
Item 9			Changes inIn and Disagreements with Accountants on Accounting and Financial Disclosure				56	63
Item 9A			Controls and Procedures			63
Item 9B	56	Other Information	63

PART III

Item 10			Directors, ~~and~~ Executive Officers ~~of the Company~~and Corporate Goverance				56	64
Item 11			Executive Compensation				57	64
Item 12			Security Ownership of Certain Beneficial Owners and Management and Related Stockholder ~~Matters~~			64
		57Matters
Item 13			Certain Relationships and Related Transactions, and Director Independence				57	64
Item 14			Principal Accountant Fees and Services				57	64

PART IV

Item 15			Exhibits and Financial Statement Schedules				57	65

Chairman of the Board, President and Chief Executive Officer		Matthew D. Serra
President and Chief Executive Officer - Foot Locker, Inc. — International	Ronald J. Halls
President and Chief Executive Officer - Foot Locker, Inc. — U.S.A.		Richard T. Mina
Senior Vice President, General Counsel and Secretary		Gary M. Bahler
Senior Vice President — Real Estate		Jeffrey L. Berk
Senior Vice President, ~~and~~ Chief Information Officer and Investor Relations		~~Marc~~Peter D. ~~Katz~~Brown
Senior Vice President and Chief Financial Officer		Robert W. McHugh
Senior Vice President — Strategic Planning		Lauren B. Peters
Senior Vice President — Human Resources		Laurie J. Petrucci
~~Vice President — Investor Relations and Treasurer~~		~~Peter D. Brown~~
Vice President and Chief Accounting Officer		Giovanna Cipriano
Vice President and Treasurer	John A. Maurer

		Average Price Paid per Share			Approximate Dollar Value of Shares that May Yet be Purchased Under the Program⁽¹⁾
October 30, 2005 to November 26, 2005	50,000	$	21.975	50,000	$	28,967,188
November 27, 2005 to December 31, 2005	629,600		22.183	629,600		15,000,972
January 1, 2006 to January 28, 2006	—		—	—		15,000,972
Total	679,600	$	22.167	679,600

	At			At
	January 28, 2006	Opened	Closed	February 3, 2007
Foot Locker	2,121	57	77	2,101
Champs Sports	556	27	7	576
Footaction	363	17	7	373
Lady Foot Locker	554	22	19	557
Kids Foot Locker	327	23	15	335

Total Athletic Stores	3,921	146	125	3,942


Foot Locker	2,135	75	89	2,121
Champs Sports	570	11	25	556
Footaction	349	24	10	363
Lady Foot Locker	567	8	21	554
Kids Foot Locker	346	1	20	327

Total Athletic Stores	3,967	119	165	3,921

	2006			2005				2004
				(in millions)
Sales
Athletic Stores	$	5,370		$		5,272		$	4,989
Direct-to-Customers		380				381			366
	$	5,750		$		5,653		$	5,355
Operating Result
Athletic Stores	$	405		$		419		$	420
Direct-to-Customers		45				48			45
Division profit		450				467			465
Restructuring charges⁽¹⁾		(1	)			—			(2	)
Total division profit		449				467			463
Corporate expense		(68	)			(58	)		(74	)
Total operating profit		381				409			389
Other income		14				6			—
Interest expense, net		3				10			15
Income from continuing operations before income taxes	$	392			$	405		$	374

	2005			2004			2003
	(in millions)
Interest expense	$	23		$	22		$	26
Interest income		(13	)		(7	)		(8	)
Interest expense, net	$	10		$	15		$	18

Weighted-average interest rate (excluding facility fees):
Short-term debt		—	%		—	%		—	%
Long-term debt		6.2	%		5.2	%		6.1	%
Total debt		6.2	%		5.2	%		6.1	%

Short-term debt outstanding during the year:
High	$	—		$	—		$	—
Weighted-average	$	—		$	—		$	—

	2005			2004			2003
	(in millions)
Sales	$	5,272		$	4,989		$	4,413
Division profit	$	419		$	420		$	363
Sales as a percentage of consolidated total		93	%		93	%		92	%
Number of stores at year end		3,921			3,967			3,610
Selling square footage (in millions)		8.71			8.89			7.92
Gross square footage (in millions)		14.48			14.78			13.14

	2006			2005			2004
	(in millions)
Sales	$	380		$	381		$	366
Division profit	$	45		$	48		$	45
Sales as a percentage of consolidated total		7	%		7	%		7	%
Division profit margin		11.8	%		12.6	%		12.3	%

	2005			2004
	(in millions)
Cash, cash equivalents and short-term investments, net of debt and capital lease obligations	$	261		$	127
Present value of operating leases		1,934			1,989
Total net debt		1,673			1,862
Shareholders’ equity		2,027			1,830
Total capitalization	$	3,700		$	3,692

Net debt capitalization percent		45.2	%		50.4	%
Net debt capitalization percent without operating leases		—%			—%

			Payments Due by Period
			Less than		2 –3		3 –5		After 5
Contractual Cash Obligations	Total		1Year		Years		Years		Years
	(in millions)
Long-term debt⁽¹⁾	$	220	$	—	$	90	$	—	$	130
Operating leases		2,739		486		803		621		829
Capital lease obligations		14		14		—		—		—
Other long-term liabilities⁽²⁾		—		—		—		—		—
Total contractual cash obligations	$	2,973	$	500	$	893	$	621	$	959
____________________

			Payments Due by Period
Contractual Cash Obligations	Total		Less than 1 Year		2 – 3 Years		3 – 5 Years		After 5 Years
	(in millions)
Long-term debt⁽¹⁾	$	311	$	—	$	52	$	88	$	171
Operating leases		2,600		454		782		561		803
Capital lease obligations		15		1		14		—		—
Other long-term liabilities⁽²⁾		—		—		—		—		—
Total contractual cash obligations	$	2,926	$	455	$	848	$	649	$	974


(2)		The Company’s other liabilities in the Consolidated Balance Sheet as of ~~January 28, 2006~~February 3, 2007 primarily comprise pension and postretirement benefits, deferred rent liability, income taxes, workers’ compensation and general liability reserves and various other accruals. These liabilities have been excluded from the above table as the timing and/or amount of any cash payment is uncertain. The timing of the remaining amounts that are known have not been included as they are minimal and not useful to the presentation. Additional information ~~on the balance sheet caption~~ is included in the “Other Liabilities” footnote under “Item 8. Consolidated Financial Statements and Supplementary Data.”

	Total		Amount of Commitment Expiration by Period
	Amounts		Less than		2 –3		3 –5		After 5
Other Commercial Commitments	Committed		1Year		Years		Years		Years
	(in millions)
Line of credit	$	186	$	—	$	186	$	—	$ —
Stand-by letters of credit		14		—		14		—	—
Purchase commitments⁽³⁾		1,676		1,670		5		1	—
Other⁽⁴⁾		53		25		21		7	—
Total commercial commitments	$	1,929	$	1,695	$	226	$	8	$ —
____________________

			Amount of Commitment Expiration by Period
Other Commercial Commitments	Total Amounts Committed		Less than 1 Year		1 – 3 Years		3 – 5 Years		After 5 Years
	(in millions)
Line of credit	$	186	$	—	$	—	$	186	$	—
Stand-by letters of credit		14		—		—		14		—
Purchase commitments⁽³⁾		1,733		1,726		6		1		—
Other⁽⁴⁾		60		28		23		9		—
Total commercial commitments	$	1,993	$	1,754	$	29	$	210	$	—


(4)		Represents payments required by non-merchandise purchase agreements and minimum royalty requirements. ~~Effective March 31, 2006, the Company terminated its agreement with the NFL.~~


MATTHEW D. SERRA,	ROBERT W. MCHUGH,
Chairman of the Board,	Senior Vice President and
President and Chief Executive Officer		~~ROBERT W. MCHUGH~~ ~~Senior Vice President and~~ Chief Financial Officer

	2005			2004		2003
	(in millions, except per share amounts)

Sales	$	5,653		$	5,355	$	4,779
Costs and expenses
Cost of sales		3,944			3,722		3,297
Selling, general and administrative expenses		1,129			1,088		987
Depreciation and amortization		171			154		152
Restructuring charges		—			2		1
Interest expense, net		10			15		18
		5,254			4,981		4,455
Other income		(6	)		—		—
		5,248			4,981		4,455
Income from continuing operations before income taxes		405			374		324
Income tax expense		142			119		115
Income from continuing operations		263			255		209

Income (loss) on disposal of discontinued operations, net of income tax benefit of $3, $37, and $4, respectively		1			38		(1	)
Cumulative effect of accounting change, net of income tax benefit of $ —		—			—		(1	)
Net income	$	264		$	293	$	207

Basic earnings per share:
Income from continuing operations	$	1.70		$	1.69	$	1.47
Income (loss) from discontinued operations		0.01			0.25		(0.01	)
Cumulative effect of accounting change		—			—		—
Net income	$	1.71		$	1.94	$	1.46
Diluted earnings per share:
Income from continuing operations	$	1.67		$	1.64	$	1.40
Income (loss) from discontinued operations		0.01			0.24		(0.01	)
Cumulative effect of accounting change		—			—		—
Net income	$	1.68		$	1.88	$	1.39

	2005			2004			2003
	(in millions)
Net income	$	264		$	293		$	207
Other comprehensive income, net of tax

Foreign currency translation adjustment:
Translation adjustment arising during the period		(25	)		19			31

Cash flow hedges:
Change in fair value of derivatives, net of income tax		2			(1	)		—
Reclassification adjustments, net of income tax		(1	)		1			(1	)
Net change in cash flow hedges		1			—			(1	)

Minimum pension liability adjustment:
Minimum pension liability adjustment, net of deferred tax expense (benefit) of $10, $(9) and $10 million, respectively		15			(14	)		16

Comprehensive income	$	255		$	298		$	253

	2006		2005			2004
	(in millions)
Net income	$	251	$	264		$	293
Other comprehensive income, net of tax
Foreign currency translation adjustment:
Translation adjustment arising during the period, net of tax		27		(25	)		19
Cash flow hedges:
Change in fair value of derivatives, net of income tax		—		2			(1	)
Reclassification adjustments, net of income tax		—		(1	)		1
Net change in cash flow hedges		—		1			—
Minimum pension liability adjustment:
Minimum pension liability adjustment, net of deferred tax expense
(benefit) of $120, $10 and $(9) million, respectively		181		15			(14	)
Comprehensive income	$	459	$	255		$	298

	2005		2004
	(in millions)
ASSETS

Current assets
Cash and cash equivalents	$	289	$	225
Short-term investments		298		267
Total cash, cash equivalents and short-term investments		587		492
Merchandise inventories		1,254		1,151
Other current assets		173		189
		2,014		1,832
Property and equipment, net		675		715
Deferred taxes		147		180
Goodwill		263		271
Intangible assets, net		117		135
Other assets		96		104
	$	3,312	$	3,237
LIABILITIES AND SHAREHOLDERS’ EQUITY

Current liabilities
Accounts payable	$	361	$	381
Accrued and other liabilities		305		285
Current portion of long-term debt and obligations under capital leases		51		18
		717		684

Long-term debt and obligations under capital leases		275		347
Other liabilities		293		376
Total liabilities		1,285		1,407

Shareholders’ equity		2,027		1,830
	$	3,312	$	3,237

	2005						2004						2003
	Shares			Amount			Shares			Amount			Shares			Amount
	(shares in thousands, amounts in millions)
Common Stock and Paid-In Capital
Par value $0.01 per share, 500 million shares authorized
Issued at beginning of year		156,155		$	608			144,009		$	411			141,180		$	378
Restricted stock issued under stock option and award plans		225			—			400			—			845			—
Forfeitures of restricted stock		—			2			—			2			—			1
Amortization of stock issued under restricted stock option plans		—			6			—			8			—			4
Conversion of convertible debt		—			—			9,490			150			—			—
Reclassification of convertible debt issuance costs		—			—			—			(3	)		—			—
Issued under director and employee stock plans, net of tax		900			19			2,256			40			1,984			28
Issued at end of year		157,280			635			156,155			608			144,009			411
Common stock in treasury at beginning of year		(64	)		(2	)		(57	)		(1	)		(105	)		(1	)
Reissued under employee stock plans		90			2			260			5			152			1
Restricted stock issued under stock option and award plans		—			—			—			—			—			—
Forfeitures/cancellations of restricted stock		(135	)		(2	)		(100	)		(2	)		(80	)		(1	)
Shares of common stock used to satisfy tax withholding obligations		(49	)		(1	)		(137	)		(3	)		—			—
Stock repurchases		(1,590	)		(35	)		—			—			—			—
Exchange of options		(28	)		—			(30	)		(1	)		(24	)		—
Common stock in treasury at end of year		(1,776	)		(38	)		(64	)		(2	)		(57	)		(1	)
		155,504			597			156,091			606			143,952			410
Retained Earnings
Balance at beginning of year					1,386						1,132						946
Net income					264						293						207
Cash dividends declared on common stock $0.32, $0.26 and $0.15 per share, respectively					(49	)					(39	)					(21	)
Balance at end of year					1,601						1,386						1,132
Accumulated Other Comprehensive Loss
Foreign Currency Translation Adjustment
Balance at beginning of year					35						16						(15	)
Translation adjustment arising during the period					(25	)					19						31
Balance at end of year					10						35						16
Cash Flow Hedges
Balance at beginning of year					(1	)					(1	)					—
Change during year, net of tax					1						—						(1	)
Balance at end of year					—						(1	)					(1	)
Minimum Pension Liability Adjustment
Balance at beginning of year					(196	)					(182	)					(198	)
Change during year, net of tax					15						(14	)					16
Balance at end of year					(181	)					(196	)					(182	)
Total Accumulated Other Comprehensive Loss					(171	)					(162	)					(167	)
Total Shareholders’ Equity				$	2,027					$	1,830					$	1,375

	2005			2004				2003
	(in millions)
From Operating Activities
Net income	$	264		$	293			$	207
Adjustments to reconcile net income to net cash provided by operating activities of continuing operations:
(Income) loss on disposal of discontinued operations, net of tax		(1	)		(38	)			1
Restructuring charges		—			2				1
Cumulative effect of accounting change, net of tax		—			—				1
Depreciation and amortization		171			154				152
Restricted stock compensation expense		6			8				4
Tax benefit on stock compensation		3			10				2
Deferred income taxes		24			50				(5	)
Change in assets and liabilities:
Merchandise inventories		(111	)		(183	)			(63	)
Accounts payable and other accruals		14			157				(17	)
Repositioning and restructuring reserves		—			(1	)			(1	)
Pension contributions		(26	)		(106	)	��		(50	)
Income taxes		(8	)		—				9
Other, net		18			(57	)			23
Net cash provided by operating activities of continuing operations		354			289				264
From Investing Activities
Acquisitions		1			(242	)			—
Gain from insurance recoveries		3			—				—
Purchases of short-term investments		(2,798	)		(2,884	)			(1,546	)
Sales of short-term investments		2,767			2,875				1,440
Lease acquisition costs		(8	)		(17	)			(15	)
Capital expenditures		(155	)		(156	)			(144	)
Premiums paid on foreign currency option contracts		(3	)		—				—
Proceeds from foreign currency option contracts		6			—				—
Net cash used in investing activities of continuing operations		(187	)		(424	)			(265	)
From Financing Activities
Debt issuance costs		—			(2	)			—
(Reduction) increase in long-term debt		(35	)		175				(19	)
Dividends paid on common stock		(49	)		(39	)			(21	)
Issuance of common stock		12			28				26
Treasury stock reissued under employee stock plans		2			5				1
Purchase of treasury shares		(35	)		—				—
Net cash (used in) provided by financing activities of continuing operations		(105	)		167				(13	)
Net Cash Provided by operating activities of Discontinued Operations (revised — note 1)		—			1				7
Effect of Exchange Rate Fluctuations on Cash and Cash Equivalents		2			2				(8	)

Net Change in Cash and Cash Equivalents		64			35				(15	)
Cash and Cash Equivalents at Beginning of Year		225			190				205
Cash and Cash Equivalents at End of Year	$	289		$	225			$	190
Cash Paid During the Year:
Interest	$	20		$	23			$	25
Income taxes	$	93		$	121			$	77
Non-cash Financing Activities:
Common stock issued upon conversion of convertible debt	$	—		$	150			$	—
Debt issuance costs reclassified to equity upon conversion of convertible debt	$	—		$	3			$	—

	2005			2004			2003
	(in millions)
Advertising expenses	$	99.0		$	102.5		$	97.5
Cooperative advertising reimbursements		(21.2	)		(24.8	)		(23.4	)
Net advertising expense	$	77.8		$	77.7		$	74.1

	2005			2004			2003
	(in millions)
Catalog costs	$	48.2		$	50.3		$	42.4
Cooperative reimbursements		(3.0	)		(2.9	)		(3.5	)
Net catalog expense	$	45.2		$	47.4		$	38.9

	2005		2004		2003
	(in millions)
Income from continuing operations	$	263	$	255	$	209
Effect of Dilution:
Convertible debt		—		2		5
Income from continuing operations assuming dilution	$	263	$	257	$	214

Weighted-average common shares outstanding		155.1		150.9		141.6
Effect of Dilution:
Stock options and awards		2.5		3.0		1.8
Convertible debt		—		3.2		9.5
Weighted-average common shares outstanding assuming dilution		157.6		157.1		152.9

	2005			2004
Net income:
As reported	$	264		$	293
Compensation expense included in reported net income,
net of income tax benefit		4			5
Total compensation expense under fair value method for
all awards, net of income tax benefit		(9	)		(13	)
Pro forma	$	259		$	285
Basic earnings per share:
As reported	$	1.71		$	1.94
Pro forma	$	1.67		$	1.89
Diluted earnings per share:
As reported	$	1.68		$	1.88
Pro forma	$	1.64		$	1.83

	2005			2004			2003
	(in millions, except per share amounts)
Net income:
As reported	$	264		$	293		$	207
Compensation expense included in reported net income, net of income tax benefit		4			5			2
Total compensation expense under fair value method for all awards, net of income tax benefit		(9	)		(13	)		(7	)
Pro forma	$	259		$	285		$	202
Basic earnings per share:
As reported	$	1.71		$	1.94		$	1.46
Pro forma	$	1.67		$	1.89		$	1.43
Diluted earnings per share:
As reported	$	1.68		$	1.88		$	1.39
Pro forma	$	1.64		$	1.83		$	1.36


	Adjustment
	at Jan. 29,
(in millions)	2006
Accrued liabilities⁽¹⁾	$	3.4
Revenue recognition⁽²⁾		2.8
Inventory valuation⁽³⁾		4.2
		10.4
Provision for income taxes		4.1
Decrease to shareholders’ equity	$	6.3

(1)		Accrued liabilities – The Company understated its accrued liabilities for certain items, such as telecommunications, utilities and property taxes in years prior to 2003. These items originated when the Company was accruing for these items on a calendar year rather than a fiscal year basis.

(2)		Revenue recognition – The Company had historically recorded revenue from its catalog and Internet operations when the product was shipped to the customer, rather than upon the actual receipt of the product by the customer.

(3)		Inventory valuation – The Company did not properly recognize the permanent reduction of the retail value of its inventory upon the transfer to clearance stores. The Company provided a reserve for the value of this inventory that had not been marked down to current selling prices.

Operating Results

	2006			2005			2004
	(in millions)
Athletic Stores	$	405		$	419		$	420
Direct-to-Customers		45			48			45
		450			467			465
Restructuring charges⁽¹⁾		(1	)		—			(2	)
Division profit		449			467			463
Corporate expense⁽²⁾		(68	)		(58	)		(74	)
Operating profit		381			409			389
Other income⁽³⁾		14			6			—
Interest expense, net		3			10			15
Income from continuing operations before income taxes	$	392		$	405		$	374

(1)		The restructuring charge in 2006 represents a revision to the original estimate of the lease liability associated with the guarantee of The San Francisco Music Box distribution center. During 2004, the Company recorded a restructuring charge of $2 million related to the dispositions of non-core businesses. These charges were classified within selling, general and administrative expenses in the Consolidated Statements of Operations.

(2)		2004 includes integration costs of $5 million related to the acquisitions of Footaction and the 11 stores in the Republic of Ireland.

(3)		2006 includes $4 million gain on lease terminations; $8 million of insurance proceeds related to the 2005 hurricane; and $2 million gain on debt repurchase.

		2005 includes a $3 million gain from insurance recoveries associated with Hurricane Katrina. Additionally, $3 million represents a net gain on foreign currency option contracts that were entered into by the Company to mitigate the effect of fluctuating foreign exchange rates on the reporting of euro dominated earnings.