1
CONSOLIDATED SELECTED FINANCIAL DATA
DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA 1997 1996 1995 1994 1993
-------- -------- -------- -------- --------
SUMMARY OF OPERATIONS(1)
Sales $ 32,183 $ 31,437 $ 31,713 $ 29,563 $ 28,039
Cost of sales, buying and occupancy 25,152 24,390 24,675 22,331 20,732
Selling, general and administrative expenses 6,136 6,274 6,876 6,651 6,241
Interest expense, net 363 453 434 479 467
Continuing income (loss) before income taxes 418 330 (313) 102 (306)
Net income (loss) from continuing operations(2) 249 231 (230) 96 (179)
Net income (loss) 249 (220) (571) 296 (974)
PER SHARE OF COMMON
Basic continuing income (loss) $ 0.51 $ 0.48 $ (0.51) $ 0.20 $ (0.46)
Diluted continuing income (loss)(3) 0.51 0.48 (0.51) 0.19 (0.46)
Dividends declared -- -- 0.36 0.96 0.96
Book value 11.15 10.51 10.99 13.15 13.39
FINANCIAL DATA
Working capital $ 4,202 $ 4,131 $ 5,558 $ 3,562 $ 3,793
Total assets 13,558 14,286 15,033 16,085 15,875
Long-term debt 1,725 2,121 3,922 1,989 2,209
Long-term capital lease obligations 1,179 1,478 1,586 1,666 1,609
Trust convertible preferred securities 981 980 -- -- --
Capital expenditures 678 343 540 1,021 793
Depreciation and amortization 660 654 685 639 650
Ending market capitalization - common stock 5,469 5,418 2,858 6,345 9,333
Inventory turnover 3.5 3.5 3.4 3.2 2.9
Current ratio 2.3 2.1 2.9 1.7 1.9
Long-term debt to capitalization 32.4% 37.2% 51.1% 37.7% 38.5%
Ratio of income from continuing operations to fixed charges(4) 1.5 1.4 -- 1.1 --
Basic weighted average shares outstanding (millions) 487 484 460 427 408
Diluted weighted average shares outstanding (millions)(3) 492 486 460 456 408
NUMBER OF STORES
United States 2,136 2,134 2,161 2,316 2,323
International and other -- 127 149 165 163
-------- -------- -------- -------- --------
Total stores 2,136 2,261 2,310 2,481 2,486
U.S. Kmart store sales per comparable selling square foot $ 211 $ 201 $ 195 $ 181 $ 182
U.S. Kmart selling square footage (millions) 151 156 160 166 160
- -----------------------------------------------------------------------------------------------------------------------------
(1) Kmart Corporation and subsidiaries ("the Company" or "Kmart") fiscal year
ends on the last Wednesday in January. Fiscal 1995 consisted
of 53 weeks.
(2) Net income from continuing operations in 1997 includes a $114 million ($81
million net of tax) non-recurring charge related to the Voluntary Early
Retirement Program. The net loss from continuing operations in 1993 included a
pretax provision of $904 million ($579 million net of tax) for store
restructuring and other charges.
(3) Consistent with the requirements of Financial Accounting Standards No. 128,
preferred securities were not included in the calculation of diluted earnings
per share for 1997, 1996 and 1994 due to their anti-dilutive effect. Due to the
Company's loss from continuing operations in 1995 and 1993, diluted earnings per
share is equivalent to basic earnings per share.
(4) Fixed charges represent total interest charges, a portion of operating
rentals representative of the interest factor, amortization of debt discount and
expense and preferred dividends of majority owned subsidiaries. The deficiency
of income from continuing retail operations versus fixed charges was $305 and
$315 million for 1995 and 1993, respectively.
Kmart Corporation 1997 Annual Report 17
2
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION
RESULTS OF OPERATIONS
($ Millions) 1997 1996 1995
- -----------------------------------------------------------
SALES
United States $31,884 $30,378 $30,429
International 299 1,059 1,284
------- ------- -------
Total $32,183 $31,437 $31,713
======= ======= =======
OPERATING INCOME (LOSS)
United States $ 898 $ 780 $ 179
International (3) (7) (17)
------- ------- -------
Total $ 895 $ 773 $ 162
======= ======= =======
COMPARABLE SALES %
United States 4.8% 2.6% 5.6%
International -- (2.8%) 3.0%
Total 4.8% 2.5% 5.5%
OPERATING INCOME (LOSS) EXCLUDES THE VOLUNTARY EARLY RETIREMENT CHARGE IN 1997
TOTALING $114 MILLION ON A PRETAX BASIS, AND OTHER GAINS AND (LOSSES) OF $10 AND
($41) IN 1996 AND 1995, RESPECTIVELY.
FISCAL 1997 COMPARED TO FISCAL 1996
Sales and comparable store sales increased 2.4% and 4.8%, respectively, for
1997. Sales per square foot also continued its upward trend in 1997 to $211 from
$201. The increases were primarily due to the successful conversion of an
additional 458 traditional Kmart locations to the Big Kmart format, increased
promotional activity, as well as the overall success of unique product offerings
such as Martha Stewart Everyday home fashions and Sesame Street children's
apparel, partially offset by soft performance in the women's apparel segment and
in the case of consolidated sales, the sale of all remaining international
operations.
Gross margin, as a percentage of sales, was 21.8% and 22.4% in 1997 and
1996, respectively. The decrease in the percentage reflects increased
promotional activity, growth in consumables sales, the soft performance of
women's apparel, and increased distribution, buying and occupancy costs.
Selling, general and administrative expenses ("SG&A"), which includes
advertising, as a percentage of sales were 19.1% and 19.9% in 1997 and 1996,
respectively. This was the second consecutive year that SG&A as a percentage of
sales was below 20%. The 0.8 percentage point reduction compared to 1996, or
$138 million, was the result of the sale of certain international operations,
increased leverage given additional sales volume, and the Company's continuing
focus on its core business units.
Operating income increased $122 million in 1997 compared to 1996, excluding
other gains and losses and the charge for the Voluntary Early Retirement
Program. This increase was the direct result of the 2.4% increase in sales
during the year along with the $138 million savings in SG&A. These amounts were
partially offset by the 60 basis point decline in gross margin percentage.
The Voluntary Early Retirement Program offered to certain of the Company's
hourly associates during the fourth quarter of 1997 resulted in a charge of $114
million in the quarter based on actual acceptance. Other gains and losses in
1996 included a $108 million gain on the sale of Rite Aid stock and a charge of
$98 million related to the valuation of certain international operations.
Net interest expense was $363 and $453 million in 1997 and 1996,
respectively. The reduction in net interest expense was due to reduced
borrowings including the paydown of the remaining balance of the term loan in
the first quarter of 1997.
Effective income tax rates were 28.7% and 20.5% in 1997 and 1996,
respectively. The increase in the effective tax rate during 1997 was due to the
impact in 1996 of tax benefits resulting from foreign losses and basis
differences. See Note 11 of the Notes to Consolidated Financial Statements.
FISCAL 1996 COMPARED TO FISCAL 1995
Sales decreased 0.9% during 1996 primarily due to one less week in fiscal
1996 compared to 1995, the sale of certain international operations and the
closing of 48 U.S. Kmart stores during the year, partially offset by the opening
of 21 new U.S. Kmart stores. Comparable sales per square foot in U.S.Kmart
stores reached $201, exceeding $200 for the first time in the Company's history.
Comparable store sales increased 2.5% as a result of continued promotional
activity, a larger average transaction size, improved in-stock percentages, and
the conversion of 152 stores to the Big Kmart format.
Gross margin, as a percentage of sales, was 22.4% and 22.2% in 1996 and
1995, respectively. The percentage increase reflected significantly lower levels
of markdowns related to clearance of discontinued merchandise and closure of
stores. Additionally, lower levels of buying and occupancy costs together with
an improved sales mix towards higher margin departments contributed to the
increase. This increase was partially offset by the effect of the sale of the
auto service business to Penske Auto Centers, Inc. in late 1995.
Selling, general and administrative expenses, which include advertising, as
a percentage of sales were 19.9% and 21.7% in 1996 and 1995, respectively. In
1996, SG&A as a percentage of sales was below 20% for the first time in the past
25 years. The 1.8 percentage point reduction compared to 1995, or $602 million,
was a direct result of the Company's continuing focus on its core business
units, expense controls, one less week in fiscal 1996 and the sale of certain
international operations.
Kmart Corporation 1997 Annual Report 18
3
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (CONT.)
Operating income increased $611 million in 1996 compared to 1995, excluding
other gains and losses. Other gains and losses in 1996 included a $108 million
gain on the sale of Rite Aid stock and a charge of $98 million related to the
valuation of international operations in Mexico and Canada. In 1995, other gains
and losses included a charge of $162 million related to the adoption of
Financial Accounting Standard No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("FAS 121") and a
pension curtailment gain of $121 million.
Net interest expense was $453 and $434 million in 1996 and 1995,
respectively. The increase was a result of restrictions on the repayment of
certain indebtedness in the first half of 1996, prior to the Company's
refinancing of its bank lines and issuance of trust convertible preferred
securities in June 1996. Additionally, the Company's inability to borrow in
commercial paper markets beginning in the fall of 1995, as a result of its lower
corporate debt ratings, contributed to higher interest rates. This higher level
of interest was partially offset by higher levels of investment income from
accumulated cash balances prior to the refinancing and a significant improvement
in cash flow from operations.
Effective income tax rates were 20.5% and 26.6% in 1996 and 1995,
respectively. The 1996 rate was favorably impacted by recognition of tax
benefits related to foreign losses and basis differences. The 1995 rate
reflected the recognition of refundable taxes, at statutory rates, plus tax
credits partially offset by valuation allowances against certain deferred tax
assets. See Note 11 of the Notes to Consolidated Financial Statements.
Discontinued operations, net of taxes, represented losses of $451 and $290
million in 1996 and 1995, respectively. The 1996 loss was comprised of an
estimated loss of $385 million related to the Company's decision to sell the
operations of its Builders Square subsidiary, $5 million of current year net
losses of Builders Square and a loss of $61 million related to the sale of a
portion of its investment in Thrifty PayLess Holdings, Inc. ("TPH") in the first
quarter together with a revaluation of its remaining holdings at that time. The
1995 loss included a $260 million loss from Builders Square, including a charge
of $240 million related to the adoption of FAS 121, and a $30 million loss
related to the disposal of Borders Group, Inc. and remaining equity interests in
OfficeMax, Inc. and The Sports Authority, Inc. See Note 3 of the Notes to
Consolidated Financial Statements.
ANALYSIS OF FINANCIAL CONDITION
Kmart's primary sources of working capital are cash flows from operations
and borrowings under its credit facilities. The Company had working capital of
$4,202 and $4,131 million at year end 1997 and 1996, respectively. Working
capital fluctuates in relation to profitability, seasonal inventory levels net
of trade accounts payable and the level of store openings and closings.
In June 1996, the Company restructured its credit facilities to enhance its
liquidity and financial flexibility. This restructuring consisted of a secured
three year $2.5 billion revolving credit facility ("Revolver") and a secured
three year $1.2 billion term loan facility ("Term Loan") (collectively, the
"Credit Agreement"). Additionally, in June 1996, the Company issued $1 billion
of 7-3/4% Trust Convertible Preferred Securities ("TCPS") through a wholly owned
subsidiary trust. The net proceeds from these transactions were used to retire
existing indebtedness, including certain obligations related to real estate.
In May of 1997, the Revolving Credit Agreement was amended. Under the terms
of the amended agreement, the maturity was extended to June 2000 and the
commitment fee and interest rate spreads were reduced.
The Company has met the financial requirements to release collateral under
the Revolving Credit Agreement upon delivery of the 1997 audited financial
statements.
The Credit Agreement contains several affirmative and negative covenants,
regarding, among other items: the granting of liens, loans and guarantees;
mergers and sales of certain assets; dividends and other payments in respect of
capital stock; the maintenance of certain leverage and coverage ratios; and
limitations on indebtedness and capital expenditures. The Company was in
compliance with all covenants throughout 1997.
The Company had no borrowings outstanding on its Revolver as of year ends
1997 and 1996 and the Term Loan was repaid during 1997.
In March 1997, the Company issued, through a subsidiary, $335 million in
Commercial Mortgage Pass Through Certificates ("CMBS"). The CMBS weighted
average floating interest rate was LIBOR plus 47 basis points. Net proceeds were
used to repay a portion of the Term Loan.
In 1997, the Company continued to achieve significant improvement in
liquidity and operating cash flow performance. At the Company's peak borrowing
level in 1997, over $1.5 billion remained available for borrowings under its
Revolver. In addition, cash flow from continuing operations improved by $141
million. Management believes that its current financing arrangements will be
sufficient to meet the Company's liquidity needs for operations and capital
demands.
Net cash provided from continuing operations was $879 million in 1997 compared
to $738 million in 1996.
Kmart Corporation 1997 Annual Report 19
4
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF RESULTS OF OPERATIONS AND FINANCIAL CONDITION (CONT.)
Net cash used for investing was $185 million in 1997 compared to $471
million in 1996. Cash used for investing in 1997 was primarily the result of
$678 million in capital expenditures partially offset by the proceeds from sale
leaseback transactions which occurred during the year, as well as proceeds from
the sale of the Company's Canadian, Mexican and Builders Square operations. The
Company continues to maintain property held for sale with a net book value of
$307 million as of January 28, 1998. Cash used for investing in 1996 was the
result of an increase in property held for sale of $632 million as a result of
refinancing certain real estate debt and capital additions of $343 million.
These items were partially offset by the receipt of proceeds from the sale of
the Company's investment in Rite Aid common stock, the sale of its Czech and
Slovak Republics operations and the IPO of TPH.
Net cash used for financing was $564 million in 1997 compared to $974
million in 1996. Cash used for financing during 1997 was the result of paying
down the Company's remaining balance on the Term Loan as well as payments on
certain mortgages and medium term notes. These amounts were partially offset by
the issuance of $335 million in CMBS securities. Cash used for financing in 1996
was the result of the refinancing of the Company's former credit facilities and
certain real estate debt with net proceeds from the Term Loan, TCPS and
Revolver.
RESTRUCTURING RESERVE STATUS
In 1993, Kmart recorded a pretax charge of $904 million, $579 million
after tax, primarily for anticipated costs associated with Kmart stores which
were to be closed or relocated, enlarged or refurbished in the U.S. and Canada.
The restructuring program was completed during fiscal 1997 with the cost of
completing the plan approximating the original estimate. The following
summarizes the reserve balance as of January 28, 1998.
1997 Activity
----------------
Original Net Change in
($ Millions) Reserve 1995 1996 Charges Estimate 1997
- -------------------------------------------------------------
Lease costs $479 $397 $297 $(35) $ (33) $229
Asset writedowns 148 23 5 (23) 18 --
Inventory 201 79 12 (17) 15 10
Other charges 76 9 4 (2) -- 2
---- ---- ---- ---- ----- ----
$904 $508 $318 $(77) $ -- $241
==== ==== ==== ==== ===== ====
NET CHARGES DURING 1997, 1996 AND 1995 INCLUDED $19, $25 AND $32 MILLION FOR
INTEREST EXPENSE ACCRETED, RESPECTIVELY.
The primary components of the reserve consist of: cash outlays for future
lease obligations once a store is closed until it can be assigned, bought-out or
terminated, offset by any sublease income; asset writedowns relating to
furniture and fixtures and leasehold improvements and inventory disposition
costs. Changes in estimates are representative of management's assessments in
the fourth quarters of 1997, 1996 and 1995 that based on actual experiences to
date, certain charges would be higher than originally planned while others would
be less than planned.
Due to favorable sublease and termination experience for stores closed to
date, Kmart lowered the estimate of net lease obligation costs for domestic and
Canadian stores by $33 million in 1997. These favorable results have been offset
by increased fixed asset disposition costs for domestic stores.
Kmart anticipates that pretax cash outflows will approximate $70, $50 and
$30 million in 1998 through 2000, respectively. At January 28, 1998, the total
remaining gross lease obligations related to the U.S. Kmart 1993 restructuring
plan aggregated approximately $1.1 billion, of which it is management's
estimate, based upon historical results, approximately $800 million will be
recovered primarily through subleasing. Kmart has discounted the future net cash
flow using a 7% discount rate which resulted in an aggregate remaining effect of
discounting of approximately $60 million. Future cash outlays are based upon
management's estimate of the period of time between store closing and the
ultimate disposition of the lease obligation, the remaining charge being
substantially noncash in nature.
Other Matters
The Company is currently working to resolve the potential impact of the
Year 2000 on the processing of date-sensitive information by the Company's
computerized information systems. The Year 2000 problem is the result of
computer programs being written using two digits (rather than four) to define
the applicable year. Any of the Company's programs that have time-sensitive
software may recognize a date using "00" as the year 1900 rather than the year
2000, which could result in miscalculations or system failures. Costs of
addressing potential problems are estimated to be approximately $50 million and
are not expected to have a material adverse impact on the Company's financial
position, results of operations or cash flows in future periods. However, if the
Company or its vendors are unable to resolve such processing issues in a timely
manner, it could result in a material financial risk. Accordingly, the Company
plans to devote the necessary resources to resolve all significant Year 2000
issues in a timely manner.
Kmart Corporation 1997 Annual Report 20
5
MANAGEMENT'S RESPONSIBILITY
FOR FINANCIAL STATEMENTS
Management is responsible for the preparation of the Company's consolidated
financial statements and related information appearing in this annual report.
These financial statements have been prepared in conformity with generally
accepted accounting principles on a consistent basis applying certain estimates
and judgments based upon currently available information and management's view
of current conditions and circumstances. On this basis, we believe that these
financial statements reasonably present the Company's financial position and
results of operations.
To fulfill our responsibility, we maintain comprehensive systems of
internal controls designed to provide reasonable assurance that assets are
safeguarded and transactions are executed in accordance with established
procedures. The concept of reasonable assurance is based upon a recognition that
the cost of the controls should not exceed the benefit derived. We believe our
systems of internal controls provide this reasonable assurance.
The Company has adopted a code of conduct to guide our management in the
continued observance of high ethical standards of honesty, integrity and
fairness in the conduct of the business and in accordance with the law.
Compliance with the guidelines and standards is periodically reviewed and is
acknowledged in writing by all management associates.
The Board of Directors of the Company has an Audit Committee, consisting
solely of outside directors. The duties of the Committee include keeping
informed of the financial condition of the Company and reviewing its financial
policies and procedures, its internal accounting controls and the objectivity of
its financial reporting. Both the Company's independent accountants and the
internal auditors have free access to the Audit Committee and meet with the
Committee periodically, with and without management present.
Floyd Hall
Floyd Hall
Chairman of the Board,
President and Chief Executive Officer
Martin E. Welch III
Martin E. Welch III
Senior Vice President
and Chief Financial Officer
REPORT OF INDEPENDENT ACCOUNTANTS
TO THE SHAREHOLDERS AND BOARD OF DIRECTORS
OF KMART CORPORATION
In our opinion, the accompanying consolidated balance sheets and the
related consolidated statements of operations, of shareholders' equity and of
cash flows present fairly, in all material respects, the financial position of
Kmart Corporation and its subsidiaries at January 28, 1998 and January 29, 1997,
and the results of their operations and their cash flows for each of the three
years in the period ended January 28, 1998, in conformity with generally
accepted accounting principles. These financial statements are the
responsibility of the Company's management; our responsibility is to express an
opinion on these financial statements based on our audits. We conducted our
audits of these statements in accordance with generally accepted auditing
standards which 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, assessing the
accounting principles used and significant estimates made by management, and
evaluating the overall financial statement presentation. We believe that our
audits provide a reasonable basis for the opinion expressed above.
Price Waterhouse LLP
Price Waterhouse LLP
Detroit, Michigan
March 3, 1998
Kmart Corporation 1997 Annual Report 21
6
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED JANUARY 28, 1998, JANUARY 29, 1997 AND JANUARY 31, 1996
DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA 1997 1996 1995
- -----------------------------------------------------------------------------------------------------------------------------
SALES $ 32,183 $ 31,437 $ 31,713
Cost of sales, buying and occupancy 25,152 24,390 24,675
--------- --------- ---------
Gross margin 7,031 7,047 7,038
Selling, general and administrative expenses 6,136 6,274 6,876
Voluntary early retirement program 114 -- --
Other (gains) losses -- (10) 41
--------- --------- ---------
Continuing income before interest, income taxes
and dividends on convertible preferred securities of subsidiary 781 783 121
Interest expense, net 363 453 434
Income tax provision (credit) 120 68 (83)
Dividends on convertible preferred securities of subsidiary,
net of income taxes of $26 and $16 49 31 --
--------- --------- ---------
NET INCOME (LOSS) FROM CONTINUING OPERATIONS BEFORE
EXTRAORDINARY ITEM 249 231 (230)
Loss from discontinued operations,
net of income taxes of $(3) and $(139) -- (5) (260)
Loss on disposal of discontinued operations, net
of income taxes of $(240) and $88 -- (446) (30)
Extraordinary loss, net of income taxes of $(27) -- -- (51)
--------- --------- ---------
Net income (loss) $ 249 $ (220) $ (571)
========= ========= =========
BASIC/DILUTED INCOME (LOSS) PER COMMON SHARE
Continuing operations $ .51 $ .48 $ (.51)
Discontinued operations -- (.01) (.57)
Loss on disposal of discontinued operations -- (.92) (.06)
Extraordinary item -- -- (.11)
--------- --------- ---------
Net income (loss) $ .51 $ (.45) $ (1.25)
========= ========= =========
Basic weighted average shares (millions) 487.1 483.6 459.8
Diluted weighted average shares (millions) 491.7 486.1 459.9
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
Kmart Corporation 1997 Annual Report 22
7
CONSOLIDATED BALANCE SHEETS
AS OF JANUARY 28, 1998 AND JANUARY 29, 1997
DOLLARS IN MILLIONS 1997 1996
- ---------------------------------------------------------------------------------------------------------------------------
CURRENT ASSETS
Cash and cash equivalents $ 498 $ 406
Merchandise inventories 6,367 6,354
Other current assets 611 973
Total current assets 7,476 7,733
------- -------
Property and equipment, net 5,472 5,740
Property held for sale or financing 271 200
Other assets and deferred charges 339 613
------- -------
Total Assets $13,558 $14,286
======= =======
CURRENT LIABILITIES
Long-term debt due within one year $ 78 $ 156
Trade accounts payable 1,923 2,009
Accrued payroll and other liabilities 1,064 1,298
Taxes other than income taxes 209 139
------- -------
Total current liabilities 3,274 3,602
Long-term debt and notes payable 1,725 2,121
Capital lease obligations 1,179 1,478
Other long-term liabilities 965 1,013
Company obligated mandatorily redeemable convertible preferred securities of a
subsidiary trust holding solely 7-3/4% convertible junior subordinated
debentures of Kmart (redemption value of $1,000) 981 980
Common stock, $1 par value, 1,500,000,000 shares authorized;
488,811,271 and 486,996,145 shares issued, respectively 489 486
Capital in excess of par value 1,620 1,608
Retained earnings 3,343 3,105
Treasury shares and restricted stock (15) (37)
Foreign currency translation adjustment (3) (70)
------- -------
Total Liabilities and Shareholders' Equity $13,558 $14,286
======= =======
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
Kmart Corporation 1997 Annual Report 23
8
CONSOLIDATED STATEMENTS OF CASH FLOWS
<Caption
YEARS ENDED JANUARY 28, 1998, JANUARY 29, 1997 AND JANUARY 31, 1996
DOLLARS IN MILLIONS 1997 1996 1995
- ---------------------------------------------------------------------------------------------------------------------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income (loss) from continuing operations $ 249 $ 231 $ (230)
Adjustments to reconcile net income (loss) from continuing
operations to net cash provided by (used for) operating activities:
Depreciation and amortization 660 654 685
Voluntary early retirement program 114 -- --
Cash used for store restructuring and other charges (105) (129) (171)
(Increase) decrease in inventories (31) (349) 222
Increase (decrease) in trade accounts payable (86) 215 (609)
Deferred income taxes and taxes payable 72 228 (296)
Increase (decrease) in other long-term liabilities (27) (194) 9
Changes in certain assets, liabilities and other items 33 82 293
--------- ---------- ---------
Net cash provided by (used for) continuing operations 879 738 (97)
Net cash provided by (used for) discontinued operations (38) 30 (92)
--------- ---------- ---------
NET CASH PROVIDED BY (USED FOR) OPERATING ACTIVITIES 841 768 (189)
--------- ---------- ---------
Cash Flows From Investing Activities
Decrease (increase) in property held for sale or financing 262 (632) (474)
Proceeds from divestitures 133 434 1,479
Proceeds from real estate financing and other 158 27 179
Other, net (60) 43 (244)
Capital expenditures (678) (343) (540)
--------- ---------- ---------
NET CASH PROVIDED BY (USED FOR) INVESTING ACTIVITIES (185) (471) 400
--------- ---------- ---------
Cash Flows From Financing Activities
Proceeds from issuance of long-term debt and notes payable 337 1,202 1,948
Change in common stock 37 34 3
Proceeds from issuance of convertible preferred securities -- 971 --
Dividends paid -- -- (283)
Refinancing costs related to long-term debt and notes payable (15) (212) --
Payments on capital lease obligations (112) (114) (160)
Payments on long-term debt (811) (2,855) (983)
--------- ---------- ---------
NET CASH PROVIDED BY (USED FOR) FINANCING ACTIVITIES (564) (974) 525
--------- ---------- ---------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 92 (677) 736
CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 406 1,083 347
--------- ---------- ---------
Cash and cash equivalents, end of year $ 498 $ 406 $ 1,083
========= ========== =========
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
Kmart Corporation 1997 Annual Report 24
9
CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY
SERIES B, C TREASURY SHARES
AND D CAPITAL AND PERFORMANCE FOREIGN
CONVERTIBLE IN EXCESS RESTRICTED STOCK CURRENCY
PREFERRED COMMON OF PAR RETAINED DEFERRED TRANSLATION
DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA STOCK STOCK VALUE EARNINGS COMPENSATION ADJUSTMENT
- -----------------------------------------------------------------------------------------------------------------------------------
Balance at January 25, 1995 $ 132 $ 465 $ 1,505 $ 4,074 $ (86) $ (58)
Net loss for the year (571)
Cash dividends declared:
Common, $.36 per share (165)
Series C convertible preferred (6)
Common issued from redemption
of Series C and D convertible preferred (132) 20 112
Foreign currency translation adjustment (6)
Other 1 7 (6) (6)
------- ------- ------- ------- ------- ---------
Balance at January 31, 1996 -- 486 1,624 3,326 (92) (64)
Net loss for the year (220)
Treasury shares reissued to retirement
savings plan (19) 53
Foreign currency translation adjustment (6)
Other 3 (1) 2
------- ------- ------- ------- ------- ---------
Balance at January 29, 1997 -- 486 1,608 3,105 (37) (70)
Net income for the year 249
Treasury shares reissued to retirement
savings plan (4) 23
Foreign currency translation adjustment 67
Other 3 16 (11) (1)
------- ------- ------- ------- ------- ---------
Balance at January 28, 1998 $ -- $ 489 $ 1,620 $ 3,343 $ (15) $ (3)
======= ======= ======= ======= ======= =========
PREFERRED STOCK, AUTHORIZED 10,000,000 SHARES, NO PAR VALUE.
SEE ACCOMPANYING NOTES TO CONSOLIDATED FINANCIAL STATEMENTS.
Kmart Corporation 1997 Annual Report 25
10
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
1) Summary of Significant Accounting Policies
The significant accounting policies followed by Kmart Corporation and
subsidiaries ("the Company" or "Kmart") in the preparation of these financial
statements, are summarized below.
Nature of Operations: The Company's operations consist principally of
discount department stores located in all 50 states, Puerto Rico, the U.S.
Virgin Islands and Guam. Kmart's equity investment consists of 49% of
substantially all of the Meldisco subsidiaries of Footstar, Inc. ("FTS"), which
operate the footwear departments in Kmart stores.
Basis of Consolidation: Kmart includes all majority owned subsidiaries in
the consolidated financial statements. Investments in affiliated retail
companies owned 20% or more are accounted for by the equity method. Intercompany
transactions and accounts have been eliminated in consolidation.
Fiscal Year: The Company's fiscal year ends on the last Wednesday in
January. Fiscal years 1997 and 1996 each consisted of 52 weeks and ended on
January 28, 1998 and January 29, 1997, respectively. Fiscal year 1995 consisted
of 53 weeks and ended on January 31, 1996.
Cash: Cash and cash equivalents include all highly liquid investments with
maturities of three months or less. Included in cash and cash equivalents are
temporary investments of $241 and $131, at year end 1997 and 1996, respectively.
Inventories: Inventories are stated at the lower of cost or market,
primarily using the retail method. The last-in, first-out (LIFO) method,
utilizing internal inflation indices, was used to determine the cost for $5,990,
$5,883 and $5,518 of inventory as of year end 1997, 1996 and 1995, respectively.
Inventories valued on LIFO were $457, $440 and $485 lower than amounts that
would have been reported using the first-in, first-out (FIFO) method at year end
1997, 1996 and 1995, respectively.
Property and Equipment: Property and equipment are recorded at cost, less
any impairment losses. Capitalized amounts include expenditures which materially
extend the useful lives of existing facilities and equipment. Expenditures for
owned properties, which Kmart intends to sell and lease back within one year,
are included in other current assets, and those with expected transaction dates
extending beyond one year are included in property held for sale or financing.
Depreciation and Amortization: Depreciation and amortization, including
amortization of property held under capital leases, are computed based upon the
estimated useful lives of the respective assets using the straight-line method
for financial statement purposes and accelerated methods for tax purposes. The
general range of lives are 25 to 50 years for buildings, 5 to 25 years for
leasehold improvements, and 3 to 17 years for furniture and fixtures.
Financial Instruments: Cash and cash equivalents, accounts receivable,
trade accounts payable and accrued liabilities are reflected in the financial
statements at cost which approximates fair value. The fair value of the
Company's debt and other financial instruments are discussed in Notes 8 and 10.
Foreign Currency Translations: Foreign currency assets and liabilities are
translated into U.S. dollars at the exchange rates in effect at the balance
sheet date, and revenue and expenses are translated at average exchange rates
during the period.
Stock-Based Compensation: The Company has elected under the provisions of
Statement of Financial Accounting Standards No. 123 ("FAS 123") to continue
using the intrinsic value method of accounting for employee stock based
compensation in accordance with Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees".
Pre-Opening and Closing Costs: Costs associated with the opening of a new
store are expensed during the first full month of operations. When the decision
to close a retail unit is made, any future net lease obligation and
nonrecoverable investment in fixed assets directly related to discontinuance of
operations are expensed.
Advertising Costs: Advertising costs, net of co-op recoveries from vendors,
are expensed the first time the advertising occurs and amounted to $420, $385
and $459 in 1997, 1996 and 1995, respectively.
Income Taxes: Deferred income taxes are provided for temporary differences
between financial statement and taxable income. Kmart accrues U.S. and foreign
taxes payable on all of the earnings of subsidiaries, except with respect to
earnings that are intended to be permanently reinvested, or are expected to be
distributed free of additional tax by operation of relevant statutes currently
in effect and by utilization of available tax credits and deductions.
Earnings (Loss) Per Common Share: Effective for its January 28, 1998
consolidated financial statements, Kmart adopted Statement of Financial
Accounting Standards No. 128, "Earnings per Share," ("FAS 128"). FAS 128
replaces the presentation of primary earnings per share ("EPS") and fully
diluted EPS with a presentation of basic EPS and diluted EPS, respectively.
Use of Estimates: The preparation of financial statements in conformity
with generally accepted accounting principles requires management to make
estimates and assumptions that affect the reported amounts of assets and
liabilities at the date of the financial statements and the reported amounts of
revenues and expenses during the reporting period. Actual results could differ
from those estimates.
Reclassifications: Certain reclassifications of prior year amounts have
been made to conform to the 1997 presentation.
Kmart Corporation 1997 Annual Report 26
11
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
2) Subsequent Events
In February 1998, the Company's minority interest in Kmart Canada Co. was
purchased by Hudson's Bay Co. Under the terms of the purchase, Kmart will
receive approximately $8 for its remaining equity interest in Kmart Canada Co.,
along with $79 for repayment of its note and debentures.
In the first quarter of 1998, the Company's requirement to maintain
collateral under the revolving credit facility will be eliminated.
3) Discontinued Operations and Dispositions
Discontinued operations for 1997 include Builders Square, Inc. ("Builders
Square"). Discontinued operations for 1996 and prior, include Builders Square,
Borders Group, Inc. ("Borders Group"), OfficeMax, Inc. ("OfficeMax"), The Sports
Authority, Inc. ("The Sports Authority"), Thrifty PayLess Holdings, Inc.
("TPH"), Coles Myer, Ltd. ("Coles Myer"), and Furr's/Bishop's, Inc. ("Furr's").
1997 Activity
During the first and second quarters of 1997, the Company completed the
sale of its interests in the Mexico and Canada operations, respectively. Under
the terms of the Mexico agreement the Company received $74, which approximated
the book value of its interest. Under the terms of the Canada agreement, the
Company received $54 in cash, a $76 note receivable and retained a 12.5%
non-voting equity interest. The net proceeds from the sale approximated book
value.
In the third quarter of 1997, the Company completed the sale of
substantially all of the assets of its subsidiary, Builders Square, to an
affiliate of Leonard Green & Partners, L.P. The net proceeds from the sale
approximated book value.
1996 Activity
During the first half of 1996, the Company received $70 from the sale of
approximately 33% of its investment in the common stock of TPH and revalued its
remaining investment by recording a $61 loss from discontinued operations, net
of income taxes. In the fourth quarter, Rite Aid Corporation ("Rite Aid")
merged TPH into Rite Aid and exchanged 0.65 of its shares for each share of
TPH. Kmart sold its Rite Aid shares received resulting in net proceeds of
approximately $257 and a pretax gain of $108, which was included in other gains
and losses.
In the first quarter, the Company completed the sale of its store
operations in the Czech and Slovak Republics and received net proceeds of $115.
In the fourth quarter of 1996, the Company recorded a $385 after tax charge
as a result of its plan to dispose of Builders Square. This charge was included
in loss on disposal of discontinued operations. The Company also recorded a
pretax charge of $98, relating to the anticipated losses on the disposal of its
international operations. This charge was included in other gains and losses.
1995 Activity
Borders Group's initial public offering ("IPO") was completed in the second
quarter of 1995. In this IPO, Kmart sold 87% of its equity interest in Borders
Group for net proceeds of approximately $493. Borders Group purchased Kmart's
remaining 13% interest in the second quarter which resulted in net proceeds of
approximately $73. The effect of these transactions was an after tax loss of
$185.
OfficeMax completed the public offering of Kmart's remaining equity
interest in the second quarter. Kmart received net proceeds of approximately
$360 and recorded an after tax gain of $107.
The Sports Authority completed the public offering of Kmart's remaining
equity interest in the third quarter. Kmart received approximately $151 in net
proceeds and recorded an after tax gain of $48.
In the fourth quarter, Kmart sold the assets of its automotive service
centers to Penske Auto Centers, Inc. for $84. Under the terms of the agreement,
the centers continue to operate at Kmart locations in exchange for various rents
and fees for services provided by Kmart.
The Company also sold certain senior notes of TPH acquired in 1993 in
connection with the sale of PayLess Drug Stores Northwest, Inc., for
approximately $102.
In the fourth quarter of 1995, the Company and its subsidiaries adopted
Financial Accounting Standard No. 121 "Accounting for the Impairment of
Long-Lived Assets and for Long-Lived Assets to be Disposed Of" ("FAS 121").
Based on management's considerations of the current and expected operating cash
flow together with a judgment as to the fair value the Company could receive
upon the sale of its investments in certain international operations, the
Company recorded a $162 pretax charge, $150 after tax, which was included in
other gains and losses. In addition, Builders Square recorded an after tax
charge of $240 related to its adoption of FAS 121.
Kmart Corporation 1997 Annual Report 27
12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
4) Restructuring and Other Charges
In 1993, the Board of Directors approved a restructuring plan. The
restructuring provision of $904 included anticipated costs associated with Kmart
stores which were to be closed and relocated, enlarged or refurbished in the
U.S. and Canada. These costs included lease obligations for store closings as
well as fixed asset writedowns and inventory dispositions.
Cash costs related to the 1993 restructuring reserve amounted to $105,
$129 and $117 for 1997, 1996 and 1995, respectively. Noncash charges were $28,
$61 and $134 for the same periods, respectively. The remaining restructuring
obligation is included primarily in "other long-term liabilities" in the
consolidated balance sheets.
In 1995, the Company entered into agreements whereby holders of
approximately $550 of certain real estate related debt agreed to eliminate put
features which would have required Kmart to purchase the debt from the holders
if Kmart's long-term debt rating was lowered to non-investment grade. In the
fourth quarter of 1995, the Company recorded an extraordinary noncash charge of
$51, net of income taxes, relating to various expenses and make whole premiums
payable under such agreements.
5) Property and Equipment
YEAR END
----------------------
1997 1996
- --------------------------------------------------------------
Property owned:
Land $ 319 $ 346
Buildings 822 995
Leasehold improvements 1,834 1,470
Furniture and fixtures 4,832 5,050
Construction in progress 60 87
------- -------
Total owned 7,867 7,948
Property under capital leases 2,264 2,820
------- -------
10,131 10,768
Less-accumulated depreciation
and amortization:
Property owned (3,427) (3,487)
Property under capital leases (1,232) (1,541)
------- -------
Total $ 5,472 $ 5,740
======= =======
The following table provides a breakdown of the number of stores leased compared
to owned:
YEAR END
---------------------
1997 1996
- ---------------------------------------------------------------
Number of U.S.Kmart Stores Owned 105 118
Number of U.S.Kmart Stores Leased 2,031 2,016
6) Investments in Affiliated Retail Companies
All Kmart footwear departments are operated under license agreements with
the Meldisco subsidiaries of FTS, substantially all of which are 49% owned by
Kmart and 51% owned by FTS. Income earned under various agreements was $210,
$211 and $220, in 1997, 1996 and 1995, respectively. The Company received
dividends from Meldisco in 1997, 1996 and 1995 of $36, $64 and $52,
respectively.
FISCAL YEAR
-----------------------------------
MELDISCO INFORMATION 1997 1996 1995
- -----------------------------------------------------------------
Net sales $ 1,142 $ 1,109 $ 1,141
Gross profit 491 476 487
Net income 74 74 79
Inventory $ 142 $ 134 $ 135
Other current assets 17 24 74
Non-current assets -- 1 1
--------- -------- ---------
Total assets 159 159 210
Current liabilities 24 25 15
--------- -------- ---------
Net assets $ 135 $ 134 $ 195
========= ======== =========
Equity of Kmart $ 65 $ 65 $ 94
========= ======== =========
Unremitted earnings included in consolidated retained earnings were $42, $41 and
$72 at year end 1997, 1996 and 1995, respectively.
7) Other Commitments and Contingencies
Kmart has outstanding guarantees for property leased by certain formerly
owned subsidiaries as follows:
Gross
Present Value Lease
at 7% --------------------
1997 1997 1996
- --------------------------------------------------------------
Furr's $ 134 $ 193 $ 199
Borders Group 114 205 218
Office Max 111 168 186
The Sports Authority 250 424 453
Builders Square 849 1,568 1,655
--------- --------- ---------
Total $ 1,458 $ 2,558 $ 2,711
========= ========= =========
As of January 28, 1998, Kmart has guaranteed $139 of indebtedness of other
parties related to certain of its leased properties financed by industrial
revenue bonds. These agreements expire from 2004 through 2009.
There are various claims, lawsuits and pending actions against Kmart
incident to its operations. It is the opinion of management that the ultimate
resolution of these matters will not have a material adverse effect on Kmart's
liquidity, financial position or results of operations.
Kmart Corporation 1997 Annual Report 28
13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
8) LONG-TERM DEBT AND NOTES PAYABLE
YEAR END
FISCAL YEAR INTEREST -------------------
TYPE MATURITY RATES 1997 1996
- ----------------------------------------------------------------------------
Term loan 1997 7.8% $ -- $ 600
Debentures 2005-2023 7.8%-12.5% 967 995
Medium-term
notes 1998-2020 6.8%-9.8% 512 682
CMBS 2002 Floating 324 --
--------- --------
Total 1,803 2,277
Current portion (78) (156)
--------- --------
Long-term debt $ 1,725 $ 2,121
========= ========
In the first quarter of 1997, the Company transferred to Troy CMBSProperty,
L.L.C., an affiliated Delaware limited liability company, 81 store properties
(the "Properties") with a net book value of $964 which were then leased back to
the Company. Simultaneously with such transfer of the Properties, Troy CMBS
Property, L.L.C. completed a $335 offering of commercial mortgage pass through
certificates, secured by mortgages on the Properties. The mortgages and the
mortgage notes have been purchased by Kmart CMBS Financing, Inc., a Delaware
corporation wholly owned by the Company, and assigned to the trustee of the
security holders.
The mortgage loan is subject to monthly payments of interest and principal,
according to a schedule which amortizes the initial outstanding principal amount
over approximately 15 years with a balloon payment of approximately $261 on the
scheduled maturity date in February 2002. The CMBSweighted average interest rate
is 1 month LIBOR plus 47 basis points.
In the second quarter of 1996, the Company entered into a $3.7 billion
credit agreement with a group of financial institutions which provides for (i) a
three year $2.5 billion secured revolving credit facility ("Revolver") and (ii)
a three year $1.2 billion secured term loan ("Term Loan"). The Term Loan was
repaid in full in March 1997.
In the second quarter of 1997, the revolving credit agreement was amended
to extend the maturity to June 2000, and reduce the commitment fee and interest
rate spreads to 0.3% and LIBORplus 125 basis points, respectively. Based on the
Company's continued improved performance during 1997, the commitment fee and
interest rate spreads were further reduced to 0.25% and LIBORplus 100 basis
points.
The Company has met the financial requirements to release collateral under
the revolving credit agreement upon delivery of the 1997 audited annual
financial statements.
The Revolver contains certain affirmative and negative covenants customary
to these types of agreements. The Company is in compliance with all such
covenants.
As of January 28, 1998 and January 29, 1997, there were no outstanding
amounts under the Revolver.
Based on the quoted market prices for the same or similar issues or on the
current rates offered to Kmart for debt of the same remaining maturities, the
fair value of long-term debt was approximately $1,817 at year end 1997, and
approximated book value at year end 1996.
The principal maturities of long-term debt for the five years subsequent to
1997 are: 1998-$78, 1999-$77, 2000-$73, 2001-$68, 2002-$357 and 2003 and
later-$1,150.
Cash paid for interest was $333, $459 and $467 in 1997, 1996 and 1995,
respectively.
9) Leases
Kmart conducts operations primarily in leased facilities. Kmart store
leases are generally for terms of 25 years with multiple five-year renewal
options which allow the Company the option to extend the life of the lease up to
50 years beyond the initial noncancelable term.
Selling space has been sublet to other retailers, including Penske Auto
Centers, Inc. and the Meldisco subsidiaries of FTS, in certain of Kmart's leased
facilities.
Minimum Lease Commitments
-------------------------
As of January 28, 1998 Capital Operating
- ----------------------------------------------------------------------------
Fiscal Year:
1998 $ 286 $ 528
1999 274 516
2000 258 505
2001 247 499
2002 238 486
Later years 2,052 6,232
--------- ---------
Total minimum lease payments 3,355 8,766
Less-minimum sublease income -- (3,631)
--------- ---------
Net minimum lease payments 3,355 $ 5,135
=========
Less:
Estimated executory costs (926)
Amount representing interest (1,163)
---------
1,266
Current (87)
---------
Long-term $ 1,179
=========
RENT EXPENSE 1997 1996 1995
- ----------------------------------------------------------------------------
Minimum rentals $ 673 $ 642 $ 649
Percentage rentals 39 36 35
Less-sublease rentals (234) (236) (232)
----- ----- -----
Total $ 478 $ 442 $ 452
===== ===== =====
Kmart incurred capital lease obligations to obtain store facilities and
equipment of $9 and $21 in 1997 and 1995, respectively. There were no capital
lease obligations incurred in 1996.
Kmart Corporation 1997 Annual Report 29
14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
10) Convertible Preferred Securities
In June 1996, a trust sponsored and wholly owned by the Company issued
20,000,000 shares of trust convertible preferred securities ("Preferred
Securities"), the proceeds of which were invested by the trust in $1 billion
aggregate principal amount of the Company's newly issued 7-3/4% Convertible
Junior Subordinated Debentures ("Debentures"). The Preferred Securities accrue
and pay cash distributions quarterly at a rate of 7-3/4% per annum of the stated
liquidation amount of $50 per Preferred Security. Kmart has guaranteed, on a
subordinated basis, distributions and other payments due on the Preferred
Securities.
The Preferred Securities are convertible at the option of the holder at any
time at the rate of 3.3333 shares of Kmart common stock for each Preferred
Security, and are mandatorily redeemable upon the maturity of the Debentures on
June 15, 2016, or to the extent of any earlier redemption of any Debentures by
Kmart and are callable beginning June 15, 1999.
Based on the quoted market prices, the fair value of the Preferred
Securities was approximately $1,040 as of year end 1997, and approximated book
value at year end 1996.
11) Income Taxes
INCOME (LOSS) BEFORE
INCOME TAXES 1997 1996 1995
- ---------------------------------------------------------------
U.S. $ 390 $ 351 $ (114)
Foreign 28 (21) (199)
------ ------ -------
Total $ 418 $ 330 $ (313)
====== ====== =======
INCOME TAX
PROVISION (CREDIT) 1997 1996 1995
- ---------------------------------------------------------------
Current:
Federal $ (126) $ 54 $ (164)
State and local (5) 5 --
Foreign 11 17 (3)
------- ------ -------
(120) 76 (167)
Deferred:
Federal 240 (7) 96
Foreign -- (1) (12)
------- ------ -------
Total $ 120 $ 68 $ (83)
======= ======= =======
EFFECTIVE TAX RATE
RECONCILIATION 1997 1996 1995
- ---------------------------------------------------------------
Federal income
tax rate 35.0% 35.0% (35.0%)
State and local taxes,
net of federal tax benefit (0.8) 0.9 --
Tax credits (1.9) -- (2.5)
Equity in net income
of affiliated companies (2.3) (3.1) (3.4)
Valuation allowance -- -- 18.4
International tax rate
and basis differential -- (13.9) (4.2)
Other (1.3) 1.6 0.1
----- ----- ------
28.7% 20.5% (26.6%)
===== ===== ======
YEAR END
DEFERRED TAX --------------------
ASSETS AND LIABILITIES 1997 1996
- -------------------------------------------------------------
Deferred tax assets:
Federal benefit for
state and foreign taxes $ 27 $ 28
Discontinued operations 135 413
Accruals and other liabilities 258 174
Capital leases 101 132
Store restructuring 94 136
Other 182 129
------ ------
Total deferred tax assets 797 1,012
------ ------
Deferred tax liabilities:
Inventory 272 281
Property and equipment 417 455
Valuation allowance -- 50
Other 23 9
------ ------
Total deferred tax liabilities 712 795
------ ------
Net deferred tax assets $ 85 $ 217
====== ======
The Company has available alternative minimum tax credit carryforwards of
approximately $137 which may be carried forward indefinitely.
Cash paid (received) for income taxes was $7, $(238), and $80 in 1997,
1996 and 1995, respectively.
12) Common and Treasury Stock
SHARES (000's) 1997 1996 1995
- -----------------------------------------------------------------
Common Shares:
Beginning of the year 486,996 486,511 464,550
Sold under stock option plan 1,469 49 171
Issued under performance
restricted stock plan 1,220 420 504
Issued under directors stock plan 5 21 9
Issued from redemption of Series
C and D convertible preferred -- -- 21,314
Forfeited or withheld under
performance restricted stock plan (879) (5) (37)
------- ------- -------
End of the year 488,811 486,996 486,511
======= ======= =======
Treasury Shares:
Beginning of the year 2,261 5,883 5,883
Reissued shares for
the retirement savings plan (1,635) (3,622) --
------- ------- -------
End of the year 626 2,261 5,883
======= ======= =======
As of the end of 1997, the Board of Directors has approved the repurchase
of 2,000,000 shares of Kmart common stock to be used to fund the Retirement
Savings Plan and other employee benefit plans or trusts.
Kmart Corporation 1997 Annual Report 30
15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
13) Pension Plans
In the fourth quarter of 1997, the Company announced a Voluntary Early
Retirement Program for certain Kmart hourly associates over 45 years of age with
at least 10 years of service by December 31, 1997. Of the 28,785 Kmart
associates eligible for this program, 11,587 accepted the early retirement
offer, and the Company recorded a charge of $114, ($81 after tax). Payouts under
this program will be fully funded through existing pension plan assets.
Prior to 1996, U.S. Kmart had defined benefit pension plans covering
eligible associates who met certain requirements of age, length of service and
hours worked per year. Effective January 31, 1996, the pension plans were frozen
and associates no longer earn additional benefits under the plans. As a result
of freezing the plans, the Company recorded a pretax curtailment gain of $121,
included in other gains and losses, in the first quarter of 1995.
Benefits paid to retirees are based upon age at retirement and years of
credited service and earnings as of January 31, 1996. Kmart's policy is to fund
at least the minimum amounts required by the Employee Retirement Income Security
Act of 1974. The plans' assets consist primarily of equity securities, fixed
income securities and real estate. Kmart contributed $6 to its principal pension
plan during fiscal 1995. No contributions were made in fiscal 1997 or 1996. The
total consolidated pension expense (income) was $(63), $(32) and $42 in 1997,
1996 and 1995, respectively.
The following tables summarize the funded status, components of pension
cost and actuarial assumptions for Kmart's employee pension plans.
YEAR END
---------------------------------
1997 1996
- ----------------------------------------------------------------------------
Actuarial value of benefit obligations:
Present value of vested benefits $ (1,927) $ (1,699)
Present value of non-vested benefits (128) (92)
-------- --------
Projected benefit obligation (PBO) (2,055) (1,791)
Market value of assets 2,219 1,974
Voluntary early retirement lump
sum payout (277) --
-------- --------
Plan assets over (under) PBO (113) 183
Unrecognized transition asset (63) (80)
Unrecognized (gain) loss 72 (157)
-------- --------
Accrued pension costs $ (104) $ (54)
======== ========
PENSION COST (INCOME) 1997 1996 1995
- ----------------------------------------------------------------------------
Normal service cost $ -- $ -- $ 51
Interest cost on PBO 139 132 133
Return on assets (334) (273) (378)
Net amortization and
deferral 132 100 232
-------- -------- -------
Total $ (63) $ (41) $ 38
======== ======== =======
Actuarial assumptions:
Discount rates 6.75% 7.75% 7.25%
Expected return 10.00% 9.50% 9.50%
Salary increases -- -- 4.50%
The Company has a non-qualified plan for directors and officers which was
unfunded as of year end 1997 and 1996. Total benefits under the plan totaled $36
and $35, at the end of 1997 and 1996, respectively.
14) Other Postretirement and Postemployment
Benefit Plans
Full-time associates who have worked 10 years and who have retired after
age 55, have the option of participation in Kmart's medical plan until age 65.
The plan is contributory, with retiree contributions adjusted annually. The
accounting for the plan anticipates future cost-sharing changes that are
consistent with Kmart's expressed intent to increase the retiree contribution
rate annually. The accrued postretirement benefit costs were $70 and $78 at the
end of 1997 and 1996, respectively.
15) Retirement Savings Plan
The Retirement Savings Plan provides that associates of Kmart who have
completed six months of service can invest from 1% to 16% of their earnings in
the associate's choice of various investments. For each dollar the participant
contributes, up to 6% of earnings, Kmart will contribute an additional 50 cents
which is invested in the Employee Stock Ownership Plan.
The Retirement Savings Plan has a profit sharing feature whereby the
Company makes contributions based on profits, with minimum yearly contributions
required of $30. Kmart's expense related to the Retirement Savings Plan was $69
in 1997 and $71 in both 1996 and 1995.
Kmart Corporation 1997 Annual Report 31
16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN MILLIONS, EXCEPT PER SHARE DATA)
16) Stock Option Plans
The Company applies APB Opinion 25 and related interpretations in
accounting for its stock option and restricted stock plans. Accordingly, no
compensation cost has been recognized for its stock based compensation plans.
Had the compensation cost for the Company's stock based compensation plans
been determined based on the fair value at the grant dates for awards under
those plans consistent with the method of FAS 123, the Company's net income
would have been reduced by $27, $22 and $3 for 1997, 1996 and 1995,
respectively, and earnings per share would have been reduced by $0.06, $0.05 and
$0.01 for 1997, 1996 and 1995, respectively. To determine these amounts, the
fair value of each stock option has been estimated on the date of the grant
using a Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 1997, 1996 and 1995, respectively: expected
volatility of .3902, .3788 and .2980, dividend yield of 0%, risk-free interest
rates of 6.47%, 6.05% and 5.98%; and expected lives of 5 years. The
weighted-average fair value per share of options granted in 1997, 1996 and 1995
were $5.37, $3.37 and $4.52, respectively. Options vest over 3 years on a
graduated basis with a term of 10 years.
Under the Performance Restricted Stock Plan, the Board of Directors may
grant awards of common stock to officers and other key employees of Kmart and
its subsidiaries. As of January 28, 1998, there were awards for 3,240,000 shares
outstanding and shares available for grant of 155,278.
STOCK OPTION PLANS (000'S) SHARES OPTION PRICE
- ----------------------------------------------------------------
January 31, 1996
Outstanding 26,466 $6.31 - $26.03
Granted 14,303 7.00 - 12.50
Exercised (49) 7.81
Forfeited (23,753) 6.31 - 26.03
--------
January 29, 1997
Outstanding 16,967 6.31 - 26.03
Granted 7,233 10.79 - 14.85
Exercised (1,507) 7.81 - 12.38
Forfeited (1,705) 7.81 - 21.94
--------
January 28, 1998
Outstanding 20,988 6.31 - 26.03
Exercisable 5,539 7.81 - 26.03
Available for grant 22,903
17) Quarterly Financial Information (Unaudited)
Earnings per share amounts for each quarter are required to be computed
independently and may not equal the amount computed for the total year.
- --------------------------------------------------------------------------
1997 First Second Third Fourth
- --------------------------------------------------------------------------
Sales $ 7,263 $ 7,846 $ 7,315 $ 9,759
Cost of sales 5,637 6,197 5,683 7,635
Net income from
continuing operations 14 31 18 186
Net income 14 31 18 186
Basic Earnings per share
Continuing $ .03 $ .06 $ .04 $ .38
Net .03 .06 .04 .38
Diluted Earnings per share
Continuing $ .03 $ .06 $ .04 $ .35
Net .03 .06 .04 .35
Common stock price
High $ 13-5/8 $ 14-1/2 $ 15-1/16 $ 13-13/16
Low 10-5/8 10-3/8 11-3/8 10-5/8
- ------------------------------------------------------------------------------
1996 FIRST SECOND THIRD FOURTH
- ------------------------------------------------------------------------------
Sales $ 6,975 $ 7,566 $ 7,212 $ 9,684
Cost of sales 5,398 5,875 5,528 7,589
Net income (loss) from
continuing operations (36) 23 8 236
Net income (loss) (99) 34 9 (164)
Basic Earnings (loss) per share
Continuing $ (.08) $ .05 $ .02 $ .49
Net (.21) .07 .02 (.34)
Diluted Earnings (loss) per share
Continuing $ (.08) $ .05 $ .02 $ .45
Net (.21) .07 .02 (.27)
Common stock price
High $ 10-5/8 $ 14 $ 11-1/8 $ 11-3/8
Low 6-5/8 9-3/4 9-1/4 9-1/2
The Preferred Securities were not included in the calculation of diluted
EPS for the first, second and third quarters of 1997, and for the second and
third quarters of 1996 due to the anti-dilutive effect on EPS if converted. Had
the Preferred Securities been included in the calculation, Diluted EPS would
have been higher by $0.02 for all respective quarters except the second quarter
of 1996 which would have been $0.01 higher and would have been $0.02 higher for
fiscal 1997 and 1996.
As of January 28, 1998, there were approximately 90,000 Kmart common
shareholders of record. In addition, there were approximately 365,000 street
name holders of Kmart common stock. Kmart common stock is listed on the New
York, Pacific and Chicago stock exchanges (trading symbol KM).
Kmart Corporation 1997 Annual Report 32