Walmart - 10-Q quarterly report FY

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

FORM 10-Q

x            Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the quarterly period ended July 31, 2008.

¨            Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934.

For the transition period from __________ to __________.

WAL-MART STORES, INC.

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or such shorter periods that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. YesxNo¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.   Check One:

Large Accelerated Filer   x                                                      Accelerated Filer                                              Non-Accelerated Filer   ¨                                           Smaller Reporting Company  ¨

Indicate by a check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes¨ Nox

Applicable Only to Corporate Issuers

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practical date.

Common Stock, $.10 Par Value – 3,933,976,378 shares as of August 29, 2008.

The Condensed Consolidated Balance Sheets of Wal-Mart Stores, Inc. and its subsidiaries (the “Company”) as of July 31, 2008 and 2007, the related Condensed Consolidated Statements of Income for the three and six months ended July 31, 2008 and 2007, and the related Condensed Consolidated Statements of Cash Flows for the six-month periods ended July 31, 2008 and 2007, are unaudited. The Condensed Consolidated Balance Sheet as of January 31, 2008, is derived from the audited financial statements at that date.

In the opinion of management, all adjustments necessary for a fair presentation of the condensed consolidated financial statements have been included. Such adjustments are of a normal recurring nature. Interim results are not necessarily indicative of results for a full year.

The condensed consolidated financial statements and notes thereto are presented in accordance with the rules and regulations of the Securities and Exchange Commission (“SEC”) and do not contain certain information included in the Company’s Annual Report to Shareholders for the fiscal year ended January 31, 2008. Therefore, the interim condensed consolidated financial statements should be read in conjunction with that Annual Report to Shareholders.

Liabilities associated with general liability and workers’ compensation claims against the Company are estimated by considering the Company’s historical claims experience, including frequency and severity of claims, and certain actuarial assumptions. In estimating our liability for such claims, we periodically analyze our historical trends, including loss development, and apply appropriate loss development factors to the incurred costs associated with the claims.  During the last few years, we have enhanced how we manage claims.  As a result, our loss experience with respect to such claims has improved and the actuarially determined ultimate loss estimates, primarily for fiscal year 2004 through 2007 claims, were reduced during the quarter ended July 31, 2007. The reductions in ultimate loss estimates resulted primarily from improved claims handling experience, which impacts loss development factors and other actuarial assumptions.  Due to the beneficial change in estimate of our ultimate losses, accrued liabilities for general liability and workers’ compensation claims were reduced by $196 million after tax, resulting in an increase in net income per basic and diluted common share from continuing operations of $0.05 for the three and six months ended July 31, 2007.

Basic net income per common share is based on the weighted-average number of outstanding common shares. Diluted net income per common share is based on the weighted-average number of outstanding shares adjusted for the dilutive effect of stock options and other share-based awards.  The dilutive effect of outstanding stock options and restricted stock was 13 million and 11 million shares for the three and six months ended July 31, 2008, respectively, and 6 million shares for the three and six months ended July 31, 2007.  The Company had approximately 1 million and 59 million option shares outstanding at July 31, 2008 and 2007, respectively, which were not included in the diluted net income per share calculation because their effect would be antidilutive.

The Company values inventories at the lower of cost or market as determined primarily by the retail method of accounting, using the last-in, first-out (“LIFO”) method for substantially all of the Walmart U.S. segment’s merchandise inventories. The Sam’s Club segment’s merchandise and merchandise in our distribution warehouses are valued based on the weighted-average cost using the LIFO method. Inventories of foreign operations are primarily valued by the retail method of accounting, using the first-in, first-out (“FIFO”) method. At July 31, 2008 and 2007, our inventories valued at LIFO approximate those inventories as if they were valued at FIFO.

 

In April 2008, the Company issued $1.0 billion of 4.250% Notes Due 2013 and $1.5 billion of 6.200% Notes Due 2038.   Beginning on October 15, 2008, the Company will pay interest on the notes of each series on April 15 and October 15 of each year. Interest started accruing on such notes on April 15, 2008. The 2013 notes will mature on April 15, 2013 and the 2038 notes will mature on April 15, 2038. The notes of each such series are senior, unsecured and unsubordinated obligations of Wal-Mart Stores, Inc.

In May 2008, Wal-Mart Stores, Inc. entered into a term loan facility with a syndicate of banks.  Pursuant to that facility, the Company borrowed ¥220 billion to refinance outstanding debt of its wholly-owned subsidiary, The Seiyu, Ltd., that was scheduled to mature in December, 2008.  Borrowings under such facility are senior, unsecured obligations of Wal-Mart Stores, Inc. and generally bear interest at a floating rate equal to the one, three or six month London Interbank Offered Rate plus a spread of 0.35%.  Such debt matures on June 26, 2011.  The amount of such debt in United States dollars as reflected on the Company’s Condensed Consolidated Balance Sheets at July 31, 2008 was approximately $2.1 billion.  The facility is designated as a hedge of the Company’s net investment in Japan.

In September 2006, the Financial Accounting Standards Board (“FASB”) issued Statement of Financial Accounting Standards No. 157, “Fair Value Measurements” (“SFAS 157”). SFAS 157 defines fair value, establishes a framework for measuring fair value within generally accepted accounting principles (“GAAP”) and expands required disclosures about fair value measurements. In November 2007, the FASB provided a one year deferral for the implementation of SFAS 157 for nonfinancial assets and liabilities.  The Company adopted SFAS 157 on February 1, 2008, as required. The adoption of SFAS 157 did not have a material impact on the Company’s financial condition and results of operations.

SFAS 157 establishes a three-tier fair value hierarchy, which prioritizes the inputs used in measuring fair value. These tiers include: Level 1, defined as observable inputs such as quoted prices in active markets; Level 2, defined as inputs other than quoted prices in active markets that are either directly or indirectly observable; and Level 3, defined as unobservable inputs in which little or no market data exists, therefore requiring an entity to develop its own assumptions. As of July 31, 2008, the Company held certain derivative asset and liability positions that are required to be measured at fair value on a recurring basis. The majority of the Company’s derivative instruments related to receive fixed-rate, pay floating-rate interest rate swaps and receive fixed-rate, pay fixed-rate cross-currency interest rate swaps.  The fair values of these interest rate swaps have been measured in accordance with Level 2 inputs in the fair value hierarchy, and as of July 31, 2008, are as follows (asset/(liability)):

In February 2007, the FASB issued Statement of Financial Accounting Standards No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities–Including an amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 permits companies to measure many financial instruments and certain other items at fair value at specified election dates. The Company adopted SFAS 159 on February 1, 2008. Since the Company has not utilized the fair value option for any allowable items, the adoption of SFAS 159 did not have a material impact on the Company’s financial condition and results of operations.

The Company is engaged in the operations of retail stores located in all 50 states of the United States, Argentina, Brazil, Canada, Japan, Puerto Rico and the United Kingdom and through majority-owned subsidiaries in Central America and Mexico.  The Company operates in China and India through joint ventures.  The Company identifies segments in accordance with the criteria set forth in Statement of Financial Accounting Standards No. 131, “Disclosures about Segments of an Enterprise and Related Information,” and is primarily based on the operations of the Company that our chief operating decision maker regularly reviews to analyze performance and allocate resources among business units of the Company.

The Walmart U.S. segment includes the Company’s mass merchant concept in the United States under the “Wal-Mart” or “Walmart” brand, as well as walmart.com. The Sam’s Club segment includes the warehouse membership clubs in the United States, as well as samsclub.com. The International segment consists of the Company’s operations outside of the 50 United States.  The amounts under the caption “Other” in the table below relating to operating income are unallocated corporate overhead items.

The Company measures the profit of its segments as “segment operating income,” which is defined as income from continuing operations before net interest expense, income taxes and minority interest and excludes unallocated corporate overhead.  At February 1, 2008, the Company reclassified certain unallocated corporate expenses to be included within each segment’s measurement of segment operating income.  As a result, all prior year measurements of segment operating income have been restated for comparative purposes.

Net sales by operating segment were as follows (amounts in millions):

 

 

    Goodwill is recorded on the Condensed Consolidated Balance Sheets in the operating segments as follows (amounts in millions):

 

The change in the International segment's goodwill since January 31, 2008, primarily resulted from foreign currency exchange rate fluctuations in the Japanese yen and Mexican peso, offset by an adjustment to allocate goodwill for the sale of Gazeley Limited (“Gazeley”), an ASDA commercial property development subsidiary in the United Kingdom.

The change in the International segment's goodwill since July 31, 2007, resulted from the final purchase price allocation of the Company's investment in Bounteous Company Ltd. ("BCL"), the acquisition of substantially all of the outstanding common and preferred shares of our Japanese subsidiary, The Seiyu Ltd., foreign currency exchange rate fluctuations in the Japanese yen, Mexican peso and Chinese yuan renminbi and purchase price adjustments related to continuing the repurchase of Walmex shares throughout the period, offset by an adjustment to allocate goodwill for the sale of Gazeley.

 

    Comprehensive income is net income plus certain other items that are recorded directly to shareholders’ equity. Amounts included in accumulated other comprehensive income for the Company’s derivative instruments and minimum pension liabilities are recorded net of the related income tax effects.  Comprehensive income was $4.0 billion and $7.5 billion for the three and six months ended July 31, 2008, respectively.  Comprehensive income was $3.7 billion and $6.7 billion for the three and six months ended July 31, 2007, respectively.

 

 

On March 6, 2008, the Company’s Board of Directors approved an increase in annual dividends to $0.95 per share. The annual dividend will be paid in four quarterly installments on April 7, 2008, June 2, 2008, September 2, 2008, and January 2, 2009, to holders of record on March 14, May 16, August 15 and December 15, 2008, respectively.

The Company's effective tax rate was 34.2% for the three months ended July 31, 2008.  The Company expects the fiscal 2009 annual effective tax rate to be approximately 34% to 35%.  Significant factors that could impact the annual effective tax rate include management's assessment of certain tax matters and the composition of taxable income between domestic and international operations.

In determining the quarterly provision for income taxes, the Company uses an estimated annual effective tax rate based on forecasted annual income and permanent items, statutory tax rates and tax planning opportunities in the various jurisdictions in which the Company operates.  The impact of significant discrete items is separately recognized in the quarter in which they occur.

The Company adopted the provisions of FASB Interpretation No. 48, “Accounting for Uncertainty in Income Taxes,” (“FIN 48”) effective February 1, 2007.  FIN 48 clarifies the accounting for income taxes, by prescribing a minimum recognition threshold a tax position is required to meet before being recognized in the financial statements.  FIN 48 also provides guidance on derecognition, measurement, classification, interest and penalties, accounting in interim periods, disclosure and transition.

In the normal course of its business, the Company provides for uncertain tax positions, and the related interest and penalties, and adjusts its unrecognized tax benefits, accrued interest and penalties accordingly. During the second quarter of fiscal 2009, unrecognized tax benefits related to continuing operations decreased by $65 million and accrued interest decreased by $13 million.  For the first six months of fiscal 2009, unrecognized tax benefits related to continuing operations decreased by $20 million and accrued interest increased by $5 million.  As of July 31, 2008, the Company’s unrecognized tax benefits relating to continuing operations were $848 million, of which $575 million would, if recognized, affect the Company’s effective tax rate.

Additionally, at April 30, 2008 the Company had unrecognized tax benefits of up to $1.8 billion which, if recognized, would be recorded as discontinued operations.  Of this, $63 million was recognized in discontinued operations during the second quarter of fiscal year 2009 from the successful resolution of a tax contingency related to McLane Company, Inc., a former Wal-Mart subsidiary.  The balance of $1.7 billion at July 31, 2008 relates to a worthless stock deduction which the Company has now claimed for the Company’s fiscal year 2007 disposition of its German operations.  The Company cannot predict with reasonable certainty if this matter will be resolved within the next twelve months.

During the next twelve months, it is reasonably possible that tax audit resolutions could reduce unrecognized tax benefits by $140 million to $260 million, either because our tax positions are sustained on audit or because the Company agrees to their disallowance.  The Company does not expect any such audit resolutions to cause a significant change in its effective tax rate.  As of July 31, 2008, there were no material changes to the amount of unrecognized tax benefits or the related accrued interest and penalties reported in continuing operations.

The Company classifies interest on uncertain tax benefits as interest expense and income tax penalties as operating, selling, general and administrative costs.  At July 31, 2008, before any tax benefits, the Company had $232 million of accrued interest and penalties on unrecognized tax benefits.

The Company is subject to income tax examinations for its U.S. federal income taxes generally for the fiscal years 2007 and 2008, with fiscal years 2004 through 2006 remaining open for a limited number of U.S. income tax positions.  Non-U.S. income taxes are subject to income tax examination for the tax years 2002 through 2008.  State and local income taxes are open for examination for the fiscal years 2004 through 2007 generally and for the fiscal years 1997 through 2003 for a limited number of positions.

Additionally, the Company is subject to tax examinations for payroll, value added, sales-based and other taxes. A number of these examinations are ongoing and, in certain cases, have resulted in assessments from the taxing authorities. Where appropriate, the Company has made accruals for these matters which are reflected in the Company's condensed consolidated financial statements. While these matters are individually immaterial, a group of related matters, if decided adversely to the Company, may result in liability material to the Company's financial condition or results of operations.

 

 

Wage-and-Hour Class Actions:The Company is a defendant in numerous cases containing class-action allegations in which the plaintiffs are current and former hourly associates who allege that the Company forced or encouraged them to work “off the clock,” failed to provide rest breaks or meal periods, or otherwise failed to pay them correctly. The complaints generally seek unspecified monetary damages, injunctive relief, or both. Class or collective-action certification has yet to be addressed by the court in a majority of these cases. In the majority of wage-and-hour class actions filed against the Company in which the courts have addressed the issue, class certification has been denied. The Company cannot reasonably estimate the possible loss or range of loss that may arise from these lawsuits, except as noted below.

One of the class-action lawsuits described above is Savaglio v. Wal-Mart Stores, Inc., a class-action lawsuit in which the plaintiffs allege that they were not provided meal and rest breaks in accordance with California law, and seek monetary damages and injunctive relief. A trial on the plaintiffs' claims for monetary damages concluded on December 22, 2005. The jury returned a verdict of approximately $57 million in statutory penalties and $115 million in punitive damages. In June 2006, the judge entered an order allowing some, but not all, of the injunctive relief sought by the plaintiffs. On December 27, 2006, the judge entered an order awarding the plaintiffs an additional amount of approximately $26 million in costs and attorneys’ fees. The Company believes it has substantial factual and legal defenses to the claims at issue, and on January 31, 2007, the Company filed its Notice of Appeal.

In another of the class-action lawsuits described above, Braun/Hummel v. Wal-Mart Stores, Inc., a trial was commenced in September 2006, in Philadelphia, Pennsylvania. The plaintiffs allege that the Company failed to pay class members for all hours worked and prevented class members from taking their full meal and rest breaks. On October 13, 2006, the jury awarded back-pay damages to the plaintiffs of approximately $78 million on their claims for off-the-clock work and missed rest breaks.  The jury found in favor of the Company on the plaintiffs’ meal-period claims.  On November 14, 2007, the trial judge entered a final judgment in the approximate amount of $188 million, which included the jury’s back-pay award plus statutory penalties, prejudgment interest and attorneys’ fees. The Company believes it has substantial factual and legal defenses to the claims at issue, and on December 7, 2007, the Company filed its Notice of Appeal.

In another of the class-action lawsuits described above, Braun v. Wal-Mart Stores, Inc., a trial commenced on September 24, 2007, in the First Judicial District Court for Dakota County, Minnesota, on the plaintiffs’ claims that class members worked off the clock and were not provided meal and rest breaks in accordance with Minnesota law.  Testimony concluded on December 11, 2007. On June 30, 2008, the trial judge issued an Order awarding the class approximately $6.5 million in compensatory and liquidated damages. The judge also set the plaintiffs’ claims for punitive damages and statutory penalties for trial on October 20, 2008, but invited the parties to seek an immediate appeal of the findings made thus far.  On July 29, the Company filed a petition with the Minnesota Court of Appeals requesting immediate appeal.  No ruling has been received.  The Company believes that it has substantial factual and legal defenses to the claims at issue. The Company cannot reasonably estimate the possible loss or range of loss that may arise from this litigation.

Another of the class-action lawsuits described above, Hale v. Wal-Mart Stores, Inc.,is scheduled for jury trial beginning on April 6, 2009, in the Circuit Court of Jackson County, Missouri. The plaintiffs allege that class members worked off the clock and were not provided meal and rest breaks in accordance with Missouri law, and seek monetary damages in an unspecified amount, plus interest and attorneys' fees. The trial court granted class certification in November 2005 and the certification was affirmed by the Missouri Court of Appeals in June 2007. The Company believes that it has substantial factual and legal defenses to the claims at issue. The Company cannot reasonably estimate the possible loss or range of loss that may arise from this litigation.

Another of the class-action lawsuits described above, Carter v. Wal-Mart Stores, Inc.,is scheduled for jury trial beginning in April 2009 in the Court of Common Pleas of Colleton County, South Carolina. The plaintiffs allege that class members worked off the clock and were not provided meal and rest breaks in accordance with South Carolina law, and seek monetary damages in an unspecified amount, plus statutory penalties, punitive damages, interest, and attorneys' fees. The trial court granted class certification in May 2005. The Company believes that it has substantial factual and legal defenses to the claims at issue. The Company cannot reasonably estimate the possible loss or range of loss that may arise from this litigation.

Exempt Status Cases: The Company is currently a defendant in four putative class actions in which the plaintiffs seek class certification of various groups of salaried managers and challenge their exempt status under state and federal laws. In one of those cases (Sepulveda v. Wal-Mart Stores, Inc.), class certification was denied by the trial court on May 5, 2006.  On April 25, 2008, a three-judge panel of the United States Court of Appeals for the Ninth Circuit affirmed the trial court’s ruling in part and reversed it in part, and remanded the case for further proceedings.  On May 16, 2008, the Company filed a petition seeking review of that ruling by a larger panel of the court. Class certification has not been addressed in the other cases. The Company cannot reasonably estimate the possible loss or range of loss that may arise from these lawsuits.

 

 

Gender Discrimination Cases:The Company is a defendant in Dukes v. Wal-Mart Stores, Inc., a class-action lawsuit commenced in June 2001 and pending in the United States District Court for the Northern District of California. The case was brought on behalf of all past and present female employees in all of the Company's retail stores and warehouse clubs in the United States. The complaint alleges that the Company has engaged in a pattern and practice of discriminating against women in promotions, pay, training and job assignments. The complaint seeks, among other things, injunctive relief, front pay, back pay, punitive damages and attorneys' fees. On June 21, 2004, the district court issued an order granting in part and denying in part the plaintiffs' motion for class certification. The class, which was certified by the district court for purposes of liability, injunctive and declaratory relief, punitive damages and lost pay, subject to certain exceptions, includes all women employed at any Wal-Mart domestic retail store at any time since December 26, 1998, who have been or may be subjected to the pay and management track promotions policies and practices challenged by the plaintiffs. The class as certified currently includes approximately 1.6 million present and former female associates.

The Company believes that the district court's ruling is incorrect. On August 31, 2004, the United States Court of Appeals for the Ninth Circuit granted the Company's petition for discretionary review of the ruling. On February 6, 2007, a divided three-judge panel of the Court of Appeals issued a decision affirming the district court’s certification order. On February 20, 2007, the Company filed a petition asking that the decision be reconsidered by a larger panel of the court. On December 11, 2007, the three-judge panel withdrew its opinion of February 6, 2007, and issued a revised opinion.  As a result, Wal-Mart's Petition for Rehearing En Banc was denied as moot.  Wal-Mart filed a new Petition for Rehearing En Banc on January 8, 2008. If the Company is not successful in its appeal of class certification, or an appellate court issues a ruling that allows for the certification of a class or classes with a different size or scope, and if there is a subsequent adverse verdict on the merits from which there is no successful appeal, or in the event of a negotiated settlement of the litigation, the resulting liability could be material to the Company's financial condition or results of operations. The plaintiffs also seek punitive damages which, if awarded, could result in the payment of additional amounts material to the Company's financial condition or results of operations. However, because of the uncertainty of the outcome of the appeal from the district court's certification decision, because of the uncertainty of the balance of the proceedings contemplated by the district court, and because the Company's liability, if any, arising from the litigation, including the size of any damages award if plaintiffs are successful in the litigation or any negotiated settlement, could vary widely, the Company cannot reasonably estimate the possible loss or range of loss that may arise from the litigation.

The Company is a defendant in a lawsuit that was filed by the Equal Employment Opportunity Commission (“EEOC”) on August 24, 2001, in the United States District Court for the Eastern District of Kentucky on behalf of Janice Smith and all other females who made application or transfer requests at the London, Kentucky, distribution center from 1998 to the present, and who were not hired or transferred into the warehouse positions for which they applied. The complaint alleges that the Company based hiring decisions on gender in violation of Title VII of the 1964 Civil Rights Act as amended. The EEOC can maintain this action as a class without certification. The EEOC seeks back pay and front pay for those females not selected for hire or transfer during the relevant time period, plus compensatory and punitive damages and injunctive relief. The EEOC has asserted that the hiring practices in question resulted in a shortfall of 245 positions.  The claims for compensatory and punitive damages are capped by statute at $300,000 per shortfall position. The amounts of back pay and front pay that are being sought have not been specified.

Hazardous Materials Investigations: On November 8, 2005, the Company received a grand jury subpoena from the United States Attorney's Office for the Central District of California, seeking documents and information relating to the Company's receipt, transportation, handling, identification, recycling, treatment, storage and disposal of certain merchandise that constitutes hazardous materials or hazardous waste. The Company has been informed by the U.S. Attorney's Office for the Central District of California that it is a target of a criminal investigation into potential violations of the Resource Conservation and Recovery Act (“RCRA”), the Clean Water Act and the Hazardous Materials Transportation Statute. This U.S. Attorney's Office contends, among other things, that the use of Company trucks to transport certain returned merchandise from the Company's stores to its return centers is prohibited by RCRA because those materials may be considered hazardous waste. The government alleges that, to comply with RCRA, the Company must ship from the store certain materials as “hazardous waste” directly to a certified disposal facility using a certified hazardous waste carrier. The Company contends that the practice of transporting returned merchandise to its return centers for subsequent disposition, including disposal by certified facilities, is compliant with applicable laws and regulations. While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

 

 

 

In March 2008, the FASB issued Statement of Financial Accounting Standards No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”).  SFAS 161 is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand the effects of the derivative instruments on an entity’s financial position, financial performance and cash flows.  The Company will adopt SFAS 161 on February 1, 2009. The Company is currently assessing the potential impact of SFAS 161 on its financial statements.

In May 2008, the FASB issued Statement of Financial Accounting Standards No. 162, “The Hierarchy of Generally Accepted Accounting Principles” (“SFAS 162”).  SFAS 162 identifies the sources of accounting principles and the framework for selecting the principles to be used in the preparation of financial statements of nongovernmental entities that are presented in conformity with generally accepted accounting principles.  SFAS 162 directs the hierarchy to the entity, rather than the independent auditors, as the entity is responsible for selecting accounting principles for financial statements that are presented in conformity with generally accepted accounting principles. SFAS 162 is effective 60 days following SEC approval of the Public Company Accounting Oversight Board amendments to remove the hierarchy of generally accepted accounting principles from the auditing standards. SFAS 162 is not expected to have an impact on our financial condition, results of operations or cash flows.

 

In June 2008, the FASB issued Staff Position EITF 03-06-1, "Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities" ("FSP EITF 03-06-1"). FSP EITF 03-06-1 provides that unvested share-based payment awards that contain nonforfeitable rights to dividends or dividend equivalents (whether paid or unpaid) are participating securities and shall be included in the computation of earnings per share pursuant to the two-class method in SFAS No. 128, "Earnings per Share". FSP EITF 03-06-1 is effective for fiscal years beginning after December 15, 2008, and interim periods within those years and requires all prior-period earnings per share data to be adjusted retrospectively. FSP EITF 03-06-1 is effective for the Company on February 1, 2009. The Company is currently assessing the potential impact of FSP EITF 03-06-1 on its financial statements.

 

 

As previously reported, in July 2006 the Company agreed to dispose of its German operations to Metro AG.  The Company reported the disposal as discontinued operations and recorded a loss of $863 million during the second quarter ended July 31, 2006.  An additional loss of $55 million on the disposal was recorded to discontinued operations in the third quarter of fiscal 2007 as a result of various closing adjustments.  In addition, the Company recognized a tax benefit of $126 million related to this transaction in the third quarter of fiscal 2007.  The Company also recorded a second quarter fiscal 2008 charge of $153 million to discontinued operations related to the settlement of a post-closing adjustment and certain other indemnification obligations associated with this disposition.

During fiscal 2009, the Company disposed of Gazeley, an ASDA commercial property development subsidiary in the United Kingdom.  Consequently, the results of operations associated with Gazeley are presented as discontinued operations in our Condensed Consolidated Statements of Income and Condensed Consolidated Balance Sheets for all periods presented.  The cash flows related to this operation were insignificant.  The Company has estimated the gain from the sale of Gazeley to be approximately $200 million, after tax, which is subject to further analysis of the investment basis and foreign currency translation gains; determination of the fair value of the reporting unit; and subject to any closing adjustments or indemnification obligations. The Company’s operations in the United Kingdom are consolidated using a December 31 fiscal year-end.  Since the sale of Gazeley closed in July 2008, the Company will record the gain to discontinued operations in the third quarter of fiscal 2009.

In addition, the Company recorded a $63 million benefit to discontinued operations for the three months ended July 31, 2008, from the successful resolution of a tax contingency related to McLane Company, Inc., a former Wal-Mart subsidiary.

 

 

 

    On August 5, 2008, the Company issued ¥25 billion of its Japanese Yen Bonds - First Series (2008), which bear interest at the rate of 1.72% per annum and mature on August 5, 2011, ¥25 billion of its Japanese Yen Bonds - Second Series (2008), which bear interest at the rate of 2.01% per annum and mature on August 5, 2013, and ¥50 billion of its Japanese Yen Floating Rate Bonds - First Series (2008), which bear interest at a per annum rate equal to the six-month London Interbank Offered Rate for deposits in Japanese yen (as applicable from interest period to interest period) plus 0.50 per cent and mature on August 5, 2013.  The bonds of each series are denominated and payable in Japanese yen and are designated as a hedge of the Company’s net investment in Japan.  Interest is payable on the bonds of each series on each February 5 and August 5 prior to maturity and on the maturity date, commencing on February 5, 2009.  The bonds of each series are senior, unsecured and unsubordinated obligations of Wal-Mart Stores, Inc.  Based on an exchange rate equal to the noon buying rate quoted by the Federal Reserve Bank of New York for August 5, 2008, which was $1.00 = ¥108.20, the United States dollar equivalent of the aggregate original principal amount of all such bonds was $924 million, the ¥25 billion original principal amount of the Japanese Yen Bonds - First Series (2008) was equivalent to $231 million, the ¥25 billion original principal amount of the Japanese Yen Bonds - Second Series (2008) was equivalent to $231 million, and the ¥50 billion original principal amount of the Japanese Yen Floating Rate Bonds - First Series (2008) was the equivalent of $462 million.

 

This discussion relates to Wal-Mart Stores, Inc. and its consolidated subsidiaries and should be read in conjunction with our condensed consolidated financial statements as of July 31, 2008, and the period then ended and accompanying notes included under Part I, Item 1, of this Quarterly Report on Form 10-Q, as well as our condensed consolidated financial statements as of January 31, 2008, and for the year then ended, and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations, both of which are contained in our Annual Report to Shareholders for the year ended January 31, 2008, and included as an exhibit to our Annual Report on Form 10-K for the year ended January 31, 2008.

We intend for this discussion to provide the reader with information that will assist in understanding our financial statements, the changes in certain key items in those financial statements from year to year, and the primary factors that accounted for those changes, as well as how certain accounting principles affect our financial statements. The discussion also provides information about the financial results of the various segments of our business to provide a better understanding of how those segments and their results affect the financial condition and results of operations of the Company as a whole.

Throughout this Management’s Discussion and Analysis of Financial Condition and Results of Operations, we discuss segment operating income and comparable store sales. Segment operating income refers to income from continuing operations before net interest expense, income taxes and minority interest and excludes unallocated corporate overhead.  At February 1, 2008, the Company reclassified certain unallocated corporate expenses to be included within each segment’s measurement of operating income. As a result, all prior year measurements of segment operating income have been restated for comparative purposes.

Comparable store sales is a measure which indicates the performance of our existing stores by measuring the growth in sales for such stores for a particular period over the corresponding period in the prior year.  Comparable store sales is also referred to as “same-store” sales by others within the retail industry. The method of calculating comparable store sales varies across the retail industry. As a result, our calculation of comparable store sales is not necessarily comparable to similarly titled measures reported by other companies.

During fiscal 2008, the Company reviewed its definition of comparable store sales for consistency with other retailers. For fiscal 2009, beginning February 1, 2008, the Company has revised its definition of comparable store sales to include sales from stores and clubs open for the previous 12 months, including remodels, relocations and expansions. Changes in store format continue to be excluded from comparable store sales when the conversion is accompanied by a relocation or by an expansion that results in a change in square footage of more than five percent. Since the impact of this revision is inconsequential, the Company did not restate comparable store sales results for previously reported fiscal periods.

 

 

 

Management uses a number of metrics to assess the Company’s performance including:

 

    Our total net sales increased by 10.4% and 10.3% for the three and six months ended July 31, 2008, respectively, when compared to corresponding periods in the prior year.  Those increases resulted from our global store expansion programs and comparable store sales increases.  Foreign currency exchange rates had a $1.1 billion and $2.4 billion favorable impact on the International segment’s net sales for the three and six months ended July 31, 2008, respectively.  For the three and six months ended July 31, 2007, foreign currency exchange rates had a favorable impact of $1.0 billion and $1.6 billion, respectively, on the International segment’s net sales.

 

    Comparable store sales in the United States, including fuel sales, increased 5.0% for the second quarter of fiscal 2009 compared to 2.0% for the second quarter of fiscal 2008.  For the six months ended July 31, 2008, comparable store sales in the United States, including fuel sales, increased 4.2% compared to 1.3% for the corresponding period in the prior year.  Comparable store sales in fiscal 2009 were higher than fiscal 2008 due to strength in grocery, health and wellness, and entertainment categories, as well as increases in customer traffic and average transaction size per customer.  The information regarding comparable store sales excluding fuel sales is included in the information above to permit investors to understand the effect of fuel sales on the comparable club sales for our Sam’s Club segment and comparable stores sales in the United States for the periods shown.

 

 

    Operating income growth compared to net sales growth is a meaningful metric to share with investors because it indicates how effectively we manage costs and leverage expenses.  Our objective is to grow operating income faster than net sales. For the second quarter of fiscal 2009, our operating income increased 9.7% when compared to the prior year, while net sales increased by 10.4% over the same period. For the individual segments, our Walmart U.S. segment met this target; however, our International and Sam’s Club segments did not.  The International segment fell short of this objective due to the impact of foreign currency exchange rate fluctuations.  For the Sam’s Club segment, the negative impact from growth in the lower-margin fuel business on gross profit as a percentage of segment net sales (our “gross margin”) contributed to falling short of this objective.

For the six months ended July 31, 2008, our operating income increased by 9.9% when compared to the prior year, while net sales increased by 10.3% over the same period.  For the individual segments, our Walmart U.S. segment met the target of growing operating income faster than net sales; however, our International and Sam’s Club segments did not.  The International segment fell short of this objective due to the impact of foreign currency fluctuations and accruals for certain legal matters. For the Sam’s Club segment, the negative impact from growth in the lower-margin fuel business in the current year period on the segment’s gross margin and the excise tax refund of $39 million recorded in the prior year contributed to falling short of this objective.

 

    Diluted earnings per share from continuing operations increased 14.7% for the three months ended July 31, 2008, compared to the prior year period as a result of a 9.3% increase in income from continuing operations and the impact of share repurchases reducing the number of weighted average shares outstanding.

Management believes return on investment (“ROI”) is a meaningful metric to share with investors because it helps investors assess how efficiently Wal-Mart is employing its assets. ROI was 19.3% for the twelve months ended July 31, 2008 and 2007.

We define free cash flow as net cash provided by operating activities in the period minus payments for property and equipment made in the period.  We generated positive free cash flow of $4.9 billion for the six months ended July 31, 2008, compared to a deficit of $773 million in the prior year.  The significant increase in our free cash flow is the result of our improved inventory management as well as reduced capital expenditures in connection with our planned slowing of store expansion in the United States.

Free cash flow is considered a non-GAAP financial measure under the SEC’s rules.  Management believes, however, that free cash flow is an important financial measure for use in evaluating the Company’s financial performance, which measures our ability to generate additional cash from our business operations. Free cash flow should be considered in addition to, rather than as a substitute for, net income as a measure of our performance and net cash provided by operating activities as a measure of our liquidity.

 

 

 

Additionally, our definition of free cash flow is limited, in that it does not represent residual cash flows available for discretionary expenditures due to the fact that the measure does not deduct the payments required for debt service and other contractual obligations.  Therefore, we believe it is important to view free cash flow as a measure that provides supplemental information to our entire statement of cash flows.

The following table reconciles net cash provided by operating activities, a GAAP measure, to free cash flow, a non-GAAP measure.

 

The following discussion of our Results of Operations is based on our continuing operations and excludes any results or discussion of our discontinued operations.

Our total net sales increased by 10.4% and 8.8% for the second quarter of fiscal 2009 and fiscal 2008, respectively, when compared to the previous year. Those increases resulted from our global store expansion programs and comparable store sales increases. During the second quarter of fiscal 2009 and 2008, foreign currency exchange rates had a $1.1 billion and $1.0 billion favorable impact, respectively, on the International segment’s net sales, which contributed to the increase in the International segment’s net sales as a percentage of total Company net sales.

Our gross margin increased from 23.3% for the second quarter of fiscal 2008 to 23.6% in the second quarter of fiscal 2009.  This increase is primarily due to lower inventory shrink and less markdown activity as a result of improved inventory management in our Walmart U.S. segment.  However, our Sam’s Club and International segments experienced declines in gross margin largely due to the negative impact of growth in the lower-margin fuel business.

Operating, selling, general and administrative expenses (“operating expenses”) as a percentage of net sales increased 0.3 percentage points compared to the corresponding period in fiscal 2008.  Operating expenses for the three months ended July 31, 2007, were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $298 million before tax, partially offset by pre-tax charges of $100 million for certain legal and other contingencies. The net favorable impact of these items reduced our operating expenses as a percentage of net sales in fiscal 2008 by 0.2 percentage points. Otherwise, operating expenses as a percentage of net sales increased in the second quarter of fiscal 2009 primarily due to higher bonus expenses for store associates and increased corporate expenses compared to the corresponding quarter in fiscal 2008.  Corporate expenses have increased primarily due to our long-term transformation projects to enhance our information systems for merchandising, finance and human resources. We expect these increased expenses from the transformation projects to continue for the foreseeable future.

Membership and other income, which includes a variety of income categories such as Sam’s Club membership fee revenues, tenant lease, financial services and recycling income, increased 5.9% in the second quarter of fiscal 2009 from the prior year quarter due to continued growth in our financial services area and increases in recycling income resulting from our sustainability efforts.  Membership and other income for the second quarter of fiscal 2008 includes recognition of $63 million in pre-tax gains from the sale of certain real estate properties.

Interest, net, increased 12.9% in the second quarter of fiscal 2009 when compared with the same period last year largely due to higher borrowing levels during the three months ended July 31, 2008, partially offset by lower short-term interest rates.

Our effective income tax rate from continuing operations decreased from 34.4% for the second quarter of fiscal 2008 to 34.2% for the second quarter of fiscal 2009, due to changes in the mix of taxable income among our domestic and international operations.

Our total net sales increased by 10.3% and 8.6% for the six months ended July 31, 2008 and 2007, respectively. Those increases resulted from our global store expansion programs and comparable store sales increases. During the first six months of fiscal 2009 and 2008, foreign currency exchange rates had a $2.4 billion and $1.6 billion favorable impact, respectively, on the International segment’s net sales, which contributed to the increase in the International segment’s net sales as a percentage of total Company net sales.

Our gross margin increased from 23.4% for the six months ended July 31, 2007 to 23.6% in the six months ended July 31, 2008.  This increase is primarily due to lower inventory shrink and less markdown activity as a result of improved inventory management in our Walmart U.S. segment.  The effect of these benefits in comparison to the prior year period was partially offset by the $97 million excise tax refund recorded in the six months ended July 31, 2007.

Operating expenses as a percentage of net sales increased 0.3 percentage points compared to the corresponding period in fiscal 2008.  Operating expenses for the six months ended July 31, 2007, were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $298 million before tax, partially offset by pre-tax charges of $183 million for certain legal and other contingencies. The net favorable impact of these items reduced our operating expenses as a percentage of net sales in the comparable fiscal 2008 period by 0.1 percentage points. Otherwise, operating expenses as a percentage of net sales increased in the six months ended July 31, 2008, primarily due to higher bonus expenses for store associates and increased corporate expenses compared to the corresponding period in fiscal 2008.  Corporate expenses have increased primarily due to our long-term transformation projects to enhance our information systems for merchandising, finance and human resources. We expect these increased expenses from the transformation projects to continue for the foreseeable future.

Membership and other income increased 12.1% for the first six months of fiscal 2009 from the prior year due to continued growth in our financial services area and increases in recycling income resulting from our sustainability efforts.  Membership and other income for the six months ended July 31, 2007, includes recognition of $63 million in pre-tax gains from the sale of certain real estate properties.

Interest, net, increased 19.9% in the first six months of fiscal 2009 when compared with the same period last year largely due to higher borrowing levels during the six months ended July 31, 2008, partially offset by lower short-term interest rates.

Our effective income tax rate from continuing operations decreased from 34.5% for the first six months of fiscal 2008 to 34.4% for same period in the current year, due to changes in the mix of taxable income among our domestic and international operations.

The net sales increase for the Walmart U.S. segment in the second quarter of fiscal 2009 resulted from our continued expansion activities, strength in the grocery, health and wellness, and entertainment categories and a comparable store sales increase of 4.6%. Comparable store sales for the second quarter of fiscal 2009 increased primarily due to an increase in average transaction size per customer as well as an increase in customer traffic in our comparable stores.

Gross margin increased 0.6 percentage points during the second quarter of fiscal 2009 due to lower inventory shrink and less markdown activity as a result of improved inventory management.

 

 

 

Operating expenses as a percentage of segment net sales for the second quarter of fiscal 2009 increased 0.3 percentage points compared to the corresponding period in fiscal 2008. Operating expenses for the second quarter of fiscal 2008 were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $274 million pre-tax, partially offset by $72 million in pre-tax charges for certain legal and other contingencies. The net favorable impact of these items reduced our operating expenses as a percentage of segment net sales in fiscal 2008 by 0.3 percentage points. Otherwise, operating expenses as a percentage of segment net sales were comparable with the prior year.

Other income for the three months ended July 31, 2008, decreased from the prior year’s quarter due to the recognition of $63 million in pre-tax gains from the sale of certain real estate properties recorded in the prior year.  Otherwise, other income increased as a result of continued growth in our financial services area and increases in recycling income.

    The net sales increase for the Walmart U.S. segment in the first six months of fiscal 2009 resulted from our continued expansion activities, strength in the grocery, health and wellness, and entertainment categories and a comparable store sales increase of 3.7%. Comparable store sales for the first half of fiscal 2009 increased primarily due to an increase in average transaction size per customer, as well as an increase in customer traffic in our comparable stores.

Gross margin increased 0.4 percentage points for the first six months of fiscal 2009 due to lower inventory shrink and less markdown activity as a result of improved inventory management, partially offset by the $46 million excise tax refund recorded in the first six months of fiscal 2008.

Operating expenses as a percentage of segment net sales for the six months ended July 31, 2008, increased 0.3 percentage points compared to the corresponding period in fiscal 2008. Operating expenses for the first six months of fiscal 2008 were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $274 million, partially offset by pre-tax charges of $145 million for certain legal and other contingencies. The net favorable impact of these items reduced our operating expenses as a percentage of segment net sales in fiscal 2008 by 0.1 percentage points. Otherwise, operating expenses as a percentage of segment net sales in the first six months of fiscal 2009 increased primarily due to higher bonus expenses for store associates and increased utilities expenses when compared to the corresponding period in fiscal 2008.

Other income increased for the first six months of fiscal 2009 from the prior year period due to continued growth in our financial services area and increases in recycling income resulting from our sustainability efforts.  Other income for the six months ended July 31, 2007, includes recognition of $63 million in pre-tax gains from the sale of certain real estate properties.

 

At July 31, 2008, our International segment was comprised of wholly-owned operations in Argentina, Brazil, Canada, Japan, Puerto Rico and the United Kingdom, the operation of joint ventures in China and India and the operations of majority-owned subsidiaries in Central America and Mexico.

 

 

 

The second quarter fiscal 2009 increase in the International segment’s net sales primarily resulted from net sales growth from existing units, our international expansion program and the favorable impact of changes in foreign currency exchange rates of $1.1 billion during second quarter fiscal 2009.

 

In second quarter fiscal 2009, gross margin was down 0.1 percentage point due to the growth in lower-margin fuel sales in the United Kingdom and the transition to the every day low pricing strategy in our stores in Japan.

 

Operating expenses as a percentage of segment net sales were relatively consistent with the second quarter of fiscal 2008 largely due to strong underlying improvements in the United Kingdom, Japan, Brazil and China, partially offset by accruals for certain legal matters.

 

Other income as a percentage of segment net sales increased 0.1 percentage point for the three months ended July 31, 2008, compared to the prior year due to the sale of certain real estate properties in Canada.

 

Operating income for the three months ended July 31, 2008, was favorably impacted by changes in foreign currency exchange rates of $41 million.

 

The increase in the International segment’s net sales during the first six months of fiscal 2009 resulted primarily from net sales growth from existing units, our international expansion program and the favorable impact of changes in foreign currency exchange rates of $2.4 billion during the first six months of fiscal 2009.

 

In the first half of fiscal 2009, gross margin decreased 0.1 percentage point due to the growth in lower-margin fuel sales in the United Kingdom and the transition to the every day low pricing strategy in our stores in Japan.

 

Operating expenses as a percentage of segment net sales were relatively consistent with the corresponding period in the prior year largely due to strong underlying improvements in the United Kingdom, Canada, Brazil and Mexico, partially offset by accruals for certain legal matters.

 

Other income as a percentage of segment net sales increased 0.1 percentage point for the six months ended July 31, 2008, compared to the prior year period due to the sale of certain real estate properties in Canada.

 

Operating income for the six months ended July 31, 2008, was favorably impacted by changes in foreign currency exchange rates of $87 million.

 

 

Growth in net sales for the Sam’s Club segment in the second quarter of fiscal 2009 resulted from a comparable club sales increase of 7.2% in the second quarter of fiscal 2009 and continued expansion activities. Comparable club sales in the second quarter of fiscal 2009 increased primarily due to higher growth rates in food and consumables, as well as an increase in both member traffic and average transaction size. In addition, fuel sales had a positive impact of 3.5 percentage points on comparable club sales in the second quarter of fiscal 2009.

Gross margin decreased 0.2 percentage points during the second quarter of fiscal 2009 primarily due to the negative impact on gross margin from growth in the lower-margin fuel business.

Operating expenses as a percentage of segment net sales increased slightly in the second quarter of fiscal 2009 compared to the second quarter of fiscal 2008.  Operating expenses for the three months ended July 31, 2007, were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $21 million, partially offset by pre-tax charges of $5 million for certain legal contingencies.  Otherwise, operating expenses as a percentage of segment net sales decreased compared to the prior year quarter.

Membership and other income, which includes membership, recycling, tenant lease, financial services and a variety of other income categories, increased in the second quarter of fiscal 2009. Membership income, which is recognized over the term of the membership, was consistent with the prior year quarter.

Growth in net sales for the Sam’s Club segment for the first half of fiscal 2009 resulted from a comparable club sales increase of 6.9% for the first half of fiscal 2009 and continued expansion activities. Comparable club sales for the first half of fiscal 2009 increased primarily due to higher growth rates in food and consumables, as well as an increase in both member traffic and average transaction size. In addition, fuel sales had a positive impact of 3.2 percentage points on comparable club sales in the first six months of fiscal 2009.

Gross margin decreased 0.2 percentage points during the first half of fiscal 2009 due to the negative impact on gross margin from growth in the lower-margin fuel business and the $39 million excise tax refund recorded in the first six months of fiscal 2008.

Operating expenses as a percentage of segment net sales decreased for the first half of fiscal 2009 when compared to the first half of fiscal 2008 primarily due to lower property tax expenses in the current year.  In addition, operating expenses for the six months ended July 31, 2007, were favorably affected by the change in estimated losses associated with our general liability and workers’ compensation claims, which reduced accrued liabilities for such claims by $21 million, partially offset by pre-tax charges of $15 million for certain legal contingencies.  Otherwise, operating expenses as a percentage of segment net sales were comparable with the prior year period.

 

 

Membership and other income, which includes membership, recycling, tenant lease, financial services and a variety of other income categories, increased in the first six months of fiscal 2009. Membership income, which is recognized over the term of the membership, increased slightly for the first half of fiscal 2009.

Cash flows provided by operating activities supply us with a significant source of liquidity. The increase in cash flows provided by operating activities for the six months ended July 31, 2008, was primarily attributable to increased net income and improved inventory management. Selected cash flow data for the six month periods ended July 31, 2008 and 2007 and current assets and liabilities for the periods then ended, are as follows:

In June 2008, the Company revised its capital expenditure forecast for the current fiscal year ending January 31, 2009.  Capital expenditures for fiscal year 2009 are expected to fall within a range of $13.0 billion to $14.0 billion.

 

 

 

Current liabilities exceeded current assets at July 31, 2008, by $5.4 billion, an improvement of $5.5 billion from January 31, 2008. Our ratio of current assets to current liabilities was 0.9 at July 31, 2008, and 0.8 at July 31, 2007 and at January 31, 2008.  We generally have a working capital deficit due to our efficient use of cash in funding operations and in providing returns to shareholders in the form of share repurchases and payment of dividends.

From time to time, we have repurchased shares of our common stock under a $15.0 billion share repurchase program authorized by our Board of Directors on May 31, 2007.  Under the share repurchase program, there is no expiration date or other restriction limiting the period over which we can make our share repurchases under the program, which will expire only when and if we have repurchased $15.0 billion of our shares under the program.  Any repurchased shares are constructively retired and returned to unissued status. We consider several factors in determining when to execute the share repurchases, including among other things, our current cash needs, our capacity for leverage, our cost of borrowings and the market price of our common stock.  At July 31, 2008, approximately $6.3 billion remained of the $15.0 billion authorization.

Management believes that cash flows from operations and proceeds from the sale of commercial paper will be sufficient to finance seasonal buildups in merchandise inventories and meet other cash requirements. If our operating cash flows are not sufficient to pay dividends and to fund our capital expenditures, we anticipate compensating for any shortfall in funding these expenditures with a combination of commercial paper and long-term debt. We plan to refinance existing long-term debt as it matures and may desire to obtain additional long-term financing for other corporate purposes. We anticipate no difficulty in obtaining long-term financing in view of our credit rating and favorable experiences in the debt market in the recent past.

To monitor our credit rating and our capacity for long-term financing, we consider various qualitative and quantitative factors.  We monitor the ratio of our debt to total capitalization as support for our long-term financing decisions.  At July 31, 2008 and 2007 and January 31, 2008, the ratio of our debt to total capitalization was approximately 40.0%, 40.9% and 40.9%, respectively.  For the purpose of this calculation, debt is defined as the sum of commercial paper, long-term debt due within one year, obligations under capital leases due within one year, long-term debt and long-term obligations under capital leases. Total capitalization is defined as debt plus shareholders' equity.  Our ratio of debt to our total capitalization decreased in the second quarter of fiscal 2009 due to lower commercial paper outstanding and the increase to our total shareholders’ equity resulting from a 12.0% increase in net income for the six months ended July 31, 2008, compared to the corresponding period in the prior year.

We also use the ratio of adjusted cash flow from operations to adjusted average debt as a metric to review leverage.  Adjusted cash flow from operations, the numerator in the calculation, is defined as net cash provided by operating activities of continuing operations plus two-thirds of operating rent expense less capitalized interest expense for the trailing twelve months. Adjusted average debt, the denominator in the calculation, is defined as average debt plus eight times average operating rent expense. Average debt is the simple average of beginning and ending commercial paper, long-term debt due within one year, obligations under capital leases due within one year, long-term debt and long-term obligations under capital leases. Average operating rent expense is the simple average of operating rent expense over the current and prior twelve month periods. We believe this metric is useful to investors as it provides them with a tool to measure our leverage.  This metric was 44% and 39% for the twelve months ended July 31, 2008 and 2007, respectively. The increase in the metric is primarily due to the increase in net cash flow from continuing operations.

The ratio of adjusted cash flow to adjusted average debt is considered a non-GAAP financial measure under the SEC’s rules.   The most recognized directly comparable GAAP measure is the ratio of net cash flow provided by operating activities of continuing operations for the current year to average total debt (which excludes any effect of operating leases or capitalized interest), which was 55% and 47% for the twelve months ended July 31, 2008 and 2007, respectively.

A detailed calculation of the adjusted cash flow from operations to adjusted average debt is set forth below along with a reconciliation to the corresponding measurement calculated in accordance with generally accepted accounting principles.

 

In April 2008, the Company issued $1.0 billion of 4.250% Notes Due 2013 and $1.5 billion of 6.200% Notes Due 2038.   Beginning on October 15, 2008, the Company will pay interest on the notes of each series on April 15 and October 15 of each year. Interest started accruing on such notes on April 15, 2008. The 2013 notes will mature on April 15, 2013 and the 2038 notes will mature on April 15, 2038. The notes of each such series are senior, unsecured and unsubordinated obligations of Wal-Mart Stores, Inc.

In May 2008, Wal-Mart Stores, Inc. entered into a term loan facility with a syndicate of banks.  Pursuant to that facility, the Company borrowed ¥220 billion to refinance outstanding debt of its wholly-owned subsidiary, The Seiyu, Ltd., that was scheduled to mature in December, 2008.  Borrowings under such facility are senior, unsecured obligations of Wal-Mart Stores, Inc. and generally bear interest at a floating rate equal to the one, three or six month London Interbank Offered Rate plus a spread of 0.35%.  Such debt matures on June 26, 2011.  The amount of such debt in United States dollars as reflected on the Company’s Condensed Consolidated Balance Sheets at July 31, 2008 was approximately $2.1 billion.  The facility is designated as a hedge of the Company’s net investment in Japan.

 

    Market risks relating to our operations result primarily from changes in interest rates and changes in currency exchange rates. Our market risks at July 31, 2008 are similar to those disclosed in our Form 10-K for the year ended January 31, 2008.

 

 

We maintain a system of disclosure controls and procedures that are designed to provide reasonable assurance that information, which is required to be timely disclosed, is accumulated and communicated to management in a timely fashion.  In designing and evaluating such controls and procedures, we recognize that any controls and procedures, no matter how well designed and operated, can provide only reasonable assurance of achieving the desired control objectives. Our management is necessarily required to use judgment in evaluating controls and procedures. Also, we have had investments in certain unconsolidated entities. Because we did not control or manage those entities, our controls and procedures with respect to those entities were substantially more limited than those we maintain with respect to our consolidated subsidiaries.

In the ordinary course of business, we review our system of internal control over financial reporting and make changes to our systems and processes to improve controls and increase efficiency, while ensuring that we maintain an effective internal control environment. Changes may include such activities as implementing new, more efficient systems and automating manual processes.

An evaluation of the effectiveness of the design and operation of our disclosure controls and procedures was performed as of the end of the period covered by this report. This evaluation was performed under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer. Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that our disclosure controls are effective to provide reasonable assurance that information required to be disclosed by the Company in the reports that it files or submits under the Securities Exchange Act of 1934 is accumulated and communicated to management, including our Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure and are effective to provide reasonable assurance that such information is recorded, processed, summarized and reported within the time periods specified by the SEC’s rules and forms.

There has been no change in our internal control over financial reporting that occurred during the quarter covered by this report that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

I. SUPPLEMENTAL INFORMATION:We discuss certain legal proceedings pending against us in Part I of this Quarterly Report on Form 10-Q under the caption “Item 1. Financial Statements,” in Note 10 to our condensed consolidated financial statements, which is captioned “Legal Proceedings,” and refer you to that discussion for important information concerning those legal proceedings, including the basis for such actions and, where known, the relief sought. We provide the following additional information concerning those legal proceedings which sets forth the name of the lawsuit, the court in which the lawsuit is pending and the date on which the petition commencing the lawsuit was filed. In each lawsuit's name, the letters “WM” refer to Wal-Mart Stores, Inc.

Wage-and-Hour Class Actions: Adcox v. WM, US Dist. Ct. (“USDC”), Southern Dist. of TX, 11/9/04; Alix (f/k/a Gamble) v. WM, Supreme Ct. of the State of NY, County of Albany, 12/7/01; Armijo v. WM, 1st Judicial Dist. Ct., Rio Arriba County, NM, 9/18/00; Bailey v. WM, Marion County Superior Ct. IN, 8/17/00;Barnett v. WM, Superior Ct. of WA, King County, 9/10/01; Basco v. WM, USDC, Eastern Dist. of LA, 9/5/00; Bayardo v. WM, USDC, Dist. of NV, 3/19/07; Blackstock v. WM, State Ct. of Chatham County, GA, 4/27/06; Braun v. WM, 1st Judicial Dist. Ct. Dakota County MN, 9/12/01; Braun/Hummel v. WM, Ct. of Common Pleas, Philadelphia County, PA, 3/20/02 / 8/30/04; Brogan v. WM , Superior Ct. of NH, Strafford County, 2/17/05; Brogan v. WM, USDC, Southern Dist. of WV, 4/3/07; Brown v. WM, 14th Judicial Circuit Ct., Rock Island, IL, 6/20/01; Brown v. WM, USDC, Eastern Dist. of NY, 4/5/07; Campbell v. WM, USDC, Dist. of NV, 9/20/06; Carter v. WM, Ct. of Common Pleas, Colleton County, SC, 7/31/02; Cole v. WM, USDC, Dist. of MT, Central Div., 1/13/06;Connatser v. WM, USDC, Western Dist. of TN, 4/4/07; Curless v. WM, USDC, Dist. of WY, 10/26/05; Deas v. WM, USDC, Eastern Dist. of VA, 4/3/06; Evans v. WM,  USDC, Dist. of SC, 01/9/07; Gilles v. WM, USDC, Southern Dist. of IN, 3/31/06; Green v. WM,  USDC, S. Dist. of FL, 11/6/06; Grey v. WM, USDC, Dist. of KS, 7/14/06; Gross v. WM, Circuit Ct., Laurel County, KY, 9/29/04; Hale v. WM, Circuit Ct., Jackson County, MO, 8/15/01;Hall v. WM, USDC, Dist. of NV, 8/12/05; Henderson v. WM, USDC, Dist. of NV, 12/6/06; Hicks v. WM, USDC, Eastern Dist. of TX, 4/3/07; Holcomb v. WM, State Ct. of Chatham County, GA, 3/28/00;Husidic v. WM, USDC, Southern Dist. of IA, 9/14/06; Iliadis v. WM, Superior Ct. of NJ, Middlesex County, 5/30/02; Jackson v. WM, Superior Ct. of DE, New Castle County, 4/4/05; Jackson v. WM, USDC, Dist. of ID, 2/3/06; King v. WM, USDC, Eastern Dist. of PA, 4/13/07; Kraemer v. WM, USDC, Dist. of ND, 11/15/06; Kuhlmann v. WM, Circuit Ct., Milwaukee County, WI, 8/30/01; Lerma v. WM, Dist. Ct., Cleveland County, OK, 8/31/01; Lopez v. WM, 23rd Judicial Dist. Ct. of Brazoria County, TX, 6/23/00; Luce v. WM, Circuit Ct., Brown County, SD, 5/11/05; Mathies v. WM, USDC, Dist. of OR, 3/30/07; McFarlin v. WM, Superior Ct. of AK at Anchorage, 4/7/05; Montgomery v. WM, USDC, Southern Dist. of MS, 12/30/02; Moore v. WM, USDC, Dist. of OR, 12/7/05; Mussman v. WM, IA Dist. Ct., Clinton County, 6/5/01; Nagy v. WM, Circuit Ct. of Boyd County, KY, 8/29/01;Nolan v. WM, USDC, Northern Dist. of OH, Eastern Div., 4/4/06; Olinger v. WM, USDC, Eastern Dist. of MI, 9/14/06; Parrish v. WM, Superior Ct., Chatham County, GA, 2/17/05; Pedro v. WM, USDC, Dist. of MA, 4/4/07; Penn v. WM, USDC, Eastern Dist. of LA, 9/15/06; Phelps v. WM, USDC, Southern Dist. of IL, 4/4/07; Pickett v. WM, Circuit

 

 

Court, Shelby County, TN, 10/22/03;Poha v. WM, USDC, Dist. of HI, 11/1/05; Pritchett v. WM, Circuit Ct. of Jefferson County, AL, 2/17/05; Richardson v. WM, USDC, Dist. of NV, 4/4/07; Robinson v. WM, USDC, Southern Dist. of MS, 3/5/07; Salvas v. WM, Superior Ct., Middlesex County, MA, 8/21/01;Sarda v. WM, Circuit Ct., Washington County, FL, 9/21/01; Savaglio v. WM, Superior Ct. of CA, Alameda County, 2/6/01;Scott v. WM, Circuit Ct. of Saginaw County, MI, 9/26/01; Smith/Ballard v. WM, USDC, Northern Dist. of CA, 3/16/06;Smith v. WM, USDC, Western Dist. of WI, 4/2/07; Stafford v. WM, USDC, Dist. of NE, 12/8/05; Whitacre v. WM, USDC, Dist. of NV, 6/15/07; Willey v. WM, Dist. Ct. of Wyandotte County, KS, 9/21/01;Williams v. WM, Superior Ct. of CA, Alameda County, 3/23/04; Williams v. WM, USDC, Dist of UT, Central Div., 1/20/06;Williams v. WM, USDC, Western Dist. of NC, 3/23/06; Winters v. WM, Circuit Ct., Holmes County, MS, 5/28/02;Woods v. WM, USDC, Dist. of ME, 1/12/06; Works v. WM, Circuit Ct., Miller County, AR, 5/18/05.

Exempt Status Cases: Salvador v. WM and Sam’s West, Inc., USDC, Central Dist. of CA, Western Div., 12/22/05; Sepulveda v. WM, USDC, Central Dist. of CA, Western Div., 1/14/04; Matlock v. WM and Claims Management, Inc., USDC, Northern Dist. of TX, 8/7/07; Patel v. WM., USDC, Middle Dist. of AL, 5/6/08.

Gender Discrimination Cases:Dukes v. WM, USDC, Northern Dist. of CA, San Francisco Div., 6/19/01; 9th Circuit Ct. of Appeals, San Francisco, CA, 8/26/04; EEOC (Smith) v. WM, USDC, Eastern Dist. of KY, London Div., 8/31/01.

II. ENVIRONMENTAL MATTERS:Item 103 of SEC Regulation S-K requires disclosure of certain environmental matters. The following matters are disclosed in accordance with that requirement:

The District Attorney for Solano County, California, has alleged that the Company's store in Vacaville, California, failed to comply with certain California statutes regulating hazardous waste and hazardous materials handling practices. Specifically, the County is alleging that the Company improperly disposed of a limited amount of damaged or returned product containing dry granular fertilizer and pesticides on or about April 3, 2002. The parties are currently negotiating toward a resolution of this matter.  While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

The District Attorney for Orange County, California, has alleged that the Company's store in Foothill Ranch, California, failed to comply with certain California statutes regulating hazardous waste and hazardous materials handling practices. Specifically, the County is alleging that the Company improperly disposed of a limited amount of damaged product containing dry granular pesticide on or about January 24, 2005. The parties are currently negotiating toward a resolution of this matter.  While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

The U.S. Environmental Protection Agency (“EPA”) approached a grocery industry group to resolve issues relating to refrigerant-handling practices and to reduce the use of ozone-depleting refrigerants in refrigeration equipment.  The Company then approached the EPA independently to address these issues, and proposed a plan for removing ozone-depleting refrigerants from certain types of refrigeration equipment.  The parties are currently negotiating a resolution of this matter.  While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

On February 1, 2007, the Company received from the EPA a request pursuant to Section 114(a) of the Federal Clean Air Act seeking detailed information regarding all non-essential products containing ozone-depleting substances including products such as Loony String which the Company may have sold or distributed since January 1, 2002.  On March 8, 2007, the EPA issued a revised request for information in which it limited its request to string products including Loony String, Silly String and Fiesta String, and covering the period from 2004 to the present.  The Company submitted an initial response to the EPA on May 8, 2007, and is continuing to gather the requested information.  The Company is cooperating fully with the EPA regarding this matter.  While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

In January 2007, Wal-Mart Puerto Rico, Inc. became aware that the U.S. Army Corps of Engineers (“USACE”) was concerned about alleged violations of a permit issued by that agency in 2003, for the fill of 0.23 acres of a creek and its contiguous wetlands during the construction of the Wal-Mart Store in Caguas, Puerto Rico. On January 19, 2007, Wal-Mart Puerto Rico responded to these issues in writing. On January 25, 2007, the USACE issued a formal Notice of Non-Compliance to Wal-Mart Puerto Rico regarding this matter. Wal-Mart Puerto Rico filed a formal response and is currently implementing mitigation measures and working with the USACE to resolve the matter.  While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

 

 

On November 8, 2005, the Company received a grand jury subpoena from the United States Attorney's Office for the Central District of California, seeking documents and information relating to the Company's receipt, transportation, handling, identification, recycling, treatment, storage and disposal of certain merchandise that constitutes hazardous materials or hazardous waste. The Company has been informed by the U.S. Attorney's Office for the Central District of California that it is a target of a criminal investigation into potential violations of the Resource Conservation and Recovery Act (“RCRA”), the Clean Water Act and the Hazardous Materials Transportation Statute. This U.S. Attorney's Office contends, among other things, that the use of Company trucks to transport certain returned merchandise from the Company's stores to its return centers is prohibited by RCRA because those materials may be considered hazardous waste. The government alleges that, to comply with RCRA, the Company must ship from the store certain materials as “hazardous waste” directly to a certified disposal facility using a certified hazardous waste carrier. The Company contends that the practice of transporting returned merchandise to its return centers for subsequent disposition, including disposal by certified facilities, is compliant with applicable laws and regulations. While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

Additionally, the U.S. Attorney's Office in the Northern District of California has initiated its own investigation regarding the Company's handling of hazardous materials and hazardous waste and the Company has received administrative document requests from the California Department of Toxic Substances Control requesting documents and information with respect to two of the Company's distribution facilities. Further, the Company also received a subpoena from the Los Angeles County District Attorney's Office for documents and administrative interrogatories requesting information, among other things, regarding the Company's handling of materials and hazardous waste. California state and local government authorities and the State of Nevada have also initiated investigations into these matters. The Company is cooperating fully with the respective authorities. While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

On March 28, 2008, the Company received a Notice of Violation from the Missouri Department of Natural Resources (“Department”) alleging various violations of Missouri hazardous waste laws and regulations in connection with the activities of a third-party contractor with whom the Company had contracted for recycling services. The Department alleges that the Company provided certain items to the contractor for recycling that should have been managed as hazardous waste. The U. S. Environmental Protection Agency ("EPA") has inspected the contractor's facilities, and both the EPA and the U.S. Attorney’s Office for the Western District of Missouri are conducting investigations. The Company has submitted a response to the Notice of Violation and is cooperating with these authorities. While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

The Company has received a Notice of Probable Violation from the U.S. Department of Transportation's Pipeline and Hazardous Materials Safety Administration (the “Administration”) dated May 29, 2008, in connection with certain shipments of batteries that were made during October and November 2006. The Administration alleges failure to maintain appropriate records; failure to mark packages correctly; failure to package batteries with protection to prevent short circuits; and failure to provide proper training for employees. The Company is cooperating with the Administration in this matter. While management cannot predict the ultimate outcome of this matter, management does not believe the outcome will have a material effect on the Company’s financial condition or results of operations.

 

 

The risks described in Item 1A, Risk Factors, in our Annual Report on Form 10-K for the year ended January 31, 2008, could materially and adversely affect our business, financial condition and results of operations. The risk factors discussed in that Form 10-K do not identify all risks that we face because our business operations could also be affected by additional factors that are not presently known to us or that we currently consider to be immaterial to our operations.

 

From time to time, we repurchase shares of our common stock under a $15.0 billion share repurchase program authorized by our Board of Directors on May 31, 2007, and publicly announced on June 1, 2007.  This program does not have any expiration date.  Share repurchase activity for the second quarter of fiscal 2009 was as follows: