Item 2. Management’s Discussion and Analysis
ITEM 2.
MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.
General
This discussion and analysis is based on, should be read with, and is qualified in its entirety by, the accompanying unaudited condensed consolidated financial statements and related notes, as well as our consolidated financial statements and the related Management’s Discussion and Analysis of Financial Condition and Results of Operations as contained in our Annual Report on Form 10-K for the fiscal year ended February 3, 2023. It also should be read in conjunction with the disclosure under “Cautionary Disclosure Regarding Forward-Looking Statements” in this report.
Executive Overview
We are the largest discount retailer in the United States by number of stores, with 19,488 stores located in 47 U.S. states and Mexico as of August 4, 2023, with the greatest concentration of stores in the southern, southwestern, midwestern and eastern United States. Our first store in Mexico opened in February 2023. We offer a broad selection of merchandise, including consumable products such as food, paper and cleaning products, health and beauty products and pet supplies, and non-consumable products such as seasonal merchandise, home decor and domestics, and basic apparel. Our merchandise includes national brands from leading manufacturers, as well as our own private brand selections with prices at substantial discounts to national brands. We offer our customers these national brand and private brand products at everyday low prices (typically $10 or less) in our convenient small-box locations.
We believe our convenient store formats, locations, and broad selection of high-quality products at compelling values have driven our substantial growth and financial success over the years and through a variety of economic cycles. We are mindful that the majority of our customers are value-conscious, and many have low and/or fixed incomes. As a result, we are intensely focused on helping our customers make the most of their spending dollars. Our core customers are often among the first to be affected by negative or uncertain economic conditions and among the last to feel the effects of improving economic conditions, particularly when trends are inconsistent and of an uncertain duration. The primary macroeconomic factors that affect our core customers include unemployment and underemployment rates, wage growth, changes in U.S. and global trade policy, impacts resulting from changes in U.S. government policy, and changes to certain government assistance programs (including cost of living adjustments), such as the Supplemental Nutrition Assistance Program (“SNAP”), unemployment benefits, and economic stimulus programs. In particular, our customers were impacted in the first quarter of 2023 by the elimination of the emergency allotment of SNAP benefits and lower tax refunds resulting from the elimination of COVID-related stimulus programs, and they have continued to be pressured by the impact of these events and the overall macroeconomic environment. Additionally, our customers are impacted by increases in those expenses that generally comprise a large portion of their household budgets, such as rent, healthcare, energy and fuel prices, as well as cost inflation in frequently purchased household products (including food), such as that which we have continued to experience, albeit at moderating levels, as further discussed below. Finally, significant unseasonable or unusual weather patterns or extreme weather can impact customer shopping behaviors.
We introduced an updated strategic framework in 2023 that is intended to sharpen our strategic focus in four keyways: 1) winning in rural, 2) extending our reach, 3) fueling our growth, and 4) being people powered. We call this strategy “DG Forward,” and it is focused on the combination of execution and innovation. Underlying this framework are our long-term operating priorities, which include: 1) driving profitable sales growth, 2) capturing growth opportunities, 3) enhancing our position as a low-cost operator, and 4) investing in our diverse teams through development, empowerment and inclusion.
We seek to drive profitable sales growth through initiatives aimed at increasing customer traffic and average transaction amount. As we work to provide everyday low prices and meet our customers’ affordability needs, we remain focused on enhancing our margins through pricing and markdown optimization, effective category management, distribution and transportation efficiencies, private brands penetration, global sourcing, and inventory shrink and damage reduction initiatives. Several of our strategic and other sales-driving initiatives are also designed to capture growth opportunities and are discussed in more detail below.
During the second half of 2022, we experienced higher inventory damages and shrink than we anticipated, which we believe was due primarily to the challenging macroeconomic environment, materially higher inventory levels,
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and, as to damages, Winter Storm Elliott in December. In addition, we believe some portion of the increase in damages was a residual impact of the warehouse capacity constraints and associated store and supply chain inefficiencies we faced during that time period. We continued to experience both higher shrink and inventory damages in the first half of 2023 and anticipate shrink will continue to pressure our results through the duration of 2023, primarily due to higher inventory levels.
Historically, sales in our consumables category, which tend to have lower gross margins, have been the key drivers of net sales and customer traffic, while sales in our non-consumables categories, which tend to have higher gross margins, have contributed to more profitable sales growth and an increase in average transaction amount. Our sales mix has continued to shift toward consumables in recent quarters, and this trend continued in the first half of 2023. While we expect some sales mix challenges to persist through at least the duration of 2023, certain of our initiatives are intended to address them; however, there can be no assurances that these efforts will be successful.
We continue to implement and invest in certain strategic initiatives that we believe will help drive profitable sales growth with both new and existing customers and capture long-term growth opportunities. Such opportunities include providing our customers with additional shopping access points and even greater value and convenience by leveraging and developing digital tools and technology, such as our Dollar General app, which contains a variety of tools to enhance the in-store shopping experience. Additionally, our partnership with a third-party delivery service is available in the majority of our stores, and we continue to grow our DG Media Network, which is our platform for connecting brand partners with our customers to drive even greater value for each.
Further, we are continuing to grow the footprint of pOpshelf, a unique retail concept focused on categories such as seasonal and home décor, health and beauty, home cleaning supplies, and party and entertainment goods. At the end of the second quarter of 2023, we operated 190 standalone pOpshelf locations. Recognizing the impact of the ongoing macroeconomic pressures on the pOpshelf customer and shopping occasion, we (1) previously announced our planned reduction in pOpshelf openings in 2023, and now plan to operate approximately 230 pOpshelf locations by the end of the fiscal year; and (2) are continuing to re-evaluate our targeted number of pOpshelf stores by the end of 2025. We continue to believe this concept represents a significant growth opportunity over the long term.
Our “DG Fresh” initiative, a self-distribution model for frozen and refrigerated products that is designed to reduce product costs, enhance item assortment, improve our in-stock position, and enhance sales, has positively contributed to our sales and gross margin performance since we completed the initial rollout in 2021. Moving forward, we plan to focus on additional optimization of the distribution footprint and product assortment within DG Fresh with the goal to further drive profitable sales growth.
We also have a health initiative, branded as “DG Well Being”, with the goal of increasing access to basic healthcare products, and ultimately services over time, particularly in rural communities. The initial focus of this initiative is a significantly expanded health product assortment in certain stores, primarily those in our larger formats.
To support our other operating priorities, we remain focused on capturing growth opportunities. In the second quarter of 2023, we opened a total of 215 new stores, remodeled 614 stores, and relocated 20 stores. Reflecting the previously announced reduction in planned pOpshelf stores in fiscal 2023, we plan to open approximately 990 new stores in the United States (including any pOpshelf stores), remodel approximately 2,000 stores, and relocate approximately 120 stores, for a total of 3,110 real estate projects. We opened our first store in Mexico in the first quarter of fiscal 2023. Our updated goal is to operate up to 10 stores in Mexico by the end of fiscal 2023, all of which would be incremental to our planned 990 new store openings.
We continue to innovate within our channel and utilize the most productive of our various Dollar General store formats based on the specific market opportunity. We expect store format innovation to allow us to capture additional growth opportunities within our existing markets. We are using two larger format stores (approximately 8,500 square feet and 9,500 square feet, respectively), and expect the 8,500 square foot format, along with our existing Dollar General Plus format of a similar size, to continue as our base prototypes for the majority of new stores in 2023, replacing our traditional 7,300 square foot format and higher-cooler count Dollar General Traditional Plus format. The larger formats allow for expanded high-capacity-cooler counts, an extended queue line, and a broader product assortment, including an enhanced non-consumable offering, a larger health and beauty section, and produce in select stores. We continue to incorporate lessons learned from our various store formats and layouts into our existing store base. These lessons
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contribute to innovation in developing new formats, with a goal of driving increased customer traffic, average transaction amount, same-store sales and overall store productivity.
We have established a position as a low-cost operator, always seeking ways to reduce or control costs that do not affect our customers’ shopping experiences. We plan to continue enhancing this position over time while employing ongoing cost discipline to reduce certain expenses as a percentage of sales. Nonetheless, we seek to maintain flexibility to invest in the business as necessary to enhance our long-term competitiveness and profitability.
We are continuing to deploy “Fast Track,” an initiative aimed at further enhancing our convenience proposition and in-stock position as well as creating labor efficiencies within our stores. The completed portion of the first phase of Fast Track involved sorting process optimization within our non-refrigerated distribution centers, as well as increased shelf-ready packaging, to allow for greater store-level stocking efficiencies, while the current focus involves adding a self-checkout option, which we now have in the majority of our stores. These and the other strategic initiatives discussed above have required and will continue to require us to incur upfront expenses for which there may not be an immediate return in terms of sales or enhanced profitability.
To further optimize our cost structure and facilitate greater operational control within our supply chain, we plan to continue expanding the size of our private tractor fleet in 2023. We had more than 1,800 tractors in our fleet at the end of the second quarter of 2023, and our goal is to have more than 2,000 tractors in the fleet by the end of 2023.
Certain of our operating expenses, such as wage rates and occupancy costs, have continued to increase in recent years, due primarily to market forces, including labor availability, increases in minimum wage rates and increases in property rents. Further federal, state and/or local minimum wage increases could have a material negative impact on our operating expenses, although the magnitude and timing of such impact is uncertain. In fiscal 2023, we now plan to invest an additional $50 million in retail labor, primarily through labor hours, bringing the total investment in fiscal year 2023 to approximately $150 million, to further enhance our store standards and compliance efforts as well as the customer and associate experience in our stores. A portion of this investment was made in the first half of the fiscal year. We believe these investments will also elevate consistency of experience in our stores, and amplify the potential success of our strategic initiatives, while driving greater on-shelf availability and market share gains.
In addition to our planned labor investment in 2023, we expect to take additional actions in the third and fourth quarters to improve execution in our supply chain and stores and better serve our customers. Most significantly, we plan to accelerate the pace of our inventory reduction efforts, including additional promotional markdowns primarily on certain non-consumable products to return to more optimal inventory levels sooner than we believe the current pace would deliver. We expect these actions and investments will negatively impact operating profit by up to $170 million in 2023 but will further strengthen our position to drive growth and serve our customers.
While we believe the growth rate of inflation is moderating, we expect some continued inflationary pressures in the near term, which will continue to affect us as well as our vendors and customers and may result in continued pressure to our operating results. To the extent that the macroeconomic inflationary pressures result in a recessionary environment, we may experience adverse effects on our business, results of operations and cash flows. Moreover, recent increases in market interest rates have had, and will continue to have, a negative impact on our interest expense, both with respect to issuances of commercial paper notes and other indebtedness. In addition, the Department of Education’s COVID-19 pandemic student loan forbearance program is scheduled to end in September 2023, with payments expected to resume in October 2023. The potential impact on our customer and our business is unknown, and we can make no assurance that it will not be material.
Our diverse teams are a competitive advantage, and we proactively seek ways to continue investing in their development. Our goal is to create an environment that attracts, develops, and retains talented personnel, particularly at the store manager level, because employees who are promoted from within our company generally have longer tenures and are greater contributors to improvements in our financial performance.
To further enhance shareholder returns, we have continued to pay quarterly cash dividends. As planned, we did not repurchase any shares during the first half of 2023. To preserve our investment grade credit rating and maintain financial flexibility, we do not plan to repurchase shares during fiscal 2023. However, our overall capital allocation priorities remain unchanged, and we expect to continue paying quarterly cash dividends. The declaration and amount of future dividends are subject to Board discretion and approval.
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We utilize key performance indicators (“KPIs”) in the management of our business. Our KPIs include same-store sales, average sales per square foot, and inventory turnover. Same-store sales are calculated based upon our stores that were open at least 13 full fiscal months and remain open at the end of the reporting period. We include stores that have been remodeled, expanded or relocated in our same-store sales calculation. Changes in same-store sales are calculated based on the comparable 52 calendar weeks in the current and prior years. The method of calculating same-store sales varies across the retail industry. As a result, our calculation of same-store sales is not necessarily comparable to similarly titled measures reported by other companies. Average sales per square foot is calculated based on total sales for the preceding 12 months as of the ending date of the reporting period divided by the average selling square footage during the period, including the end of the fiscal year, the beginning of the fiscal year, and the end of each of our three interim fiscal quarters. Inventory turnover is calculated based on total cost of goods sold for the preceding four quarters divided by the average inventory balance as of the ending date of the reporting period, including the end of the fiscal year, the beginning of the fiscal year, and the end of each of our three interim fiscal quarters. Each of these measures is commonly used by investors in retail companies to measure the health of the business. We use these measures to maximize profitability and for decisions about the allocation of resources.
Highlights of our 2023 second quarter results of operations, compared to the 2022 second quarter, and our financial condition at August 4, 2023, are set forth below. Basis points amounts referred to below are equal to 0.01% as a percentage of net sales.
● Net sales increased 3.9% to $9.80 billion driven by new stores and sales in same-stores which decreased 0.1%. Average sales per square foot for all stores over the 53-week period ended August 4, 2023 were $272.
● Gross profit, as a percentage of net sales, was 31.1% in the 2023 period and 32.3% in the 2022 period, a decrease of 126 basis points, primarily reflecting lower inventory markups and increased shrink, markdowns, and inventory damages.
● SG&A expense, as a percentage of net sales, was 24.0% in the 2023 period compared to 22.6% in the 2022 period, an increase of 136 basis points, primarily due to higher retail labor, utilities, and depreciation and amortization as a percentage of net sales.
● Operating profit decreased 24.2% to $692.3 million in the 2023 period compared to $913.4 million in the 2022 period.
● Interest expense increased by $41.2 million in the 2023 period compared to the 2022 period driven by higher average borrowings and higher interest rates.
● The effective income tax rate for the 2023 period was 22.9% compared to a rate of 22.1% for the 2022 period primarily due to a higher state effective tax rate.
● Net income was $468.8 million, or $2.13 per diluted share, in the 2023 period compared to net income of $678.0 million, or $2.98 per diluted share, in the 2022 period.
Highlights of the year-to-date period of 2023 include:
● Cash generated from operating activities was $726.7 million for the 2023 period, a decrease of $221.3 million, or 23.3%, from the comparable 2022 period.
● Total cash dividends of $258.9 million, or $1.18 per share, were paid during the 2023 period, compared to $249.5 million, or $1.10 per share, in the comparable 2022 period.
● Inventory turnover was 3.7 times on a rolling four-quarter basis. On a per store basis, inventories at August 4, 2023 increased by 3.4% compared to the balances at July 29, 2022.
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The above discussion is a summary only. Readers should refer to the detailed discussion of our results of operations below in the current year period as compared with the prior year period as well as our financial condition at August 4, 2023.
Results of Operations
Accounting Periods . We utilize a 52-53 week fiscal year convention that ends on the Friday nearest to January 31. The following text contains references to years 2023 and 2022, which represent the 52-week fiscal year ending February 2, 2024 and the 53-week fiscal year ended February 3, 2023, respectively. References to the second quarter accounting periods for 2023 and 2022 contained herein refer to the 13-week accounting periods ended August 4, 2023 and July 29, 2022, respectively.
Seasonality. The nature of our business is somewhat seasonal. Primarily because of Christmas-related merchandise sales, operating profit in our fourth quarter (November, December and January) has historically been higher than operating profit achieved in each of the first three quarters of the fiscal year. Expenses, and to a greater extent operating profit, vary by quarter. Results of a period shorter than a full year may not be indicative of results expected for the entire year. Furthermore, the seasonal nature of our business may affect comparisons between periods.
The following table contains results of operations data for the second 13-week periods and the 26-week periods of 2023 and 2022, and the dollar and percentage variances among those periods:
13 Weeks Ended
2023 vs. 2022
26 Weeks Ended
2023 vs. 2022
(amounts in millions, except
August 4,
July 29,
Amount
%
August 4,
July 29,
Amount
%
per share amounts)
2023
2022
Change
Change
2023
2022
Change
Change
Net sales by category:
Consumables
$
7,921.6
$
7,475.8
$
445.8
6.0
%
$
15,504.5
$
14,436.3
$
1,068.2
7.4
%
% of net sales
80.86
%
79.31
%
81.02
%
79.42
%
Seasonal
1,076.2
1,086.9
(10.7)
(1.0)
2,038.8
2,048.3
(9.4)
(0.5)
% of net sales
10.99
%
11.53
%
10.65
%
11.27
%
Home products
516.6
559.8
(43.1)
(7.7)
1,047.8
1,099.6
(51.8)
(4.7)
% of net sales
5.27
%
5.94
%
5.47
%
6.05
%
Apparel
281.8
303.2
(21.5)
(7.1)
547.8
592.9
(45.0)
(7.6)
% of net sales
2.88
%
3.22
%
2.86
%
3.26
%
Net sales
$
9,796.2
$
9,425.7
$
370.5
3.9
%
$
19,139.0
$
18,177.1
$
961.9
5.3
%
Cost of goods sold
6,751.5
6,377.5
374.0
5.9
13,138.9
12,390.5
748.4
6.0
% of net sales
68.92
%
67.66
%
68.65
%
68.17
%
Gross profit
3,044.7
3,048.2
(3.5)
(0.1)
6,000.2
5,786.6
213.6
3.7
% of net sales
31.08
%
32.34
%
31.35
%
31.83
%
Selling, general and administrative expenses
2,352.4
2,134.8
217.6
10.2
4,567.0
4,127.0
440.0
10.7
% of net sales
24.01
%
22.65
%
23.86
%
22.70
%
Operating profit
692.3
913.4
(221.1)
(24.2)
1,433.2
1,659.6
(226.4)
(13.6)
% of net sales
7.07
%
9.69
%
7.49
%
9.13
%
Interest expense
84.3
43.1
41.2
95.7
167.4
82.8
84.6
102.2
% of net sales
0.86
%
0.46
%
0.87
%
0.46
%
Income before income taxes
608.0
870.3
(262.4)
(30.1)
1,265.8
1,576.8
(311.0)
(19.7)
% of net sales
6.21
%
9.23
%
6.61
%
8.67
%
Income tax expense
139.1
192.3
(53.2)
(27.6)
282.6
346.1
(63.5)
(18.4)
% of net sales
1.42
%
2.04
%
1.48
%
1.90
%
Net income
$
468.8
$
678.0
$
(209.2)
(30.9)
%
$
983.2
$
1,230.7
$
(247.5)
(20.1)
%
% of net sales
4.79
%
7.19
%
5.14
%
6.77
%
Diluted earnings per share
$
2.13
$
2.98
$
(0.85)
(28.5)
%
$
4.47
$
5.39
$
(0.92)
(17.1)
%
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13 WEEKS ENDED AUGUST 4, 2023 AND JULY 29, 2022
Net Sales . The net sales increase in the 2023 period was primarily due to sales from new stores partially offset by a same-store sales decrease of 0.1% compared to the 2022 period and the impact of store closures. For the 2023 period, there were 18,325 same-stores, which accounted for sales of $9.4 billion. The decrease in same-store sales primarily reflects a decrease in customer traffic partially offset by an increase in average transaction amount driven by higher average item retail prices partially offset by a decline in items per transaction. Same-store sales increased in the consumables category, and declined in the apparel, home products and seasonal categories.
Gross Profit. For the 2023 period, gross profit decreased by 0.1%, and as a percentage of net sales decreased by 126 basis points to 31.1%, compared to the 2022 period, driven primarily by lower inventory markups and increased shrink, markdowns, and inventory damages. Additionally, our consumables category generally has a lower gross profit rate than our other product categories and in the current period, consumables sales increased while non-consumables sales decreased, which also contributed to the decrease in the gross profit rate. Partially offsetting the factors which decreased our overall gross profit rate were a lower LIFO provision and decreased transportation costs.
Selling, General & Administrative Expenses (“SG&A”). SG&A was 24.0% as a percentage of net sales in the 2023 period compared to 22.6% in the comparable 2022 period, an increase of 136 basis points. The primary expenses that were a higher percentage of net sales in the current year period were retail labor, utilities, depreciation and amortization and rent, which were partially offset by a decrease in incentive compensation.
Interest Expense . Interest expense increased by $41.2 million to $84.3 million in the 2023 period primarily due to higher outstanding borrowings and higher interest rates.
Income Taxes. The effective income tax rate for the 2023 period was 22.9% compared to a rate of 22.1% for the 2022 period, which represents a net increase of 0.8 percentage points. The tax rate for the 2023 period was higher than the comparable 2022 period primarily due to a higher state effective tax rate and an increase in the valuation allowance against foreign net operating losses.
26 WEEKS ENDED AUGUST 4, 2023 AND JULY 29, 2022
Net Sales. The net sales increase in the 2023 period was primarily due to sales from new stores, as well as a same-store sales increase of 0.7% compared to the 2022 period, partially offset by the impact of store closures. For the 2023 period, there were 18,325 same-stores which accounted for sales of $18.3 billion. The increase in same-store sales primarily reflects an increase in average transaction amount driven by higher average item retail prices partially offset by a decline in items per transaction as well as a decrease in customer traffic. Same-store sales increased in the consumables category, and declined in the apparel, seasonal and home products categories.
Gross Profit. For the 2023 period, gross profit increased by 3.7%, and as a percentage of net sales decreased by 48 basis points to 31.4%, compared to the 2022 period, driven primarily by increased shrink, markdowns, and inventory damages and lower inventory markups. In addition, consumables sales increased while non-consumables sales decreased in the current year, which also contributed to the decrease in the gross profit rate. These factors were partially offset by a lower LIFO provision and decreased transportation costs.
Selling, General & Administrative Expenses. SG&A was 23.9% as a percentage of net sales in the 2023 period compared to 22.7% in the comparable 2022 period, an increase of 116 basis points. The primary expenses that were a higher percentage of net sales in the current year period were retail labor, depreciation and amortization, repairs and maintenance, and utilities, partially offset by a decrease in incentive compensation.
Interest Expense . Interest expense increased by $84.6 million to $167.4 million in the 2023 period primarily due to higher outstanding debt balances and higher interest rates.
Income Taxes. The effective income tax rate for the 2023 period was 22.3% compared to a rate of 22.0% for the 2022 period which represents a net increase of 0.3 percentage points. The tax rate for the 2023 period was higher than the comparable 2022 period primarily due to a reduced tax benefit from stock-based compensation in the 2023 period when compared to the 2022 period.
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Liquidity and Capital Resources
At August 4, 2023, we had a $2.0 billion senior unsecured revolving credit agreement (the “Revolving Facility”), a $750.0 million 364-day unsecured revolving credit facility (the “364-Day Revolving Facility” and, together with the Revolving Facility, the “Facilities”), $6.9 billion aggregate principal amount of outstanding senior notes, and a commercial paper program that may provide borrowing availability in the form of commercial paper notes (“CP Notes”) of up to $2.0 billion. At August 4, 2023, we had total consolidated outstanding long-term obligations of $7.3 billion and no short-term borrowings. All of our material borrowing arrangements are described in greater detail below. Our borrowing availability under the Revolving Facility may be effectively limited by our CP Notes as further described below.
We believe our cash flow from operations and existing cash balances, combined with availability under the Facilities, the CP Notes and access to the debt markets, will provide sufficient liquidity to fund our current obligations, projected working capital requirements, capital spending, anticipated dividend payments, and, if applicable, share repurchases for a period that includes the next twelve months as well as the next several years. However, our ability to maintain sufficient liquidity may be affected by numerous factors, many of which are outside of our control. Depending on our liquidity levels, conditions in the capital markets and other factors, we may from time to time consider the issuance of debt, equity or other securities, the proceeds of which could provide additional liquidity for our operations.
For the remainder of fiscal 2023, we anticipate potential combined borrowings under the Facilities and our CP Notes to be a maximum of approximately $1.0 billion outstanding at any one time.
Revolving Credit Facility
Our Revolving Facility consists of a $2.0 billion senior unsecured revolving credit facility of which up to $100.0 million is available for the issuance of letters of credit and which is scheduled to mature on December 2, 2026. Borrowings under the Revolving Facility bear interest at a rate equal to an applicable interest rate margin plus, at our option, either (a) Adjusted Term SOFR (which is Term SOFR, as published by CME Group Benchmark Administration Limited, plus a credit spread adjustment of 0.10%) or (b) a base rate (which is usually equal to the prime rate) . The applicable interest rate margin for borrowings as of August 4, 2023 was 1.015% for Adjusted Term SOFR borrowings and 0.015% for base-rate borrowings. We must also pay a facility fee, payable on any used and unused commitment amounts of the Revolving Facility, and customary fees on letters of credit issued under the Revolving Facility. As of August 4, 2023, the facility fee rate was 0.11%. The applicable interest rate margins for borrowings, the facility fees and the letter of credit fees under the Revolving Facility are subject to adjustment from time to time based on our long-term senior unsecured debt ratings.
We entered into the 364-Day Revolving Facility on January 31, 2023, which will expire on January 30, 2024. Borrowings under the 364-Day Revolving Facility bear interest at a rate equal to an applicable interest rate margin plus, at our option, either (a) Adjusted Term SOFR (which is Term SOFR, as published by CME Group Benchmark Administration Limited, plus a credit spread adjustment of 0.10%) or (b) a base rate (which is usually equal to the prime rate). We are also required to pay a facility fee to the lenders under the 364-Day Revolving Facility for any used and unused commitments. As of August 4, 2023, the applicable interest rate margin for Adjusted Term SOFR loans was 1.035% and the facility fee rate was 0.09% per annum. The applicable interest rate margins for borrowings and the facility fees under the 364-Day Revolving Facility are subject to adjustment from time to time based on our long-term senior unsecured debt ratings.
The credit agreements governing the Facilities contain a number of customary affirmative and negative covenants that, among other things, restrict, subject to certain exceptions, our (including our subsidiaries’) ability to: incur additional liens; sell all or substantially all of our assets; consummate certain fundamental changes or change in our lines of business; and incur additional subsidiary indebtedness. The credit agreements governing the F acilities also contain financial covenants that require the maintenance of a minimum fixed charge coverage ratio and a maximum leverage ratio. As of August 4, 2023, we were in compliance with all such covenants. The credit agreements governing each of the Facilities also contain customary events of default.
As of August 4, 2023, we had no outstanding borrowings, no outstanding letters of credit, and borrowing availability of $2.0 billion under the Revolving Facility that , due to our intention to maintain borrowing availability related to the commercial paper program described below, could contribute incremental liquidity of $1.5 billion at
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August 4, 2023. As of August 4, 2023 , under the 364-Day Revolving Facility, we had no outstanding borrowings and borrowing availability of $750.0 million. At August 4, 2023, we had combined availability under the Facilities of $2.3 billion. In addition, as of August 4, 2023 we had outstanding letters of credit of $43.2 million which were issued pursuant to separate agreements.
On June 7, 2023, the Company issued $500.0 million aggregate principal amount of 5.20% senior notes due 2028 (the “July 2028 Senior Notes”), net of discount of $0.1 million and $1 billion aggregate principal amount of 5.45% senior notes due 2033 (the “2033 Senior Notes”), net of discount of $1.6 million. The July 2028 Senior Notes are scheduled to mature on July 5, 2028 and the 2033 Senior Notes are scheduled to mature on July 5, 2033. Interest on the July 2028 Senior Notes and the 2033 Senior Notes is payable in cash on January 5 and July 5 of each year, commencing on January 5, 2024. The Company incurred $12.4 million of debt issuance costs associated with the issuance of the July 2028 Senior Notes and the 2033 Senior Notes.
Commercial Paper
We may issue the CP Notes from time to time in an aggregate amount not to exceed $2.0 billion outstanding at any time. The CP Notes may have maturities of up to 364 days from the date of issue and rank equal in right of payment with all of our other unsecured and unsubordinated indebtedness. We intend to maintain available commitments under the Revolving Facility in an amount at least equal to the amount of CP Notes outstanding at any time. As of August 4, 2023, our condensed consolidated balance sheet reflected outstanding unsecured CP Notes of $0.3 billion, which had a weighted average borrowing rate of 5.4%. CP Notes totaling $201.5 million were held by a wholly-owned subsidiary and are therefore not reflected on the condensed consolidated balance sheet at August 4, 2023.
Senior Notes
In October 2015 we issued $500.0 million aggregate principal amount of 4.150% senior notes due 2025 (the “2025 Senior Notes”) at a discount of $0.8 million, which are scheduled to mature on November 1, 2025. In April 2017 we issued $600.0 million aggregate principal amount of 3.875% senior notes due 2027 (the “April 2027 Senior Notes”) at a discount of $0.4 million, which are scheduled to mature on April 15, 2027. In April 2018 we issued $500.0 million aggregate principal amount of 4.125% senior notes due 2028 (the “2028 Senior Notes”) at a discount of $0.5 million, which are scheduled to mature on May 1, 2028. In April 2020 we issued $1.0 billion aggregate principal amount of 3.5% senior notes due 2030 (the “2030 Senior Notes”) at a discount of $0.7 million, which are scheduled to mature on April 3, 2030, and $500.0 million aggregate principal amount of 4.125% senior notes due 2050 (the “2050 Senior Notes”) at a discount of $5.0 million, which are scheduled to mature on April 3, 2050. In September 2022, we issued $750.0 million aggregate principal amount of 4.25% senior notes due 2024 (the “2024 Senior Notes”), net of discount of $0.7 million, which are scheduled to mature on September 20, 2024, $550.0 million aggregate principal amount of 4.625% senior notes due 2027 (the “November 2027 Senior Notes”), net of discount of $0.5 million, which are scheduled to mature on November 1, 2027, $700.0 million aggregate principal amount of 5.0% senior notes due 2032 (the “2032 Senior Notes”), net of discount of $2.4 million, which are scheduled to mature on November 1, 2032, and $300.0 million aggregate principal amount of 5.50% senior notes due 2052 (the “2052 Senior Notes”), net of discount of $0.3 million, which are scheduled to mature on November 1, 2052. In June 2023, we issued $500.0 million aggregate principal amount of 5.20% senior notes due 2028 (the “July 2028 Senior Notes”), net of discount of $0.1 million, which are scheduled to mature on July 5, 2028, and $1.0 billion aggregate principal amount of 5.45% senior notes due 2033 (the “2033 Senior Notes”), net of discount of $1.6 million, which are scheduled to mature on July 5, 2033.
Collectively, the 2024 Senior Notes, 2025 Senior Notes, April 2027 Senior Notes, November 2027 Senior Notes, 2028 Senior Notes, July 2028 Senior Notes, 2030 Senior Notes, 2032 Senior Notes, 2033 Senior Notes, 2050 Senior Notes, and 2052 Senior Notes comprise the “Senior Notes”, each of which were issued pursuant to an indenture as supplemented and amended by supplemental indentures relating to each series of Senior Notes (as so supplemented and amended, the “Senior Indenture”). Interest on the April 2027 Senior Notes is payable in cash on April 15 and October 15 of each year. Interest on the 2025 Senior Notes and the 2028 Senior Notes is payable in cash on May 1 and November 1 of each year. Interest on the 2030 Senior Notes and the 2050 Senior Notes is payable in cash on April 3 and October 3 of each year. Interest on the 2024 Senior Notes is payable in cash on March 20 and September 20 of each year and commenced on March 20, 2023. Interest on the November 2027 Senior Notes, the 2032 Senior Notes and the 2052 Senior Notes is payable in cash on May 1 and November 1 of each year and commenced on May 1, 2023. Interest on the July 2028 Senior Notes and 2033 Senior Notes is payable in cash on January 5 and July 5 of each year, commencing on January 5, 2024.
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We may redeem some or all of the Senior Notes at any time at redemption prices set forth in the Senior Indenture. Upon the occurrence of a change of control triggering event, which is defined in the Senior Indenture, each holder of our Senior Notes has the right to require us to repurchase some or all of such holder’s Senior Notes at a purchase price in cash equal to 101% of the principal amount thereof, plus accrued and unpaid interest, if any, to, but excluding, the repurchase date.
The Senior Indenture contains covenants limiting, among other things, our ability (subject to certain exceptions) to consolidate, merge, or sell or otherwise dispose of all or substantially all of our assets; and our ability and the ability of our subsidiaries to incur or guarantee indebtedness secured by liens on any shares of voting stock of significant subsidiaries.
The Senior Indenture also provides for events of default which, if any of them occurs, would permit or require the principal of and accrued interest on our Senior Notes to become or to be declared due and payable, as applicable.
Current Financial Condition / Recent Developments
Our inventory balance represented approximately 53% of our total assets exclusive of operating lease assets, goodwill and other intangible assets as of August 4, 2023. Our ability to effectively manage our inventory balances can have a significant impact on our cash flows from operations during a given fiscal year. Inventory purchases are often somewhat seasonal in nature, such as the purchase of warm-weather or Christmas-related merchandise. Efficient management of our inventory has been and continues to be an area of focus for us.
From time to time, we are involved in various legal matters as discussed in Note 7 to the unaudited condensed consolidated financial statements, some of which could potentially result in material cash payments. Adverse developments in these matters could materially and adversely affect our liquidity.
Our senior unsecured debt is rated “Baa2,” by Moody’s with a stable outlook and “BBB” by Standard & Poor’s with a stable outlook, and our commercial paper program is rated “P-2” by Moody’s and “A-2” by Standard and Poor’s. Our current credit ratings, as well as future rating agency actions, could (i) impact our ability to finance our operations on satisfactory terms; (ii) affect our financing costs; and (iii) affect our insurance premiums and collateral requirements necessary for our self-insured programs. There can be no assurance that we will maintain or improve our current credit ratings.
Unless otherwise noted, all references to the 2023 and 2022 periods in the discussion of cash flows from operating, investing and financing activities below refer to the 26-week periods ended August 4, 2023 and July 29, 2022, respectively.
Cash flows from operating activities. Cash flows from operating activities were $726.7 million in the 2023 period, which represents a $221.3 million decrease compared to the 2022 period. Changes in merchandise inventories resulted in a $817.0 million decrease in the 2023 period as compared to a decrease of $1.5 billion in the 2022 period, representing a significant use of cash from operating activities in both periods as further discussed below. Changes in accounts payable resulted in a $107.8 million increase in the 2023 period compared to a $622.3 million increase in the 2022 period, due primarily to the timing of inventory purchases, receipts and payments. Net income decreased $247.5 million in the 2023 period compared to the 2022 period. Changes in income taxes in the 2023 period compared to the 2022 period are primarily due to the income tax estimates and timing of the payments.
On an ongoing basis, we closely monitor and manage our inventory balances, and they may fluctuate from period to period based on new store openings, the timing of purchases, and other factors. Total merchandise inventories increased by 11% in the 2023 period compared to an increase of 24% in the 2022 period. The reduction in growth rate in the 2023 period primarily reflects our supply chain recovery efforts and the impact of product cost inflation. Changes in our four inventory categories for the 2023 period compared to the 2022 period were as follows: consumables increased by 23% compared to a 16% increase; seasonal decreased 2% compared to a 37% increase; home products decreased by 9% compared to a 51% increase; and apparel increased by 2% compared to unchanged.
Cash flows from investing activities . Significant components of property and equipment purchases in the 2023 period included the following approximate amounts: $308 million for improvements, upgrades, remodels and relocations
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of existing stores; $229 million for distribution and transportation-related capital expenditures; $194 million related to store facilities, primarily for leasehold improvements, fixtures and equipment in new stores; and $23 million for information systems upgrades and technology-related projects. The timing of new, remodeled and relocated store openings along with other factors may affect the relationship between such openings and the related property and equipment purchases in any given period. During the 2023 period, we opened 427 new stores and remodeled or relocated 1,238 stores.
Significant components of property and equipment purchases in the 2022 period included the following approximate amounts: $255 million for improvements, upgrades, remodels and relocations of existing stores; $210 million related to store facilities, primarily for leasehold improvements, fixtures and equipment in new stores; $157 million for distribution and transportation-related capital expenditures; and $22 million for information systems upgrades and technology-related projects. The timing of new, remodeled and relocated store openings along with other factors may affect the relationship between such openings and the related property and equipment purchases in any given period. During the 2022 period, we opened 466 new stores and remodeled or relocated 1,127 stores.
Capital expenditures for 2023 are currently projected to be approximately $1.6 billion to $1.7 billion. We anticipate funding 2023 capital requirements with a combination of some or all of the following: existing cash balances, cash flows from operations, availability under the Facilities, any issuance of additional CP Notes and access to the debt markets. We plan to continue to invest in store growth through the development of new stores and the remodel or relocation of existing stores. Capital expenditures in 2023 are anticipated to support our store growth as well as our remodel and relocation initiatives, including capital outlays for leasehold improvements, fixtures and equipment; the construction of new stores; costs to support and enhance our supply chain initiatives including new and existing distribution center facilities and our private fleet; technology and other strategic initiatives; as well as routine and ongoing capital requirements.
Cash flows from financing activities . During the 2023 period, we had proceeds from the issuance of long-term debt of $1.5 billion. Net commercial paper borrowings decreased by $1.2 billion in 2023 and increased by $1.0 billion in 2022. Also during the 2023 and 2022 periods, we paid cash dividends of $258.9 million and $249.5 million, respectively. During the 2022 period, we repurchased 4.9 million shares of our common stock at a total cost of $1.1 billion.
Share Repurchase Program
As of August 4, 2023 our common stock repurchase program had a total remaining authorization of approximately $1.38 billion. The authorization allows repurchases from time to time in open market transactions, including pursuant to trading plans adopted in accordance with Rule 10b5-1 of the Securities Exchange Act of 1934, as amended, or in privately negotiated transactions. The timing, manner and number of shares repurchased will depend on a variety of factors, including price, market conditions, compliance with the covenants and restrictions under the Company’s debt agreements, cash requirements, excess debt capacity, results of operations, financial condition and other factors. The repurchase program has no expiration date and may be modified or terminated from time to time at the discretion of our Board of Directors. For more about our share repurchase program, see Note 9 to the unaudited condensed consolidated financial statements contained in Part I, Item 1 of this report.
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ITEM 3.
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
There have been no material changes to the disclosures relating to this item from those set forth in our Annual Report on Form 10-K for the fiscal year ended February 3, 2023.
Text extracted from the filing as submitted to EDGAR. Formatting, tables and exhibits are simplified for reading; the original document is authoritative for anything you rely on.