COST-5.12.13-10Q
Table of Contents

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549 
FORM 10-Q
 
ý
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended May 12, 2013
OR
 
¨
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
Commission file number 0-20355
Costco Wholesale Corporation
(Exact name of registrant as specified in its charter)
 
Washington
 
91-1223280
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
999 Lake Drive, Issaquah, WA 98027
(Address of principal executive office)
(Zip Code)
(Registrant’s telephone number, including area code): (425) 313-8100 
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 for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    
YES  ý     NO  ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    YES  ý    NO  ¨
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 definition of “large accelerated filer”, “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer  ý
  
Accelerated filer   ¨
 
 
Non-accelerated filer   ¨  (Do not check if a smaller company)
  
Smaller reporting company  ¨
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act)     YES  ¨    NO  ý
The number of shares outstanding of the issuer’s common stock as of June 4, 2013 was 436,684,233


Table of Contents

COSTCO WHOLESALE CORPORATION
INDEX TO FORM 10-Q
 
 
 
 
 
 
 
  
 
  
Page
PART I
  
  
 
Item 1.
  
  
 
  
  
 
  
  
 
  
  
 
  
  
 
  
  
Item 2.
  
  
Item 3.
  
  
Item 4.
  
  
 
 
 
PART II
  
  
 
Item 1.
  
  
Item 1A.
  
  
Item 2.
  
  
Item 3.
  
  
Item 4.
  
  
Item 5.
  
  
Item 6.
  
  
 
  
  
 
 
  
  
 
  

2

Table of Contents

PART I—FINANCIAL INFORMATION
Item 1—Financial Statements
COSTCO WHOLESALE CORPORATION
CONDENSED CONSOLIDATED BALANCE SHEETS
(amounts in millions, except par value and share data)
(unaudited)
 
May 12,
2013
 
September 2,
2012
ASSETS
 
 
 
CURRENT ASSETS
 
 
 
Cash and cash equivalents
$
5,448

 
$
3,528

Short-term investments
1,062

 
1,326

Receivables, net
1,134

 
1,026

Merchandise inventories
7,635

 
7,096

Deferred income taxes and other current assets
584

 
550

Total current assets
15,863

 
13,526

PROPERTY AND EQUIPMENT
 
 
 
Land
4,343

 
4,032

Buildings and improvements
11,377

 
10,879

Equipment and fixtures
4,517

 
4,261

Construction in progress
400

 
374

 
20,637

 
19,546

Less accumulated depreciation and amortization
(7,091
)
 
(6,585
)
Net property and equipment
13,546

 
12,961

OTHER ASSETS
597

 
653

TOTAL ASSETS
$
30,006

 
$
27,140

LIABILITIES AND EQUITY
 
 
 
CURRENT LIABILITIES
 
 
 
Accounts payable
7,788

 
7,303

Accrued salaries and benefits
1,911

 
1,832

Accrued member rewards
714

 
661

Accrued sales and other taxes
432

 
397

Deferred membership fees
1,212

 
1,101

Other current liabilities
1,452

 
966

Total current liabilities
13,509

 
12,260

LONG-TERM DEBT, excluding current portion
4,887

 
1,381

DEFERRED INCOME TAXES AND OTHER LIABILITIES
963

 
981

Total liabilities
19,359

 
14,622

COMMITMENTS AND CONTINGENCIES


 


EQUITY
 
 
 
Preferred stock $.005 par value; 100,000,000 shares authorized; no shares issued and outstanding
0

 
0

Common stock $.005 par value; 900,000,000 shares authorized; 436,682,983 and 432,350,000 shares issued and outstanding
2

 
2

Additional paid-in capital
4,587

 
4,369

Accumulated other comprehensive income
81

 
156

Retained earnings
5,802

 
7,834

Total Costco stockholders’ equity
10,472

 
12,361

Noncontrolling interests
175

 
157

Total equity
10,647

 
12,518

TOTAL LIABILITIES AND EQUITY
$
30,006

 
$
27,140

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

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Table of Contents

COSTCO WHOLESALE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF INCOME
(amounts in millions, except per share data)
(unaudited)
 
 
12 Weeks Ended
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
REVENUE
 
 
 
 
 
 
 
Net sales
$
23,552

 
$
21,849

 
$
71,099

 
$
65,538

Membership fees
531

 
475

 
1,570

 
1,381

Total revenue
24,083

 
22,324

 
72,669

 
66,919

OPERATING EXPENSES
 
 
 
 
 
 
 
Merchandise costs
21,038

 
19,543

 
63,530

 
58,613

Selling, general and administrative
2,313

 
2,152

 
7,006

 
6,474

Preopening expenses
10

 
6

 
34

 
22

Operating income
722

 
623

 
2,099

 
1,810

OTHER INCOME (EXPENSE)
 
 
 
 
 
 
 
Interest expense
(25
)
 
(19
)
 
(63
)
 
(73
)
Interest income and other, net
15

 
18

 
61

 
65

INCOME BEFORE INCOME TAXES
712

 
622

 
2,097

 
1,802

Provision for income taxes
248

 
217

 
658

 
657

Net income including noncontrolling interests
464

 
405

 
1,439

 
1,145

Net income attributable to noncontrolling interests
(5
)
 
(19
)
 
(17
)
 
(45
)
NET INCOME ATTRIBUTABLE TO COSTCO
$
459

 
$
386

 
$
1,422

 
$
1,100

NET INCOME PER COMMON SHARE ATTRIBUTABLE TO COSTCO:
 
 
 
 
 
 
 
Basic
$
1.05

 
$
0.89

 
$
3.27

 
$
2.53

Diluted
$
1.04

 
$
0.88

 
$
3.23

 
$
2.50

Shares used in calculation (000’s)
 
 
 
 
 
 
 
Basic
436,488

 
433,791

 
435,293

 
434,180

Diluted
440,780

 
439,166

 
439,738

 
439,748

CASH DIVIDENDS DECLARED PER COMMON SHARE
$
0.31

 
$
0.00

 
$
7.86

 
$
0.48

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


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Table of Contents

COSTCO WHOLESALE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(amounts in millions)
(unaudited)
 
 
12 Weeks Ended
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
NET INCOME INCLUDING NONCONTROLLING INTERESTS
$
464

 
$
405

 
$
1,439

 
$
1,145

Foreign-currency translation adjustment and other, net
(31
)
 
5

 
(74
)
 
(72
)
Comprehensive income
433

 
410

 
1,365

 
1,073

Less: Comprehensive income attributable to noncontrolling interests
4

 
11

 
18

 
27

COMPREHENSIVE INCOME ATTRIBUTABLE TO COSTCO
$
429

 
$
399

 
$
1,347

 
$
1,046

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


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Table of Contents

COSTCO WHOLESALE CORPORATION
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
(amounts in millions)
(unaudited)
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
CASH FLOWS FROM OPERATING ACTIVITIES
 
 
 
Net income including noncontrolling interests
$
1,439

 
$
1,145

Adjustments to reconcile net income including noncontrolling interests to net cash provided by operating activities:
 
 
 
Depreciation and amortization
651

 
616

Stock-based compensation
210

 
179

Excess tax benefits on stock-based awards
(58
)
 
(50
)
Other non-cash operating activities, net
(7
)
 
31

Deferred income taxes
15

 
(7
)
Changes in operating assets and liabilities:
 
 
 
Increase in merchandise inventories
(595
)
 
(434
)
Increase in accounts payable
638

 
394

Other operating assets and liabilities, net
581

 
453

Net cash provided by operating activities
2,874

 
2,327

CASH FLOWS FROM INVESTING ACTIVITIES
 
 
 
Purchases of short-term investments
(1,637
)
 
(1,324
)
Maturities of short-term investments
1,689

 
1,414

Sales of investments
201

 
303

Additions to property and equipment
(1,379
)
 
(900
)
Other investing activities, net
10

 
(10
)
Net cash used in investing activities
(1,116
)
 
(517
)
CASH FLOWS FROM FINANCING ACTIVITIES
 
 
 
Change in bank checks outstanding
(81
)
 
412

Repayments of short-term borrowings
(230
)
 
(114
)
Proceeds from short-term borrowings
293

 
114

Proceeds from issuance of long-term debt
3,610

 
127

Repayments of long-term debt
0

 
(900
)
Distribution to noncontrolling interests
(22
)
 
0

Proceeds from exercise of stock options
47

 
71

Minimum tax withholdings on stock-based awards
(120
)
 
(107
)
Excess tax benefits on stock-based awards
58

 
50

Repurchases of common stock
(36
)
 
(452
)
Cash dividend payments
(3,289
)
 
(209
)
Other financing activities, net
(14
)
 
(3
)
Net cash provided by (used in) financing activities
216

 
(1,011
)
EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS
(54
)
 
(17
)
Net increase in cash and cash equivalents
1,920

 
782

CASH AND CASH EQUIVALENTS BEGINNING OF YEAR
3,528

 
4,009

CASH AND CASH EQUIVALENTS END OF PERIOD
$
5,448

 
$
4,791

SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION:
 
 
 
Cash paid during the first thirty-six weeks of year for:
 
 
 
Interest (reduced by $10 and $6 interest capitalized in 2013 and 2012, respectively)
$
64

 
$
111

Income taxes
$
491

 
$
495

SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES:
 
 
 
Unsettled repurchases of common stock
$
0

 
$
13

Property acquired under capital lease
$
11

 
$
0

Common stock issued upon conversion of 3.5% Zero Coupon Convertible Subordinated Notes
$
30

 
$
1

Cash dividend declared, but not yet paid
$
135

 
$
0


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

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Table of Contents

COSTCO WHOLESALE CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(amounts in millions, except share data and warehouse number data)
(unaudited)
Note 1—Summary of Significant Policies
Description of Business
Costco Wholesale Corporation and its subsidiaries operate membership warehouses based on the concept that offering members low prices on a limited selection of nationally branded and select private-label products in a wide range of merchandise categories will produce high sales volumes and rapid inventory turnover. At May 12, 2013, Costco operated 627 warehouses worldwide: 449 United States (U.S.) locations (in 41 U.S. states, Washington, D.C., and Puerto Rico), 85 Canada locations, 33 Mexico locations, 24 United Kingdom (U.K.) locations, 15 Japan locations, 9 Taiwan locations, 9 Korea locations, and 3 Australia locations. The Company also operates online businesses at costco.com in the U.S., costco.ca in Canada, and costco.co.uk in the U.K.
Basis of Presentation
The condensed consolidated financial statements include the accounts of Costco Wholesale Corporation, a Washington corporation, its wholly-owned subsidiaries, subsidiaries in which it has a controlling interest, consolidated entities in which it has made equity investments, or has other interests through which it has majority-voting control or it exercises the right to direct the activities that most significantly impact the entity’s performance (Costco or the Company). The Company reports noncontrolling interests in consolidated entities as a component of equity separate from the Company’s equity. All material inter-company transactions between and among the Company and its consolidated subsidiaries and other consolidated entities have been eliminated in consolidation. In July 2012, Costco purchased its former joint venture partner’s 50% equity interest in Costco Mexico. The Company’s net income excludes income attributable to noncontrolling interests in its operations in Mexico prior to the July 2012 acquisition of the 50% noncontrolling interest, Taiwan, and Korea. After the acquisition date, 100% of Mexico’s operations are included in “net income attributable to Costco.” Unless otherwise noted, references to net income relate to net income attributable to Costco.
These unaudited condensed consolidated financial statements have been prepared in accordance with the instructions to Form 10-Q for interim financial reporting pursuant to the rules and regulations of the Securities and Exchange Commission (SEC). While these statements reflect all normal recurring adjustments that are, in the opinion of management, necessary for fair presentation of the results of the interim period, they do not include all of the information and footnotes required by U.S. generally accepted accounting principles (U. S. GAAP) for complete financial statements. Therefore, the interim condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in the Company’s annual report filed on Form 10-K for the fiscal year ended September 2, 2012.
Fiscal Year End
The Company operates on a 52/53-week fiscal year basis with the fiscal year ending on the Sunday closest to August 31. References to the third quarters of 2013 and 2012 relate to the twelve-week fiscal quarters ended May 12, 2013, and May 6, 2012, respectively. References to the first thirty-six weeks of 2013 and 2012 relate to the thirty-six weeks ended May 12, 2013, and May 6, 2012, respectively.
Use of Estimates
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and the disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates and assumptions.
Reclassifications
Certain reclassifications have been made to prior fiscal year amounts or balances to conform to the presentation in the current fiscal year. These reclassifications did not have a material impact on the Company’s previously reported condensed consolidated financial statements.

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Table of Contents
Note 1—Summary of Significant Policies (Continued)

Fair Value of Financial Instruments
The Company accounts for certain assets and liabilities at fair value. The carrying value of the Company’s financial instruments, including cash and cash equivalents, receivables and accounts payable, approximate fair value due to their short-term nature or variable interest rates. See Notes 2, 3, and 4 for the carrying value and fair value of the Company’s investments, derivative instruments, and fixed-rate debt, respectively.
Fair value is defined as the price that would be received to sell an asset or paid to transfer a liability (an exit price) in an orderly transaction between market participants at the measurement date. Fair value is estimated by applying a fair value hierarchy, which requires maximizing the use of observable inputs when measuring fair value. The three levels of inputs are:
 
Level 1:
 
Quoted market prices in active markets for identical assets or liabilities.
Level 2:
 
Observable market-based inputs or unobservable inputs that are corroborated by market data.
Level 3:
 
Significant unobservable inputs that are not corroborated by market data.
The Company’s current financial liabilities have fair values that approximate their carrying values. The Company’s long-term financial liabilities consist of long-term debt, which is recorded on the balance sheet at issuance price and adjusted for any applicable unamortized discounts or premiums. There have been no material changes to the valuation techniques utilized in the fair value measurement of assets and liabilities as disclosed in the Company’s Form 10-K for the fiscal year ended September 2, 2012.
Merchandise Inventories
Merchandise inventories are valued at the lower of cost or market, as determined primarily by the retail inventory method, and are stated using the last-in, first-out (LIFO) method for substantially all U.S. merchandise inventories. Merchandise inventories for all foreign operations are primarily valued by the retail inventory method and are stated using the first-in, first-out (FIFO) method. The Company believes the LIFO method more fairly presents the results of operations by more closely matching current costs with current revenues. The Company records an adjustment each quarter, if necessary, for the projected annual effect of inflation or deflation, and these estimates are adjusted to actual results determined at year-end, when actual inflation rates and inventory levels have been determined.
Due to overall deflationary trends in the third quarter and first thirty-six weeks of 2013, benefits of $8 and $19 were recorded to merchandise costs, respectively, to reduce the cumulative LIFO valuation on merchandise inventories. Due to overall net inflationary trends, charges to merchandise costs of $6 and $9 were recorded in the third quarter and first thirty-six weeks of 2012, respectively. At May 12, 2013, and September 2, 2012, the cumulative impact of the LIFO valuation on merchandise inventories was $89 and $108, respectively.
Derivatives
The Company is exposed to foreign-currency exchange-rate fluctuations in the normal course of business. It manages these fluctuations, in part, through the use of forward foreign-exchange contracts, seeking to economically hedge the impact of fluctuations of foreign exchange on known future expenditures denominated in a non-functional foreign-currency. The contracts relate primarily to U.S. dollar merchandise inventory expenditures made by the Company’s international subsidiaries, whose functional currency is not the U.S. dollar. Currently, these contracts do not qualify for derivative hedge accounting. The Company seeks to mitigate risk with the use of these contracts and does not intend to engage in speculative transactions. These contracts do not contain any credit-risk-related contingent features. The aggregate notional amounts of open, unsettled forward foreign-exchange contracts were $281 and $284 at May 12, 2013, and September 2, 2012, respectively. The Company seeks to manage counterparty risk associated with these contracts by limiting transactions to counterparties with which the Company has an established banking relationship. There can be no assurance, however, that this practice effectively mitigates counterparty risk. The contracts are limited to less than one year in duration. See Note 3 for information on the fair value of unsettled forward foreign-exchange contracts as of May 12, 2013, and September 2, 2012.
The unrealized gains or losses recognized in interest income and other, net in the accompanying condensed consolidated statements of income relating to the net changes in the fair value of unsettled forward foreign-exchange contracts were immaterial in the third quarter and the first thirty-six weeks of 2013 and 2012.

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Table of Contents
Note 1—Summary of Significant Policies (Continued)

The Company is exposed to fluctuations in prices for the energy it consumes, particularly electricity and natural gas, which it seeks to partially mitigate through the use of fixed-price contracts for certain of its warehouses and other facilities, primarily in the U.S. and Canada. The Company also enters into variable-priced contracts for some purchases of natural gas, in addition to fuel for its gas stations, on an index basis. These contracts meet the characteristics of derivative instruments, but generally qualify for the “normal purchases or normal sales” exception under authoritative guidance and thus require no mark-to-market adjustment.
Foreign Currency
The Company recognizes foreign-currency transaction gains and losses related to revaluing all monetary assets and revaluing or settling monetary liabilities denominated in currencies other than the functional currency in interest income and other, net in the accompanying condensed consolidated statements of income. Generally, this includes the U.S. dollar cash and cash equivalents and the U.S. dollar payables of consolidated subsidiaries to their functional currency. Also included are realized foreign-currency gains or losses from all settlements of forward foreign-exchange contracts. These items resulted in a net gain of $5 and $20 in the third quarter and first thirty-six weeks of 2013, respectively, as compared to a net gain of $2 and $25 in the third quarter and first thirty-six weeks of 2012, respectively.
Stock Repurchase Programs
Repurchased shares of common stock are retired, in accordance with the Washington Business Corporation Act. The par value of repurchased shares is deducted from common stock and the excess of repurchase price over par value is deducted from additional paid-in capital and retained earnings. See Note 5 for additional information.
Recently Adopted Accounting Pronouncements
In June 2011, the Financial Accounting Standards Board (FASB) issued guidance that eliminated the option to report other comprehensive income and its components in the statement of changes in equity. Instead, an entity is required to present either a continuous statement of net income and other comprehensive income or to present the information in two separate but consecutive statements. The new guidance must be applied retrospectively and is effective for fiscal years, and interim periods within those years, beginning after December 15, 2011. The Company adopted this guidance at the beginning of its first quarter of 2013.
In September 2011, the FASB issued guidance to amend the rules related to testing goodwill for impairment. The revised guidance allows an initial qualitative evaluation, based on the entity’s events and circumstances, to determine whether it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The results of this qualitative assessment determine whether it is necessary to perform further impairment tests. The new guidance is effective for annual and interim goodwill impairment tests performed for fiscal years beginning after December 15, 2011. The Company adopted this guidance at the beginning of its first quarter of 2013. Adoption of this guidance had no impact on the condensed consolidated financial statements.
Recent Accounting Pronouncements Not Yet Adopted
In February 2013, the FASB issued guidance related to reclassifications out of accumulated other comprehensive income. An entity will be required to disclose the net income line items impacted by significant reclassifications out of accumulated other comprehensive income if the item is reclassified in its entirety. For other amounts that are not required to be reclassified in their entirety to net income cross-references to other disclosures required under U.S. GAAP are required to provide additional detail about those amounts. The new guidance is effective for fiscal years, and interim periods within those years, beginning after December 15, 2012. The Company plans to adopt this guidance at the beginning of its first quarter of fiscal year 2014. Adoption of this guidance is not expected to have a material impact on the Company’s condensed consolidated financial statements or disclosures.


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Table of Contents



Note 2—Investments
The Company's major categories of investments have not materially changed from the annual reporting period ended September 2, 2012. The Company's investments at May 12, 2013, and September 2, 2012, were as follows:
 
May 12, 2013:
Cost
Basis
 
Unrealized
Gains
 
Recorded
Basis
Available-for-sale:
 
 
 
 
 
U.S. government and agency securities
$
774

 
$
4

 
$
778

Corporate notes and bonds
9

 
0

 
9

Asset and mortgage-backed securities
5

 
0

 
5

Total available-for-sale
788

 
4

 
792

Held-to-maturity:
 
 
 
 
 
Certificates of deposit
270

 
 
 
270

Total short-term investments
$
1,058

 
$
4

 
$
1,062

 
 
 
 
 
 
September 2, 2012:
Cost
Basis
 
Unrealized
Gains
 
Recorded
Basis
Available-for-sale:
 
 
 
 
 
U.S. government and agency securities
$
776

 
$
6

 
$
782

Corporate notes and bonds
54

 
0

 
54

FDIC-insured corporate bonds
35

 
0

 
35

Asset and mortgage-backed securities
8

 
0

 
8

Total available-for-sale
873

 
6

 
879

Held-to-maturity:
 
 
 
 
 
Certificates of deposit
447

 
 
 
447

Total short-term investments
$
1,320

 
$
6

 
$
1,326

At May 12, 2013, and September 2, 2012, the Company's available-for-sale securities that were in continuous unrealized-loss positions and gross unrealized gains and losses on cash equivalents were not material.
The proceeds from sales of available-for-sale securities during the third quarter and the first thirty-six weeks of 2013 and 2012 are provided in the following table:
 
 
12 Weeks Ended
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Proceeds
$
81

 
$
112

 
$
201

 
$
303


Gross realized gains or losses from sales of available-for-sale securities during the third quarter and the first thirty-six weeks of 2013 and 2012 were not material.
The maturities of available-for-sale and held-to-maturity securities at May 12, 2013, were as follows:
 
 
Available-For-Sale
 
Held-To-
Maturity
 
Cost Basis
 
Fair Value
 
Due in one year or less
$
364

 
$
364

 
$
270

Due after one year through five years
410

 
413

 
0

Due after five years
14

 
15

 
0

 
$
788

 
$
792

 
$
270



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Note 3—Fair Value Measurement
Assets and Liabilities Measured at Fair Value on a Recurring Basis
The tables below present information at May 12, 2013, and September 2, 2012, respectively, regarding the Company's financial assets and financial liabilities that are measured at fair value on a recurring basis and indicate the level within the fair value hierarchy reflecting the valuation techniques utilized to determine such fair value. At May 12, 2013, the Company did not hold any Level 3 financial assets and liabilities that are measured at fair value on a recurring basis. At September 2, 2012, the Company's holdings of Level 3 financial assets and liabilities were immaterial.
May 12, 2013:
Level 1
 
Level 2
Money market mutual funds (1)
$
195

 
$
0

Investment in U.S. government and agency securities (2)
0

 
780

Investment in corporate notes and bonds
0

 
9

Investment in asset and mortgage-backed securities
0

 
5

Forward foreign exchange contracts, in asset position (3)
0

 
2

Forward foreign exchange contracts, in (liability) position (3)
0

 
(3
)
Total
$
195

 
$
793

 
 
 
 
September 2, 2012:
Level 1
 
Level 2
Money market mutual funds (1)
$
77

 
$
0

Investment in U.S. government and agency securities (2)
0

 
794

Investment in corporate notes and bonds
0

 
54

Investment in FDIC-insured corporate bonds
0

 
35

Investment in asset and mortgage-backed securities
0

 
8

Forward foreign exchange contracts, in asset position (3)
0

 
1

Forward foreign exchange contracts, in (liability) position (3)
0

 
(3
)
Total
$
77

 
$
889

 
(1) 
Included in cash and cash equivalents in the accompanying condensed consolidated balance sheets. 
(2) 
On May 12, 2013, $2 and $778 included in cash and cash equivalents and short-term investments, respectively, in the accompanying condensed consolidated  
balance sheets. On September 2, 2012, $12 and $782 included in cash and cash equivalents and short-term investments, respectively, in the accompanying condensed consolidated balance sheets. 
(3) 
The asset and the liability values are included in deferred income taxes and other current assets and other current liabilities, respectively, in the accompanying condensed consolidated balance sheets. See Note 1 for additional information on derivative instruments. 

There were no financial assets and liabilities measured at fair value on a recurring basis using significant unobservable inputs (Level 3) during the third quarter and first thirty-six weeks of 2013, and they were immaterial during the third quarter and first thirty-six weeks of 2012. There were no transfers in or out of Level 1, 2, or 3 during the third quarter and first thirty-six weeks of 2013 and 2012.
Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis
Financial assets measured at fair value on a nonrecurring basis include held-to-maturity investments that are carried at amortized cost and are not remeasured to fair value on a recurring basis. There were no fair value adjustments to these financial assets during the third quarter and first thirty-six weeks of 2013 and 2012.

Nonfinancial assets measured at fair value on a nonrecurring basis include items such as long-lived assets that are measured at fair value resulting from an impairment, if deemed necessary. Fair value adjustments to these nonfinancial assets and liabilities during the third quarter and first thirty-six weeks of 2013 and 2012 were immaterial.



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Note 4—Debt
In December 2012, the Company issued $3,500 in aggregate principal amount of Senior Notes as follows:
$1,200 of 0.65% Senior Notes is due December 7, 2015. Interest is due semi-annually on June 7 and December 7, with the first payment due on June 7, 2013;
$1,100 of 1.125% Senior Notes is due December 15, 2017. Interest is due semi-annually on June 15 and December 15, with the first payment due on June 15, 2013; and
$1,200 of 1.7% Senior Notes is due December 15, 2019. Interest is due semi-annually on June 15 and December 15, with the first payment due on June 15, 2013.

In May 2013, the Company’s Japanese subsidiary issued approximately $98 of 1.05% promissory notes through a private placement. Interest is payable semiannually, and principal is due in May 2023. These notes are included in other long-term debt in the table below and are classified as a Level 3 measurement.
The carrying value and estimated fair value of the Company’s long-term debt consisted of the following:
 
 
May 12, 2013
 
September 2, 2012
 
Carrying
Value
 
Fair
Value
 
Carrying
Value
 
Fair
Value
5.5% Senior Notes due March 2017
$
1,098

 
$
1,289

 
$
1,097

 
$
1,325

0.65% Senior Notes due December 2015
1,199

 
1,203

 
0

 
0

1.125% Senior Notes due December 2017
1,100

 
1,103

 
0

 
0

1.7% Senior Notes due December 2019
1,197

 
1,208

 
0

 
0

Other long-term debt
293

 
303

 
285

 
338

Total long-term debt
4,887

 
5,106

 
1,382

 
1,663

Less current portion
0

 
0

 
1

 
1

Long-term debt, excluding current portion
$
4,887

 
$
5,106

 
$
1,381

 
$
1,662

The estimated fair value of the Company's debt was based primarily on reported market values, recently completed market transactions, and estimates based upon interest rates, maturities, and credit. Substantially all of the Company's long-term debt is classified as Level 2.
Note 5—Equity and Comprehensive Income
Dividends
The Company’s current quarterly dividend rate is $0.31 per share, compared to the $0.275 per share rate declared subsequent to the end of the third quarter of 2012. On November 28, 2012, the Board of Directors declared a special cash dividend of $7.00 per share, which was paid on December 18, 2012.
Stock Repurchase Programs
There was no stock repurchase activity in the third quarter of 2013. In the third quarter of 2012, we repurchased 1,488,000 shares, at an average price of $87.41, totaling $130. In the first thirty-six weeks of 2013 and 2012, we repurchased 357,000 shares and 5,369,000 shares, at an average price of $96.41 and $83.38, for a total expenditure of $34 and $448, respectively. The remaining amount available for stock repurchases under our approved plan was $3,055 at May 12, 2013. These amounts differ from the stock repurchase balances in the condensed consolidated statements of cash flows due to changes in unsettled stock repurchases at the end of the quarter. Purchases are made from time-to-time, as conditions warrant, in the open market or in block purchases, and pursuant to plans under SEC Rule 10b5-1. Repurchased shares are retired, in accordance with the Washington Business Corporation Act.

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Note 5—Equity and Comprehensive Income (Continued)

Components of Equity and Comprehensive Income
The following tables show the changes in equity attributable to Costco and the noncontrolling interests of consolidated subsidiaries and other entities in which the Company has a controlling interest, but less than total ownership:
 
 
Attributable
to Costco
 
Noncontrolling
Interests
 
Total
Equity
Equity at September 2, 2012
$
12,361

 
$
157

 
$
12,518

Comprehensive income:
 
 
 
 
 
Net income
1,422

 
17

 
1,439

Foreign-currency translation adjustment and other, net
(75
)
 
1

 
(74
)
Comprehensive income
1,347

 
18

 
1,365

Stock-based compensation
210

 
0

 
210

Stock options exercised, including tax effects
67

 
0

 
67

Release of vested restricted stock units (RSUs), including tax effects
(85
)
 
0

 
(85
)
Conversion of convertible notes
30

 
0

 
30

Repurchases of common stock
(34
)
 
0

 
(34
)
Cash dividends declared
(3,424
)
 
0

 
(3,424
)
Equity at May 12, 2013
$
10,472

 
$
175

 
$
10,647

 
Attributable
to Costco
 
Noncontrolling
Interests
 
Total
Equity
Equity at August 28, 2011
$
12,002

 
$
571

 
$
12,573

Comprehensive income:
 
 
 
 
 
Net income
1,100

 
45

 
1,145

Foreign-currency translation adjustment and other, net
(54
)
 
(18
)
 
(72
)
Comprehensive income
1,046

 
27

 
1,073

Stock-based compensation
179

 
0

 
179

Stock options exercised, including tax effects
89

 
0

 
89

Release of vested RSUs, including tax effects
(75
)
 
0

 
(75
)
Conversion of convertible notes
1

 
0

 
1

Repurchases of common stock
(448
)
 
0

 
(448
)
Cash dividends declared
(209
)
 
0

 
(209
)
Equity at May 6, 2012
$
12,585

 
$
598

 
$
13,183

Note 6—Stock-Based Compensation Plans
In the second quarter of fiscal 2012, the Fifth Restated 2002 Stock Incentive Plan was amended following shareholder approval and is now referred to as the Sixth Restated 2002 Stock Incentive Plan (Sixth Plan). The Sixth Plan initially authorized the issuance of 16,000,000 shares (9,143,000 RSUs) of common stock for future grants in addition to shares authorized under the previous plan. Each RSU issued is counted as 1.75 shares toward the limit of shares available. The Company issues new shares of common stock upon exercise of stock options and vesting of RSUs. RSUs are settled in shares, and delivered to participants annually, net of minimum statutory withholding taxes.
As required by the Company’s Sixth Plan, in conjunction with the special cash dividend discussed in Note 5, adjustments were made to awards outstanding on the dividend record date to preserve their value following the special cash dividend, as follows: (i) the number of shares subject to outstanding RSUs was increased; and (ii) the exercise prices of outstanding stock options were reduced and the number of shares subject to such options was increased. Approximately 2,905,000 stock options were adjusted, and approximately 9,676,000 RSUs were adjusted. These adjustments did not result in additional share-based compensation expense, as the fair value of the outstanding awards immediately following the payment of the special cash dividend was equal to the fair value immediately prior to such distribution.

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Note 6—Stock-Based Compensation Plans (Continued)

As further required by the Sixth Plan, the maximum number of shares issuable under the Sixth Plan was proportionally adjusted, which resulted in an additional 778,000 shares available to be granted.
Summary of Stock Option Activity
All outstanding stock options were fully vested and exercisable at May 12, 2013 and September 2, 2012. The following table summarizes stock option transactions during the first thirty-six weeks of 2013:
 
 
Number
Of
Options
(in 000’s)
 
Weighted-
Average
Exercise
Price
 
Weighted-
Average
Remaining
Contractual
Term
(in years)
 
Aggregate
Intrinsic
Value(1)
Outstanding at September 2, 2012
3,161

 
$
40.90

 
 
 
 
Exercised
(1,302
)
 
35.97

 
 
 
 
Special cash dividend
221

 
N/A

 
 
 
 
Outstanding at May 12, 2013
2,080

 
$
39.63

 
1.68
 
$
146

 
(1)
The difference between the exercise price and market value of common stock at May 12, 2013.
The tax benefits realized, derived from the compensation deductions resulting from option exercises, and intrinsic value related to total stock options exercised during the first thirty-six weeks of 2013 and 2012 are provided in the following table:
 
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
Actual tax benefit realized for stock options exercised
$
30

 
$
29

Intrinsic value of stock options exercised (1)
$
84

 
$
82

 
(1)
The difference between the exercise price and market value of common stock measured at each individual exercise date.
Summary of Restricted Stock Unit Activity
At May 12, 2013, 11,116,000 shares were available to be granted as RSUs.
The following awards were outstanding at the end of the first thirty-six weeks of 2013:
9,443,000 time-based RSUs that vest upon continued employment over specified periods of time;
376,000 performance-based RSUs granted to certain executive officers of the Company for which the performance targets have been met. Further restrictions lapse upon achievement of continued employment over specified periods of time; and
350,000 performance-based RSUs to be granted to executive officers of the Company upon achievement of performance targets for fiscal 2013, as determined by the Compensation Committee of the Board of Directors after the end of the fiscal year. These awards are included in the table below and the Company recognized compensation expense for these awards as it is currently deemed probable that the targets will be achieved.

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Table of Contents
Note 6—Stock-Based Compensation Plans (Continued)

The following table summarizes RSU transactions during the first thirty-six weeks of 2013:
 
 
Number of
Units
(in 000’s)
 
Weighted-
Average
Grant Date
Fair Value
Non-vested at September 2, 2012
9,260

 
$
66.14

Granted
4,192

 
90.99

Vested and delivered
(3,842
)
 
67.15

Forfeited
(173
)
 
76.47

Special cash dividend
732

 
N/A

Non-vested at May 12, 2013
10,169

 
$
73.40

The remaining unrecognized compensation cost related to non-vested RSUs at May 12, 2013, was $582 and the weighted-average period of time over which this cost will be recognized is 1.76 years.
Summary of Stock-Based Compensation
The following table summarizes stock-based compensation expense and the related tax benefits under the Company’s plans:
 
 
12 Weeks Ended
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Total stock-based compensation expense before income taxes
$
51

 
$
45

 
$
210

 
$
179

Less recognized income tax benefit
(16
)
 
(15
)
 
(69
)
 
(59
)
Total stock-based compensation expense, net of income taxes
$
35

 
$
30

 
$
141

 
$
120

Note 7—Income Taxes
The Company’s reported effective income tax rates for the twelve and thirty-six weeks ended May 12, 2013, were 34.8% and 31.4%, respectively, compared to 34.8% and 36.4% for the twelve and thirty-six weeks ended May 6, 2012, respectively, in the accompanying condensed consolidated statements of income, which includes the net impact of discrete tax items. The current year effective tax rate was favorably impacted by discrete tax benefits of $72, primarily due to a $62 tax deduction recorded in the second quarter in connection with the special cash dividend paid by the Company to employees through the Company’s 401(k) Retirement Plan.
The Company’s effective tax rate for the first thirty-six weeks of 2012 was adversely impacted by a net discrete expense of $23 relating primarily to the adverse impact of an audit of Costco Mexico by the Mexican tax authority and the tax effects of nondeductible expenses for the Company’s contributions to an initiative reforming alcohol beverage laws in Washington State.


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Note 8—Net Income Per Common and Common Equivalent Share
The following table shows the amounts used in computing net income per share and the effect on net income and the weighted average number of shares of potentially dilutive common shares outstanding (shares in 000’s):
 
 
12 Weeks Ended
 
36 Weeks Ended
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Net income available to common stockholders after assumed conversions of dilutive securities
$
459

 
$
386

 
$
1,422

 
$
1,101

Weighted average number of common shares used in basic net income per common share
436,488

 
433,791

 
435,293

 
434,180

RSUs and stock options
4,260

 
4,532

 
4,142

 
4,713

Conversion of convertible notes
32

 
843

 
303

 
855

Weighted average number of common shares and dilutive potential of common stock used in diluted net income per share
440,780

 
439,166

 
439,738

 
439,748

Anti-dilutive RSUs
0

 
0

 
0

 
0

Note 9—Commitments and Contingencies
Legal Proceedings
The Company is involved in a number of claims, proceedings and litigation arising from its business and property ownership. In accordance with applicable accounting guidance, the Company establishes an accrual for legal proceedings if and when those matters reach a stage where they present loss contingencies that are both probable and reasonably estimable. In such cases, there may be a possible exposure to loss in excess of any amounts accrued. The Company monitors those matters for developments that would affect the likelihood of a loss and the accrued amount, if any, thereof, and adjusts the amount as appropriate. If the loss contingency at issue is not both probable and reasonably estimable, the Company does not establish an accrual, but will continue to monitor the matter for developments that will make the loss contingency both probable and reasonably estimable. As of the date of this report, the Company has not recorded an accrual with respect to any matter described below. In each case, there is a reasonable possibility that a loss may be incurred. The possible loss or range of loss cannot in our view, however, be reasonably estimated because, among other things, (i) the remedies or penalties sought are indeterminate or unspecified; (ii) the legal and/or factual theories are not well developed; and/or (iii) the matters involve complex or novel legal theories or a large number of parties.
The Company is a defendant in the following matters, among others:
A case brought as a class action on behalf of certain present and former female managers, in which plaintiffs allege denial of promotion based on gender in violation of Title VII of the Civil Rights Act of 1964 and California state law. Shirley “Rae” Ellis v. Costco Wholesale Corp., United States District Court (San Francisco), Case No. C-4-3341-MHP. Plaintiffs seek compensatory damages, punitive damages, injunctive relief, interest, and attorneys’ fees. Class certification was granted by the district court on January 11, 2007. On September 16, 2011, the United States Court of Appeals for the Ninth Circuit reversed the order of class certification and remanded to the district court for further proceedings. On September 25, 2012, the district court certified a class of women in the United States denied promotion to warehouse general manager or assistant general manager since January 3, 2002. Currently the class is believed to be approximately 1,150 people. A trial has been set for January 2014.
Numerous putative class actions have been brought around the United States against motor fuel retailers, including the Company, alleging that they have been overcharging consumers by selling gasoline or diesel that is warmer than 60 degrees without adjusting the volume sold to compensate for heat-related expansion or disclosing the effect of such expansion on the energy equivalent received by the consumer. The Company is named in the following actions: Raphael Sagalyn, et al., v. Chevron USA, Inc., et al., Case No. 7-430 (D. Md.); Phyllis Lerner, et al., v. Costco Wholesale Corporation, et al., Case No. 7-1216 (C.D. Cal.); Linda A. Williams, et al., v. BP Corporation North America, Inc., et al., Case No. 7-179 (M.D. Ala.); James Graham, et al. v. Chevron USA, Inc., et al., Civil Action No. 7-193 (E.D. Va.); Betty A. Delgado, et al., v. Allsups, Convenience Stores, Inc., et al., Case No. 7-202 (D.N.M.); Gary Kohut, et al. v. Chevron USA, Inc., et al., Case No. 7-285 (D. Nev.); Mark Rushing, et al., v. Alon USA, Inc., et al., Case No. 6-7621 (N.D. Cal.);

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Table of Contents
Note 9—Commitments and Contingencies (Continued)

James Vanderbilt, et al., v. BP Corporation North America, Inc., et al., Case No. 6-1052 (W.D. Mo.); Zachary Wilson, et al., v. Ampride, Inc., et al., Case No. 6-2582 (D. Kan.); Diane Foster, et al., v. BP North America Petroleum, Inc., et al., Case No. 7-2059 (W.D. Tenn.); Mara Redstone, et al., v. Chevron USA, Inc., et al., Case No. 7-20751 (S.D. Fla.); Fred Aguirre, et al. v. BP West Coast Products LLC, et al., Case No. 7-1534 (N.D. Cal.); J.C. Wash, et al., v. Chevron USA, Inc., et al.; Case No. 4:7cv37 (E.D. Mo.); Jonathan Charles Conlin, et al., v. Chevron USA, Inc., et al.; Case No. 7 317 (M.D. Tenn.); William Barker, et al. v. Chevron USA, Inc., et al.; Case No. 7-cv-293 (D.N.M.); Melissa J. Couch, et al. v. BP Products North America, Inc., et al., Case No. 7cv291 (E.D. Tex.); S. Garrett Cook, Jr., et al., v. Hess Corporation, et al., Case No. 7cv750 (M.D. Ala.); Jeff Jenkins, et al. v. Amoco Oil Company, et al., Case No. 7-cv-661 (D. Utah); and Mark Wyatt, et al., v. B. P. America Corp., et al., Case No. 7-1754 (S.D. Cal.). On June 18, 2007, the Judicial Panel on Multidistrict Litigation assigned the action, entitled In re Motor Fuel Temperature Sales Practices Litigation, MDL Docket No 1840, to Judge Kathryn Vratil in the United States District Court for the District of Kansas. On April 12, 2009, the Company agreed to settle the actions in which it is named as a defendant. Under the settlement, the Company agreed, to the extent allowed by law, to install over five years from the effective date of the settlement temperature-correcting dispensers in the States of Alabama, Arizona, California, Florida, Georgia, Kentucky, Nevada, New Mexico, North Carolina, South Carolina, Tennessee, Texas, Utah, and Virginia. Other than payments to class representatives, the settlement does not provide for cash payments to class members. On September 22, 2011, the court preliminarily approved a revised settlement, which did not materially alter the terms. On April 24, 2012, the court granted final approval of the revised settlement. A class member who objected has filed a notice of appeal from the order approving the settlement. Plaintiffs have moved for an award of $10 million in attorneys’ fees, as well as an award of costs and payments to class representatives. The Company has opposed the motion.
On October 4, 2006, the Company received a grand jury subpoena from the United States Attorney’s Office for the Central District of California, seeking records relating to the Company’s receipt and handling of hazardous merchandise returned by Costco members and other records. The Company has entered into tolling agreements with the United States Attorney’s Office.
The Environmental Protection Agency (EPA) issued an Information Request to the Company, dated November 1, 2007, regarding warehouses in the states of Arizona, California, Hawaii, and Nevada and relating to compliance with regulations concerning air-conditioning and refrigeration equipment. On March 4, 2009, the Company was advised by the Department of Justice that the Department was prepared to allege that the Company has committed at least nineteen violations of the leak-repair requirements of 40 C.F.R. § 82.156(i) and at least seventy-four violations of the recordkeeping requirements of 40 C.F.R. § 82.166(k), (m) at warehouses in these states. The Company has responded to these allegations, is engaged in communications with the Department about these and additional allegations, and has entered into tolling agreements. Substantial penalties may be levied for violations of the Clean Air Act. The Company is cooperating with this inquiry.
On October 7, 2009, the District Attorneys for San Diego, San Joaquin and Solano Counties filed a complaint, People of the State of California v. Costco Wholesale Corp., et al, No. 37-2009-99912 (Superior Court for the County of San Diego), alleging on information and belief that the Company has violated and continues to violate provisions of the California Health and Safety Code and the Business and Professions Code through the use of certain spill clean-up materials at its gasoline stations. Relief sought includes, among other things, preliminary and permanent injunctive relief, civil penalties, and costs and attorneys’ fees.
The Company has received notices from most states stating that they have appointed an agent to conduct an examination of the books and records of the Company to determine whether it has complied with state unclaimed property laws. In addition to seeking the turnover of unclaimed property subject to escheat laws, the states may seek interest, penalties, costs of examinations, and other relief.
The Company does not believe that any pending claim, proceeding or litigation, either alone or in the aggregate, will have a material adverse effect on the Company’s financial position; however, it is possible that an unfavorable outcome of some or all of the matters, however unlikely, could result in a charge that might be material to the results of an individual fiscal quarter.


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Note 10—Segment Reporting
The Company and its subsidiaries are principally engaged in the operation of membership warehouses in the U.S., Canada, Mexico, the United Kingdom, Japan, Australia, and through majority-owned subsidiaries in Taiwan and Korea. The Company’s reportable segments are largely based on management’s organization of the operating segments for operational decisions and assessments of financial performance, which considers geographic locations. The material accounting policies of the segments are the same as described in the notes to the consolidated financial statements included in the Company’s annual report filed on Form 10-K for the fiscal year ended September 2, 2012, and Note 1 above. All material inter-segment net sales and expenses have been eliminated in computing total revenue and operating income. Certain operating expenses, predominantly stock-based compensation, are incurred on behalf of the Company’s Canadian and Other International Operations, but are included in the U.S. Operations because those costs are not allocated internally and generally come under the responsibility of the Company’s U.S. management team.
 
United States
Operations
 
Canadian
Operations
 
Other
International
Operations
 
Total
Twelve Weeks Ended May 12, 2013
 
 
 
 
 
 
 
Total revenue
$
17,444

 
$
3,857

 
$
2,782

 
$
24,083

Operating income
452

 
172

 
98

 
722

Depreciation and amortization
163

 
29

 
29

 
221

Additions to property and equipment
194

 
30

 
212

 
436

Twelve Weeks Ended May 6, 2012
 
 
 
 
 
 
 
Total revenue
$
16,203

 
$
3,474

 
$
2,647

 
$
22,324

Operating income
356

 
157

 
110

 
623

Depreciation and amortization
150

 
25

 
27

 
202

Additions to property and equipment
196

 
23

 
49

 
268

Thirty-six Weeks Ended May 12, 2013
 
 
 
 
 
 
 
Total revenue
$
52,156

 
$
11,748

 
$
8,765

 
$
72,669

Operating income
1,248

 
504

 
347

 
2,099

Depreciation and amortization
478

 
85

 
88

 
651

Additions to property and equipment
704

 
122

 
553

 
1,379

Net property and equipment
9,456

 
1,655

 
2,435

 
13,546

Total assets
20,518

 
4,578

 
4,910

 
30,006

Thirty-six Weeks Ended May 6, 2012
 
 
 
 
 
 
 
Total revenue
$
48,428

 
$
10,477

 
$
8,014

 
$
66,919

Operating income
1,046

 
436

 
328

 
1,810

Depreciation and amortization
460

 
79

 
77

 
616

Additions to property and equipment
628

 
110

 
162

 
900

Net property and equipment
9,012

 
1,631

 
1,953

 
12,596

Total assets
19,121

 
4,065

 
4,650

 
27,836

Year Ended September 2, 2012
 
 
 
 
 
 
 
Total revenue
$
71,776

 
$
15,717

 
$
11,644

 
$
99,137

Operating income
1,632

 
668

 
459

 
2,759

Depreciation and amortization
667

 
117

 
124

 
908

Additions to property and equipment
1,012

 
170

 
298

 
1,480

Net property and equipment
9,236

 
1,664

 
2,061

 
12,961

Total assets
18,401

 
4,237

 
4,502

 
27,140


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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (amounts in millions, except per share, membership fee data, and warehouse number data)
FORWARD-LOOKING STATEMENTS
Certain statements contained in this Report constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, Section 27A of the Securities Act of 1933, and Section 21E of the Securities Exchange Act of 1934. They include statements that address activities, events, conditions or developments that we expect or anticipate may occur in the future and may relate to such matters as sales growth, increases in comparable store sales, cannibalization of existing locations by new openings, price or fee changes, earnings performance, earnings per share, stock-based compensation expense, warehouse openings and closures, the amount we expect to spend on our expansion plans, the effect of adopting certain accounting standards, future financial reporting, financing, margins, return on invested capital, strategic direction, expense controls, membership renewal rates, shopping frequency, litigation impact and the demand for our products and services. Forward-looking statements may also be identified by the words “believe,” “project,” “expect,” “anticipate,” “estimate,” “intend,” “strategy,” “future,” “opportunity,” “plan,” “may,” “should,” “will,” “would,” “will be,” “will continue,” “will likely result,” and similar expressions. Such forward-looking statements involve risks and uncertainties that may cause actual events, results, or performance to differ materially from those indicated by such statements. These risks and uncertainties include, but are not limited to, domestic and international economic conditions, including exchange rates, the effects of competition and regulation, uncertainties in the financial markets, consumer and small business spending patterns and debt levels, conditions affecting the acquisition, development, ownership or use of real estate, actions of vendors, rising costs associated with employees (including health care costs), energy and certain commodities, geopolitical conditions, and other risks identified from time to time in the Company’s public statements and reports filed with the SEC. Forward-looking statements speak only as of the date they are made, and we do not undertake to update these forward-looking statements, except as required by law.
This management discussion should be read in conjunction with the management discussion included in our fiscal 2012 annual report on Form 10-K, previously filed with the SEC.
OVERVIEW
We operate membership warehouses based on the concept that offering our members low prices on a limited selection of nationally branded and select private-label products in a wide range of merchandise categories will produce high sales volumes and rapid inventory turnover. This turnover, when combined with the operating efficiencies achieved by volume purchasing, efficient distribution and reduced handling of merchandise in no-frills, self-service warehouse facilities, enables us to operate profitably at significantly lower gross margins than traditional wholesalers, mass merchandisers, supermarkets, and supercenters.
We believe that the most important driver of increasing our profitability is sales growth, particularly comparable sales growth (we report comparable sales as sales in warehouses open for at least one year, including relocations, remodels, and expansions). Comparable sales growth is achieved through increasing the frequency with which our members shop and the amounts that they spend on each visit. Sales comparisons can also be particularly influenced by two factors that are beyond our control, including fluctuations in currency exchange rates (with respect to the consolidation of the results of our international operations) and changes in the cost of gasoline and associated competitive conditions (primarily impacting domestic operations). The higher our comparable sales exclusive of currency fluctuations, the more we can leverage certain of our selling, general and administrative expenses, reducing them as a percentage of sales and enhancing profitability. Generating comparable sales growth is foremost a question of making available to our members the right merchandise at the right prices, a skill that we believe we have repeatedly demonstrated over the long term. Another substantial factor in sales growth is the health of the economies in which we do business, especially the United States. Sales growth and gross margins are also impacted by our competition, which is vigorous and widespread, including a wide range of global, national and regional wholesalers and retailers, including supermarkets, supercenter stores, and department and specialty stores, gasoline stations, and internet-based retailers. While we cannot control or reliably predict general economic health or changes in competition, we believe that we have been successful historically in adapting our business to these changes, such as through adjustments to our pricing and to our merchandise mix, including increasing the penetration of our private label items. Our philosophy is not to focus in the short term on maximizing prices that our members can be charged, but to maintain what we believe is a perception among our members of our “pricing authority” – consistently providing the most competitive values. This may cause us, for example, to absorb increases in merchandise costs at certain times rather than immediately passing them along to our members, negatively impacting gross margin.

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


We also achieve sales growth by opening new warehouses and, to a much lesser extent, relocating existing warehouses to larger and better-located facilities. As our warehouse base grows, available and desirable potential sites become more difficult to secure, and square footage growth becomes a comparatively less substantial component of growth. However, the negative aspects of such growth, including lower initial operating profitability relative to existing warehouses and cannibalization of sales at existing warehouses when openings occur in existing markets, are lessened. Our rate of square footage growth is higher in foreign markets, due to the smaller base in those markets, and we expect that to continue.
Our financial performance also depends heavily on our ability to control costs. While we believe that we have achieved successes in this area historically, some significant costs are partially outside our control, most particularly health care and utility expenses. With respect to expenses relating to the compensation of our employees, our philosophy is not to seek to minimize the wages and benefits that they earn. Rather, we believe that achieving our longer-term objectives of reducing employee turnover and enhancing employee satisfaction requires maintaining compensation levels that are better than the industry average for much of our workforce. This may cause us, for example, to absorb costs that other employers might seek to pass through to their workforces. Because our business is operated on very low margins, modest changes in various items in the income statement, particularly gross margin and selling, general and administrative expenses, can have substantial impacts on net income.
Our operating model is generally the same across our U.S., Canada, and Other International operating segments (see Part I, Item 1, Note 10 of this Report). Certain countries in the Other International segment have relatively higher rates of square footage growth, lower wages and benefit costs as a percentage of country sales, and/or less direct membership warehouse competition. Additionally, we operate our lower-margin gasoline business only in the United States and Canada.
In discussions of our consolidated operating results, we refer to the impact of changes in foreign currencies relative to the U.S. dollar, which are references to the differences between the foreign-exchange rates we use to convert the financial results of our international operations from local currencies into U.S. dollars for financial reporting purposes. This impact of foreign-exchange rate changes is typically calculated as the difference between the current period’s currency exchange rates and the comparable prior-year period’s currency exchange rates.
Historically (prior to the July 2012 acquisition of the 50% noncontrolling interest), our operations in Mexico were through a 50% owned joint venture. For the twelve and thirty-six weeks ended May 6, 2012, the financial position and results of Mexico’s operations are fully consolidated and the joint venture partner’s share is included in “net income attributable to noncontrolling interests”. In July 2012, we acquired the remaining 50% interest in Mexico from our joint venture partner, and therefore, have included 100% of Mexico’s operations within “net income attributable to Costco” for the twelve and thirty-six weeks weeks ended May 12, 2013.
Our fiscal year ends on the Sunday closest to August 31. References to the third quarters of 2013 and 2012 relate to the twelve-week fiscal quarters ended May 12, 2013, and May 6, 2012, respectively. References to the first thirty-six weeks of 2013 and 2012 relate to the thirty-six weeks ended May 12, 2013, and May 6, 2012, respectively. Certain percentages presented are calculated using actual results prior to rounding. Unless otherwise noted, references to net income relate to net income attributable to Costco.

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


Key items for the third quarter of 2013 as compared to the third quarter of 2012 include:
Net sales increased 8% to $23,552, driven by a 5% increase in comparable sales and sales at the 25 net new warehouses opened since the end of the third quarter of fiscal 2012. Net sales were negatively impacted by the weakening of certain foreign currencies against the U.S. dollar and by decreases in the price of gasoline;
Membership fees increased 12% to $531, primarily due to the impact of raising our annual membership fees in fiscal 2012, and new membership sign-ups and higher membership renewal rates at warehouses open for more than one year;
Gross margin (net sales less merchandise costs) as a percentage of net sales increased 12 basis points;
Selling, general and administrative (SG&A) expenses as a percentage of net sales improved three basis points;
Net income increased 19% to $459, or $1.04 per diluted share, compared to $386, or $0.88 per diluted share; and
On April 30, 2013, our Board of Directors declared a quarterly cash dividend in the amount of $0.31 per share (reflecting an increase of 13%), which was paid subsequent to the end of the third quarter. 
RESULTS OF OPERATIONS
Net Sales
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Net sales
 
$
23,552

 
$
21,849

 
$
71,099

 
$
65,538

Increases in net sales:
 
 
 
 
 
 
 
 
U.S.
 
8
%
 
7
%
 
8
%
 
9
%
International
 
8
%
 
12
%
 
11
%
 
13
%
Total Company
 
8
%
 
8
%
 
8
%
 
10
%
Increases in comparable warehouse sales:
 
 
 
 
 
 
 
 
U.S.
 
6
%
 
5
%
 
6
%
 
7
%
International
 
4
%
 
5
%
 
6
%
 
8
%
Total Company
 
5
%
 
5
%
 
6
%
 
8
%
Increases in comparable warehouse sales excluding the impact of changes in gasoline prices and foreign currencies:
 
 
 
 
 
 
 
 
U.S.
 
7
%
 
4
%
 
6
%
 
6
%
International
 
7
%
 
8
%
 
6
%
 
9
%
Total Company
 
7
%
 
5
%
 
6
%
 
7
%
Net Sales
Net sales increased $1,703 or 8%, and $5,561 or 8% in the third quarter and first thirty-six weeks of 2013, respectively. These increases were attributable to an increase in comparable warehouse sales and sales at the 25 net new warehouses opened since the end of the third quarter of fiscal 2012.
Changes in foreign currencies relative to the U.S. dollar negatively impacted net sales during the third quarter of 2013 by approximately $185, or 85 basis points, but had an overall positive impact during the first thirty-six weeks of 2013 by approximately $66, or 10 basis points. The negative impact in the third quarter was primarily due to changes in the Japanese yen of approximately $97 and the Canadian dollar of approximately $96. Gasoline price deflation negatively impacted net sales by approximately $141 or 65 basis points during the third quarter, due to a 5% decrease in the average sales price per gallon.

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


Comparable Sales
Comparable sales increased 5% and 6% in the third quarter and first thirty-six weeks of 2013, respectively, and were positively impacted by an increase in shopping frequency. The average amount spent by our members also positively impacted sales for the first thirty-six weeks of 2013. Changes in foreign currencies relative to the U.S. dollar, as well as gasoline price deflation, negatively impacted comparable sales results during the third quarter of 2013. The increase in comparable sales includes the negative impact of cannibalization (established warehouses losing sales to newly opened locations).
 
Membership Fees
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Membership fees
 
$
531

 
$
475

 
$
1,570

 
$
1,381

Membership fees as a percent of net sales
 
2.25
%
 
2.17
%
 
2.21
%
 
2.11
%
Total cardholders (000’s)
 
69,900

 
66,500

 
69,900

 
66,500

Membership fee revenue increased 12% and 14% in the third quarter and first thirty-six weeks of 2013, respectively. These increases were due to the impact of raising our annual membership fees, new membership sign-ups and higher membership renewal rates at warehouses open for more than one year, and membership sign-ups at new warehouses opened since the end of the third quarter of fiscal 2012. For the third quarter of 2013, our member renewal rates have increased slightly relative to the third quarter of 2012, currently at approximately 89.9% in the U.S. and Canada, and approximately 86.4% on a worldwide basis.
We increased our annual membership fee in the U.S. and Canada effective November 1, 2011, for new members, and January 1, 2012, for renewal members. We account for membership fee revenue, net of estimated refunds, on a deferred basis, whereby revenue is recognized ratably over the one-year membership period. These fee increases had a positive impact on membership fee revenues of approximately $29 and $94 in the third quarter and first thirty-six weeks of 2013, respectively, and will continue to have a significant impact through the fourth quarter of fiscal 2013.
Gross Margin
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Net sales
 
$
23,552

 
$
21,849

 
$
71,099

 
$
65,538

Less merchandise costs
 
21,038

 
19,543

 
63,530

 
58,613

Gross margin
 
$
2,514

 
$
2,306

 
$
7,569

 
$
6,925

Gross margin as a percent of net sales
 
10.67
%
 
10.55
%
 
10.65
%
 
10.57
%

Quarterly results
Gross margin as a percentage of net sales increased 12 basis points compared to the third quarter of 2012. Gross margin in our core merchandise categories (food and sundries, hardlines, softlines, and fresh foods) when expressed as a percentage of net sales decreased five basis points. Gross margin for core merchandise categories, when expressed as a percent of core merchandise (rather than net) sales, decreased 13 basis points due to margin decreases across all categories, resulting from our continued investment in merchandise pricing. The gross margin comparison, as a percentage of net sales, was positively impacted by a non-recurring legal settlement received in the quarter which positively impacted gross margin by seven basis points. Gross margin was also positively impacted by six basis points due to an $8 LIFO benefit compared to a charge of $6 in 2012. Increased penetration of the Executive Membership 2% reward program negatively impacted gross margin by two basis points, due to increased spending by Executive Members. Warehouse ancillary and other business gross margin increased by six basis points predominately in our

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


optical and hearing aid businesses, partially offset by a decrease in our pharmacy business. Excluding the effect of gasoline price deflation on net sales, gross margin as a percentage of net sales increased five basis points.
Gross margin on a geographic segment basis, when expressed as a percentage of the segment's own sales (gross margin percentage), increased in our U.S. operations primarily due to improvements in fresh foods and warehouse ancillary and other businesses. The LIFO benefit and the non-recurring legal settlement also benefited our U.S. operations. The gross margin percentage in our Canadian operations decreased across all categories due to our continued investment in merchandise pricing. The gross margin percentage in our Other International operations decreased, primarily in fresh foods.
Year-to-date results
Gross margin as a percentage of net sales increased eight basis points compared to the first thirty-six weeks of 2012. Gross margin in our core merchandise categories when expressed as a percentage of net sales decreased four basis points compared to 2012. Gross margin for core merchandise categories, when expressed as a percent of core merchandise (rather than net) sales decreased two basis points compared to the prior period. The gross margin comparison, as a percentage of net sales, was positively impacted by four basis points due to a $19 LIFO benefit compared to a charge of $9 in the prior year. Also, the non-recurring legal settlement received in the third quarter positively impacted gross margin by two basis points. Increased penetration of the Executive Membership 2% reward program negatively impacted gross margin by two basis points due to increased spending by Executive Members. Warehouse ancillary and other businesses gross margin increased eight basis points predominately in our gasoline and hearing aid businesses.
The gross margin percentage in our U.S. operations increased due to improvements in warehouse ancillary and other businesses. The LIFO benefit and the non-recurring legal settlement also benefited our U.S operations. The gross margin percentage in our Canadian operations decreased across all categories due to our continued investment in merchandise pricing. The gross margin percentage in our Other International operations was largely unchanged.
Selling, General and Administrative Expenses
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
SG&A expenses
 
$
2,313

 
$
2,152

 
$
7,006

 
$
6,474

SG&A expense as a percent of net sales
 
9.82
%
 
9.85
%
 
9.85
%
 
9.88
%

SG&A expenses as a percentage of net sales improved three basis points compared to the third quarter of 2012. Our warehouse operating costs as a percentage of net sales improved two basis points, largely due to leveraging of our payroll and benefit costs in our Canadian and U.S. operations as a result of increased net sales. Additionally, central operating costs improved two basis points due to leveraging of payroll and benefit costs in our U.S. operations, notwithstanding the negative effect of our continued investment in the modernization of our information systems. These improvements were offset by higher stock compensation expense in our U.S. operations, which increased our SG&A percentage by one basis point. Excluding the effect of gasoline price deflation on net sales, SG&A as a percentage of net sales improved nine basis points.
SG&A expenses as a percentage of net sales improved three basis points compared to the first thirty-six weeks of 2012. Our warehouse operating costs improved four basis points largely due to leveraging of our payroll and benefit costs in our Canadian and U.S. operations as a result of increased net sales. In addition, contributions made to an initiative reforming alcohol beverage laws in Washington State in the first quarter of 2012, with no comparable charge in 2013, resulted in a positive impact of three basis points. These improvements were offset by higher stock compensation expense and higher central operating costs, predominately related to the continuing modernization of our information systems and related activities, in our U.S. operations, which increased our SG&A percentage by two basis points each.

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


Preopening Expenses
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Preopening expenses
 
$
10

 
$
6

 
$
34

 
$
22

Warehouse openings, including relocations
 
5

 
4

 
19

 
10

Preopening expenses include costs for startup operations related to new warehouses and the expansion of ancillary operations at existing warehouses. Preopening expenses vary due to the number of warehouse openings, the timing of the opening relative to our quarter end, whether the warehouse is owned or leased, and whether the opening is in an existing, new, or international market. We opened four warehouses in our Other International operating segment in the third quarter of 2013 compared to two in 2012. Additionally, we opened six warehouses in our Other International operating segment in the first thirty-six weeks of 2013 compared to four in 2012.
Interest Expense
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Interest expense
 
$
25

 
$
19

 
$
63

 
$
73

Interest expense in the third quarter and first thirty-six weeks of 2013 primarily relates to our $1,100 of 5.5% Senior Notes issued in fiscal 2007 and our $3,500 of Senior Notes issued in December 2012. In the third quarter and first thirty-six weeks of 2012, interest expense also included interest related to our $900 of 5.3% Senior Notes issued in fiscal 2007, which were paid off in March 2012.
Interest Income and Other, Net
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Interest income
 
$
9

 
$
11

 
$
29

 
$
33

Foreign-currency transactions gains (losses), net
 
0

 
3

 
21

 
23

Other, net
 
6

 
4

 
11

 
9

Interest income and other, net
 
$
15

 
$
18

 
$
61

 
$
65

The decrease in interest income in both the third quarter and the first thirty-six weeks of 2013 was primarily attributable to lower cash balances in some of our international locations. The decrease in foreign-currency transactions gains, net in the third quarter was attributable to the negative impact of mark-to-market adjustments related to forward foreign exchange contracts entered into by our foreign subsidiaries as the U.S. dollar weakened in certain international locations compared to the prior year. See Derivatives and Foreign Currency sections in Part I, Item 1, Note 1 of this Report. This decrease was partially offset by the revaluation or settlement of monetary assets and monetary liabilities during the quarter.

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Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


Provision for Income Taxes
 
 
 
12 Weeks Ended
 
36 Weeks Ended
 
 
May 12,
2013
 
May 6,
2012
 
May 12,
2013
 
May 6,
2012
Provision for income taxes
 
$
248

 
$
217

 
$
658

 
$
657

Effective tax rate
 
34.8
%
 
34.8
%
 
31.4
%
 
36.4
%
 
The effective tax rate for the first thirty-six weeks of 2013 was favorably impacted by discrete tax benefits of $72, primarily due to a $62 tax benefit recorded in the second quarter in connection with the special cash dividend paid to employees through our 401(k) Retirement Plan. Dividends paid on these shares are deductible for U.S. income tax purposes.
Our effective tax rate for the first thirty-six weeks of 2012 was adversely impacted by a net discrete expense of $23 relating primarily to the adverse impact of an audit of Costco Mexico by the Mexican tax authority and the tax effects of nondeductible expenses for our contributions to an initiative reforming alcohol beverage laws in Washington State.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flows
The following table itemizes components of our most liquid assets:
 
 
 
May 12,
2013
 
September 2,
2012
Cash and cash equivalents
 
$
5,448

 
$
3,528

Short-term investments
 
1,062

 
1,326

Total
 
$
6,510

 
$
4,854


Our primary sources of liquidity are cash flows generated from warehouse operations, cash, cash equivalents, and short-term investment balances. Of these balances, approximately $1,288 and $1,161 at May 12, 2013, and September 2, 2012, respectively, represented debit and credit card receivables, primarily related to sales within the last week of our respective fiscal quarter or fiscal year.
Net cash provided by operating activities totaled $2,874 in the first thirty-six weeks of 2013, compared to $2,327 in the first thirty-six weeks of 2012, an increase of $547. This increase was primarily attributable to a $294 increase in net income including noncontrolling interests, a $128 increase in the change in our other current operating assets and liabilities, and an $83 decrease in cash used for our net investment in merchandise inventories.
Net cash used in investing activities totaled $1,116 in the first thirty-six weeks of 2013 compared to $517 in the first thirty-six weeks of 2012, an increase of $599. This increase was primarily attributable to a $479 increase in the cash used to fund warehouse expansion and remodeling programs. In addition, net cash provided by purchases, maturities, and sales of investments decreased by $140.
Net cash provided by financing activities totaled $216 in the first thirty-six weeks of 2013 compared to net cash used of $1,011 in the first thirty-six weeks of 2012, an increase of $1,227. This increase was primarily attributable to net proceeds of $3,610 from the issuance of long-term debt. This was partially offset by increased cash dividend payments of $3,080 in the first thirty-six weeks of 2013. Additionally, $900 was used for the repayment of long-term debt in the first thirty-six weeks of 2012.
We believe that our cash position and operating cash flows will be sufficient to meet our capital requirements for the foreseeable future. We have not provided for U.S. deferred taxes on cumulative undistributed earnings of certain non-U.S. consolidated subsidiaries as we deem such earnings to be indefinitely reinvested. We believe that our U.S. current asset position is sufficient to meet our U.S. liquidity requirements and we have no current plans to repatriate the cash,

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Table of Contents

Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


cash equivalents, and short-term investments held by these subsidiaries for use in the U.S. At May 12, 2013, cash, cash equivalents, and short-term investments totaling $2,333 were held by these non-U.S. consolidated subsidiaries.
Dividends
Our current quarterly cash dividend rate is $0.31 per share, or $1.24 per share on an annualized basis. On April 30, 2013, we declared a quarterly cash dividend of $0.31 per share payable to shareholders of record on May 17, 2013. This dividend was paid on May 31, 2013.
Expansion Plans
Our primary requirement for capital is the financing of land, building, and equipment costs for new and remodeled warehouses. To a lesser extent, capital is required for initial warehouse operations and working capital. While there can be no assurance that current expectations will be realized and plans are subject to change upon further review, it is our current intention to spend approximately $2,000 during fiscal 2013 for real estate, construction, remodeling, equipment for warehouses and related operations, and continuing the modernization of our information systems. Through the first thirty-six weeks of fiscal 2013, we have spent approximately $1,379. These expenditures are expected to be financed with a combination of cash provided from operations and existing cash, cash equivalents, and short-term investments.
We opened 19 new warehouses in the first thirty-six weeks of 2013. Our plans for the remainder of fiscal 2013 are to open up to 9 additional new warehouses.
Bank Credit Facilities
We maintain bank credit facilities for working capital and general corporate purposes. As of May 12, 2013, we had total borrowing capacity within these facilities of $772, of which $453 was maintained by our international operations. Of the $453 maintained by our international operations, $252 is guaranteed by the Company. There was $54 of outstanding short-term borrowings under the bank credit facilities at the end of the third quarter of 2013. Subsequent to the end of the quarter, a credit facility maintained by our international operations was reduced by $69, thereby reducing the credit facility maintained by international operations to $384, of which, $183 is guaranteed by the Company.
The Company has letter of credit facilities, for commercial and standby letters of credit, totaling $151. The outstanding commitments under these facilities at the end of the third quarter of 2013 was $99, including $91 in standby letters of credit with expiration dates within one year. The bank credit facilities have various expiration dates, all within one year, and generally, we intend to renew these facilities prior to their expiration. The amount of borrowings available at any time under our bank credit facilities is reduced by the amount of standby and commercial letters of credit outstanding at that time.
Financing Activities
In December 2012, we issued $3,500 in aggregate principal amount of Senior Notes as follows: $1,200 of 0.65% Senior Notes due December 7, 2015; $1,100 of 1.125% Senior Notes due December 15, 2017; and $1,200 of 1.7% Senior Notes due December 15, 2019. The proceeds from the issuance of these Senior Notes were used primarily to pay the special cash dividend on our common stock. The balance of approximately $450 was used for general corporate purposes.
In May 2013, the Company’s Japanese subsidiary issued approximately $98 of 1.05% promissory notes through a private placement. Interest is payable semiannually, and principal is due in May 2023.
Contractual Obligations
Other than the issuance of the long-term debt described above, as of the date of this report, there were no material changes to our contractual obligations outside the ordinary course of business since the end of our last fiscal year.
Stock Repurchase Programs
There was no stock repurchase activity under our stock repurchase program in the third quarter of 2013. In the third quarter of 2012, we repurchased 1,488,000 shares, at an average price of $87.41, totaling approximately $130. In the first thirty-six weeks of 2013 and 2012, we repurchased 357,000 shares and 5,369,000 shares, at an average price

26

Table of Contents

Item 2—Management’s Discussion and Analysis of Financial Condition and Results of Operations (Continued) (amounts in millions, except per share, membership fee data, and warehouse number data)


of $96.41 and $83.38, for a total expenditure of $34 and $448, respectively. The remaining amount available to be purchased under our approved plan was $3,055 at May 12, 2013. Purchases are made from time-to-time, as conditions warrant, in the open market or in block purchases, and pursuant to plans under SEC Rule 10b5-1. Repurchased shares are retired, in accordance with the Washington Business Corporation Act.
Critical Accounting Policies
The preparation of our consolidated financial statements in accordance with U.S. generally accepted accounting principles (GAAP) requires that we make estimates and judgments. We base our estimates on historical experience and on assumptions that we believe to be reasonable. Our critical accounting policies are discussed in Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” section of our Annual Report on Form 10-K, for the fiscal year ended September 2, 2012. There have been no material changes to the critical accounting policies previously disclosed in that report.
Recent Accounting Pronouncements
See discussion of Recent Accounting Pronouncements in Note 1 to the condensed consolidated financial statements included in Part I, Item 1 of this Report.
Item 3—Quantitative and Qualitative Disclosures about Market Risk
Our exposure to financial market risk results primarily from fluctuations in interest rates and foreign-currency exchange rates. There have been no material changes to our market risks as disclosed in our Annual Report on Form 10-K, for the fiscal year ended September 2, 2012.
Item 4—Controls and Procedures
As of the end of the period covered by this Quarterly Report on Form 10-Q, we performed an evaluation under the supervision and with the participation of management, including our Chief Executive Officer and Chief Financial Officer, of our disclosure controls and procedures (as defined in Rules 13a-15(e) or 15d-15(e) under the Securities and Exchange Act of 1934 (the Exchange Act)). Based upon that evaluation, our Chief Executive Officer and Chief Financial Officer concluded that, as of the end of the period covered by this Quarterly Report, our disclosure controls and procedures are effective.
There has been no change in our internal control over financial reporting (as defined in Rules 13a-15(f) or 15d-15(f) of the Exchange Act) during our most recently completed fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

27

Table of Contents

PART II—OTHER INFORMATION

Item 1—Legal Proceedings
See discussion of Legal Proceedings in Note 9 to the condensed consolidated financial statements included in Part I, Item 1 of this Report.
Item 1A—Risk Factors
In addition to the other information set forth in this Quarterly Report on Form 10-Q, you should carefully consider the factors discussed in “Part I, Item 1A. Risk Factors” in our Annual Report on Form 10-K, for the fiscal year ended September 2, 2012. There have been no material changes in our risk factors from those disclosed in our Annual Report on Form 10-K.
Item 2—Unregistered Sales of Equity Securities and Use of Proceeds (amounts in millions)
There was no stock repurchase activity in the third quarter of fiscal 2013. Our stock repurchase program is conducted under a $4,000 authorization of our Board of Directors approved in April 2011, which expires in April 2015.
Item 3—Defaults Upon Senior Securities
None.
Item 4— Mine Safety Disclosures
Not applicable.
Item 5—Other Information (amounts in whole dollars)
Disclosure pursuant to Section 219 of the Iran Threat Reduction and Syria Human Rights Act of 2012 and Section 13(r) of the Securities Exchange Act of 1934, as amended.

During the second and third fiscal quarters of 2013, we had as cardholders at our subsidiary in Japan four individuals under two business memberships in the name of the Embassy of the Islamic Republic of Iran (“Embassy”).  In the same time period, we had as cardholders in our United Kingdom subsidiary two individuals under one business membership in the name of Iran Air.  Gross revenue in the second and third quarters of 2013 attributable to the memberships associated with the Iran Embassy was approximately $5,178, and our estimated profit on these transactions was less than $160.  The Company recognized no revenue or profit attributable to the Iran Air membership in the second and third quarters of 2013.  The Iran Air membership and one of the Iran Embassy memberships were canceled during the second quarter of 2013, and the remaining Iran Embassy membership was canceled in June 2013, prior to which time an additional $319 in revenue and less than $8 in estimated net profits were earned in the fourth quarter of 2013.  The Company does not intend to continue these activities.


28

Table of Contents

Item 6—Exhibits
The following exhibits are filed as part of this Quarterly Report on Form 10-Q or incorporated by reference.
 
 
  
 
 
 
 
Incorporated by Reference
Exhibit
Number
  
Exhibit Description
 
Filed
Herewith
 
Form
 
Period
Ending
  
Filing
Date
 
 
 
 
 
 
 
 
 
 
 
3.1
  
Articles of Incorporation of the registrant
 
 
 
8-K
  
 
  
8/30/1999
3.2
  
Bylaws of the registrant
 
 
 
8-K
  
 
  
8/24/2010
31.1
  
Rule 13(a) – 14(a) Certifications
 
x
  
 
 
 
  
 
32.1
  
Section 1350 Certifications
 
x
  
 
 
 
  
 
101.INS
  
XBRL Instance Document
 
x
  
 
 
 
  
 
101.SCH
  
XBRL Taxonomy Extension Schema Document
 
x
  
 
 
 
  
 
101.CAL
  
XBRL Taxonomy Extension Calculation Linkbase Document
 
x
  
 
 
 
  
 
101.DEF
  
XBRL Taxonomy Extension Definition Linkbase Document
 
x
  
 
 
 
  
 
101.LAB
  
XBRL Taxonomy Extension Label Linkbase Document
 
x
  
 
 
 
  
 
101.PRE
  
XBRL Taxonomy Extension Presentation Linkbase Document
 
x
  
 
 
 
  
 

29

Table of Contents

SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
 
 
 
COSTCO WHOLESALE CORPORATION (Registrant)
 
 
 
June 11, 2013
 
/s/    W. CRAIG JELINEK      
Date
 
W. Craig Jelinek
President and
Chief Executive Officer
 
 
 
June 11, 2013
 
/s/    RICHARD A. GALANTI      
Date
 
Richard A. Galanti
Executive Vice President and
Chief Financial Officer

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