KOHLS Corp - Annual Report: 2019 (Form 10-K)

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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark One)

or

Commission file number 1-11084

KOHL’S CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code (262) 703-7000

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

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes    X        No            .

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes                No    X    .

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    X        No            .

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulations S-T (232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes    X        No            .

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (229.405 of this chapter) is not contained herein, and will not be contained, to the best of registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K.   X   .

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

Large accelerated filer    X    Accelerated filer         Non-accelerated filer         

Smaller reporting company         Emerging growth company         

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.          

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes                No    X    .

At August 3, 2018, the aggregate market value of the voting stock of the Registrant held by stockholders who were not affiliates of the Registrant was approximately $12.1 billion (based upon the closing price of Registrant’s Common Stock on the New York Stock Exchange on such date). At March 13, 2019, the Registrant had outstanding an aggregate of 163,166,004 shares of its Common Stock.

Documents Incorporated by Reference:

Portions of the Proxy Statement for the Registrant’s Annual Meeting of Shareholders to be held on May 15, 2019 are incorporated into Part III.

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KOHL’S CORPORATION

INDEX

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PART I

Item 1. Business

Kohl’s Corporation (the “Company," “Kohl’s,” "we," "our" or "us") was organized in 1988 and is a Wisconsin corporation. As of February 2, 2019, we operated 1,159 Kohl's department stores, a website (www.Kohls.com), 12 FILA outlets, and four Off-Aisle clearance centers. Our Kohl's stores and website sell moderately-priced proprietary and national brand apparel, footwear, accessories, beauty and home products. Our Kohl's stores generally carry a consistent merchandise assortment with some differences attributable to local preferences. Our website includes merchandise that is available in our stores, as well as merchandise that is available only online.  

Our merchandise mix includes both national brands and proprietary brands that are available only at Kohl's. Our proprietary portfolio includes well-known established private brands such as Apt. 9, Croft & Barrow, Jumping Beans, SO and Sonoma Goods for Life and exclusive brands that are developed and marketed through agreements with nationally-recognized brands such as Food Network, LC Lauren Conrad, Elle and Simply Vera Vera Wang. National brands generally have higher selling prices, but lower gross margins, than proprietary brands.

The following tables summarize our sales penetration by line of business and brand type over the last three years:

Our fiscal year ends on the Saturday closest to January 31^st each year. Unless otherwise stated, references to years in this report relate to fiscal years rather than to calendar years. The following fiscal periods are presented in this report.

For discussion of our financial results, see Item 7, "Management's Discussion and Analysis of Financial Condition and Results of Operations."

Distribution

We receive substantially all of our store merchandise at our nine retail distribution centers. A small amount of our merchandise is delivered directly to the stores by vendors or their distributors. The retail distribution centers, which are strategically located throughout the United States, ship merchandise to each store by contract carrier several times a week. Digital sales may be picked up in our stores or are shipped from a Kohl’s fulfillment center, retail distribution center or store; by a third-party fulfillment center; or directly by a third-party vendor.

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See Item 2, “Properties,” for additional information about our distribution centers.

Employees

During 2018, we employed an average of approximately 129,000 associates, including approximately 34,000 full-time and 95,000 part-time associates. The number of associates varies during the year, peaking during the back-to-school and holiday seasons. None of our associates are represented by a collective bargaining unit. We believe our relations with our associates are very good.

Competition

The retail industry is highly competitive. Management considers style, quality, price and convenience to be the most significant competitive factors in the industry. Merchandise mix, brands, service, loyalty programs, credit availability, and customer experience and convenience are also key competitive factors. Our primary competitors are traditional department stores, mass merchandisers, off-price retailers, specialty stores, internet and catalog businesses and other forms of retail commerce. Our specific competitors vary from market to market.

Merchandise Vendors

We purchase merchandise from numerous domestic and foreign suppliers.  All business partners must meet certain requirements to do business with us.  Our Terms of Engagement include provisions regarding laws and regulations, employment practices, ethical standards, environmental and legal requirements, communication, monitoring/compliance, record keeping, subcontracting and corrective action. We expect that all business partners will comply with these Terms of Engagement and quickly remediate any deficiencies, if noted, to maintain our business relationship.

A third-party purchasing agent sources approximately 25% of the merchandise we sell.  No vendors individually accounted for more than 10% of our net purchases in 2018. We have no significant long-term purchase commitments or arrangements with any of our suppliers and believe that we are not dependent on any one supplier.  We believe we have good working relationships with our suppliers.

Seasonality

Our business, like that of most retailers, is subject to seasonal influences. The majority of our sales and income are typically realized during the second half of each fiscal year. The back-to-school season extends from August through September and represents approximately 15% of our annual sales.  Approximately 30% of our annual sales occur during the holiday season in the months of November and December. Because of the seasonality of our business, results for any quarter are not necessarily indicative of the results that may be achieved for the fiscal year.

Trademarks and Service Marks

KOHL'S® is a registered trademark owned by one of our wholly-owned subsidiaries. We consider this mark and the accompanying goodwill to be valuable to our business. This subsidiary has over 200 additional registered trademarks, most of which are used in connection with our private brand products.

Available Information

Our corporate website is https://corporate.kohls.com. Through the “Investors” portion of this website, we make available, free of charge, our proxy statements, Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, SEC Forms 3, 4 and 5 and any amendments to those reports as soon as reasonably practicable after such material has been filed with, or furnished to, the Securities and Exchange Commission (“SEC”).

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The following have also been posted on our website, under the caption “Investors” and sub-caption "Corporate Governance":

The information contained on our website is not part of this Annual Report on Form 10-K. Paper copies of any of the materials listed above will be provided without charge to any shareholder submitting a written request to our Investor Relations Department at N56 W17000 Ridgewood Drive, Menomonee Falls, Wisconsin 53051 or via e-mail to Investor.Relations@Kohls.com.

Item 1A. Risk Factors

This Form 10-K contains “forward-looking statements” made within the meaning of the Private Securities Litigation Reform Act of 1995. Words such as "believes," "anticipates," "plans," "may," "intends," "will," "should," "expects" and similar expressions are intended to identify forward-looking statements. Forward-looking statements also include comments about our future sales or financial performance and our plans, performance and other objectives, expectations or intentions, such as statements regarding our liquidity, debt service requirements, planned capital expenditures, future business initiatives, and adequacy of capital resources and reserves.  A number of important factors could cause our results to differ materially from those indicated by the forward-looking statements including, among others, those risk factors described below. Forward-looking statements relate to the date made, and we undertake no obligation to update them.

Our sales, gross margin, expenses and operating results could be negatively impacted by a number of factors including, but not limited to those described below. Many of these risk factors are outside of our control. If we are not successful in managing these risks, they could have a negative impact on our sales, gross margin, expenses, and/or operating results.

Macroeconomic and Industry Risks

General economic conditions, consumer spending levels and/or other conditions could decline.

Consumer spending habits, including spending for the merchandise that we sell, are affected by many factors including prevailing economic conditions, levels of employment, salaries and wage rates, prevailing interest rates, housing costs, energy and fuel costs, income tax rates and policies, consumer confidence, consumer perception of economic conditions, and the consumer’s disposable income, credit availability and debt levels. The moderate-income consumer, which is our core customer, is especially sensitive to these factors. A slowdown in the U.S. economy or an uncertain economic outlook could adversely affect consumer spending habits. As all of our stores are located in the United States, we are especially susceptible to deteriorations in the U.S. economy.

Consumer confidence is also affected by the domestic and international political situation. The outbreak or escalation of war, or the occurrence of terrorist acts or other hostilities in or affecting the United States, could lead to a decrease in spending by consumers.

Our competitors could make changes to their pricing and other practices.

The retail industry is highly competitive. We compete for customers, associates, locations, merchandise, services and other important aspects of our business with many other local, regional and national retailers. Those

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competitors include traditional department stores, mass merchandisers, off-price retailers, specialty stores, internet and catalog businesses, and other forms of retail commerce.

We consider style, quality, price, and convenience to be the most significant competitive factors in our industry. The continuing migration and evolution of retailing to digital channels have increased our challenges in differentiating ourselves from other retailers especially as it relates to national brands. In particular, consumers can quickly and conveniently comparison shop with digital tools, which can lead to decisions based solely on price. Unanticipated changes in the pricing and other practices of our competitors may adversely affect our performance.

Tax and trade policies could adversely change.

Uncertainty with respect to tax and trade policies, tariffs and government regulations affecting trade between the United States and other countries has recently increased. We source the majority of our merchandise from manufacturers located outside of the United States, primarily in Asia. Major developments in tax policy or trade relations, such as the imposition of tariffs on imported products, could have a material adverse effect on our business, results of operations and liquidity.

Operational Risks

We may be unable to offer merchandise that resonates with existing customers and attracts new customers as well as successfully manage our inventory levels.

Our business is dependent on our ability to anticipate fluctuations in consumer demand for a wide variety of merchandise. Failure to accurately predict constantly changing consumer tastes, preferences, spending patterns and other lifestyle decisions could create inventory imbalances and adversely affect our performance and long-term relationships with our customers. Additionally, failure to accurately predict changing consumer tastes may result in excess inventory, which could result in additional markdowns and adversely affect our operating results.

We may be unable to source merchandise in a timely and cost-effective manner.

A third-party purchasing agent sources approximately 25% of the merchandise we sell. The remaining merchandise is sourced from a wide variety of domestic and international vendors. Our ability to find qualified vendors and access products in a timely and efficient manner is a significant challenge which is typically even more difficult for goods sourced outside the United States, substantially all of which are shipped by ocean to ports in the United States. Political or financial instability, trade restrictions, tariffs, currency exchange rates, transport capacity and costs, work stoppages, port strikes, port congestion and delays and other factors relating to foreign trade are beyond our control and could adversely impact our performance.

Increases in the price of merchandise, raw materials, fuel and labor or their reduced availability could increase our cost of merchandise sold. The price and availability of raw materials may fluctuate substantially, depending on a variety of factors, including demand, weather, supply conditions, transportation costs, energy prices, work stoppages, government regulation and policy, economic climates, market speculation and other unpredictable factors. An inability to mitigate these cost increases, unless sufficiently offset with our pricing actions, might cause a decrease in our profitability. Any related pricing actions might cause a decline in our sales volume. Additionally, a reduction in the availability of raw materials could impair our ability to meet our production or purchasing requirements in a timely manner. Both the increased cost and lower availability of merchandise, raw materials, fuel and labor may also have an adverse impact on our cash and working capital needs as well as those of our suppliers.

If any of our significant vendors were to become subject to bankruptcy, receivership or similar proceedings, we may be unable to arrange for alternate or replacement contracts, transactions or business relationships on terms as favorable as current terms, which could adversely affect our sales and operating results.

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Our vendors may not adhere to our Terms of Engagement or to applicable laws.

A substantial portion of our merchandise is received from vendors and factories outside of the United States. We require all of our suppliers to comply with all applicable local and national laws and regulations and our Terms of Engagement for Kohl's Business Partners. These Terms of Engagement include provisions regarding laws and regulations, employment practices, ethical standards, environmental and legal requirements, communication, monitoring/compliance, record keeping, subcontracting and corrective action. From time to time, suppliers may not be in compliance with these standards or applicable laws. Significant or continuing noncompliance with such standards and laws by one or more suppliers could have a negative impact on our reputation and our results of operations.

Our marketing may be ineffective.

We believe that differentiating Kohl's in the marketplace is critical to our success. We design our marketing and loyalty programs to increase awareness of our brands and to build personalized connections with new and existing customers. We believe these programs will strengthen customer loyalty, increase the number and frequency of customers that shop our stores and website and increase our sales. If our marketing and loyalty programs are not successful, our sales and operating results could be adversely affected.

The reputation and brand image of Kohl’s and the brands and products we sell could be damaged.

We believe the Kohl's brand name and many of our proprietary brand names are powerful sales and marketing tools. We devote significant resources to develop, promote and protect proprietary brands that generate national recognition. In some cases, the proprietary brands or the marketing of such brands are tied to or affiliated with well-known individuals. We also affiliate the Kohl’s brand with third-party national brands that we sell in our store and through our partnerships with companies in pursuit of strategic initiatives. Damage to the reputations (whether or not justified) of the Kohl’s brand, our proprietary brand names or any affiliated individuals or companies with which we have partnered, could arise from product failures; concerns about human rights, working conditions and other labor rights and conditions where merchandise is produced; perceptions of our pricing and return policies; litigation; vendor violations of our Terms of Engagement; perceptions of the national vendors and/or third party companies with which we partner; or various other forms of adverse publicity, especially in social media outlets. This type of reputational damage may result in a reduction in sales, earnings, and shareholder value.

There may be concerns about the safety of products that we sell.

If our merchandise offerings do not meet applicable safety standards or our customers' expectations regarding safety, we could experience lost sales, experience increased costs, and/or be exposed to legal and reputational risk. Events that give rise to actual, potential or perceived product safety concerns could expose us to government enforcement action and/or private litigation. Reputational damage caused by real or perceived product safety concerns could have a negative impact on our sales and operating results.

We may be unable to adequately maintain and/or update our information systems.

The efficient operation of our business is dependent on our information systems. In particular, we rely on our information systems to effectively manage sales, distribution, and merchandise planning and allocation functions. We also generate sales through the operations of our Kohls.com website. We frequently make investments that will help maintain and update our existing information systems. We also depend on third parties as it relates to our information systems.  In particular, we are currently migrating certain systems and applications to cloud environments that are hosted by third-party service providers. The potential problems and interruptions associated with implementing technology initiatives, the failure of our information systems to perform as designed or the failure to successfully partner with our third party service providers, such as our cloud platform providers, could disrupt our business and harm our sales and profitability.

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Our information technology projects may not yield their intended results.

We regularly have internal information technology projects in process. Although the technology is intended to increase productivity and operating efficiencies, these projects may not yield their intended results or may deliver an adverse user or customer experience. We may incur significant costs in connection with the implementation, ongoing use, or discontinuation of technology projects, or fail to successfully implement these technology initiatives or achieve the anticipated efficiencies from such projects, any of which could adversely affect our operations, liquidity and financial condition. 

Weather conditions and natural disasters could adversely affect consumer shopping patterns and disrupt our operations.

A significant portion of our business is apparel and is subject to weather conditions. As a result, our operating results may be adversely affected by severe or unexpected weather conditions. Frequent or unusually heavy snow, ice or rain storms; natural disasters such as earthquakes, tornadoes, floods, fires, and hurricanes; or extended periods of unseasonable temperatures could adversely affect our performance by affecting consumer shopping patterns and diminishing demand for seasonal merchandise.  In addition, these events could cause physical damage to our properties or impact our supply chain, making it difficult or impossible to timely deliver seasonally appropriate merchandise. Although we maintain crisis management and disaster response plans, our mitigation strategies may be inadequate to address such a major disruption event.  

We may be unable to successfully execute an omnichannel strategy.

Customer expectations about the methods by which they purchase and receive products or services are evolving. Customers are increasingly using technology and mobile devices to rapidly compare products and prices and to purchase products. Once products are purchased, customers are seeking alternate options for delivery of those products. We must continually anticipate and adapt to these changes in the purchasing process. Our ability to compete with other retailers and to meet our customer expectations may suffer if we are unable to provide relevant customer-facing technology and omnichannel experiences. Our ability to compete may also suffer if Kohl’s, our suppliers, or our third-party shipping and delivery vendors are unable to effectively and efficiently fulfill and deliver orders, especially during the holiday season when sales volumes are especially high. Consequently, our results of operations could be adversely affected.

Our business is seasonal in nature, which could negatively affect our revenues, operating results and cash requirements.

Our business is subject to seasonal influences, with a major portion of sales and income historically realized during the second half of the fiscal year, which includes the back-to-school and holiday seasons.

If we do not adequately stock or restock popular products, particularly during the back-to-school and holiday seasons, we may fail to meet customer demand, which could affect our revenue and our future growth. If we overstock products, we may be required to take significant inventory markdowns or write-offs, which could reduce profitability.

We may experience an increase in costs associated with shipping digital orders due to complimentary upgrades, split shipments, and additional long-zone shipments necessary to ensure timely delivery for the holiday season. If too many customers access our website within a short period of time, we may experience system interruptions that make our website unavailable or prevent us from efficiently fulfilling orders, which may reduce the volume of goods we sell and the attractiveness of our products and services. Also, third-party delivery and direct ship vendors may be unable to deliver merchandise on a timely basis.

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This seasonality causes our operating results and cash needs to vary considerably from quarter to quarter. Additionally, any decrease in sales or profitability during the second half of the fiscal year could have a disproportionately adverse effect on our results of operations.

Changes in credit card operations could adversely affect our sales and/or profitability.

Our credit card operations facilitate merchandise sales and generate additional revenue from fees related to extending credit. The proprietary Kohl's credit card accounts are owned by an unrelated third-party, but we share in the net risk-adjusted revenue of the portfolio, which is defined as the sum of finance charges, late fees and other revenue less write-offs of uncollectible accounts. Changes in funding costs related to interest rate fluctuations are shared similar to the revenue when interest rates exceed defined amounts. Though management currently believes that increases in funding costs will be largely offset by increases in finance charge revenue, increases in funding costs could adversely impact the profitability of this program.

Changes in credit card use and applications, payment patterns, credit fraud and default rates may also result from a variety of economic, legal, social and other factors that we cannot control or predict with certainty. Changes that adversely impact our ability to extend credit and collect payments could negatively affect our results.

We may be unable to attract, develop and retain quality associates while controlling costs, which could adversely affect our operating results.

Our performance is dependent on attracting and retaining a large number of quality associates, including our senior management team and other key associates. Many associates are in entry-level or part-time positions with historically high rates of turnover. Many of our strategic initiatives require that we hire and/or develop associates with appropriate experience. Our staffing needs are especially high during the holiday season. Competition for these associates is intense. We cannot be sure that we will be able to attract and retain a sufficient number of qualified personnel in future periods.

Our ability to meet our labor needs while controlling costs is subject to external factors such as unemployment levels, prevailing wage rates, minimum wage legislation, actions by our competitors in compensation levels, potential labor organizing efforts, and changing demographics. Competitive and regulatory pressures have already significantly increased our labor costs. Further changes that adversely impact our ability to attract and retain quality associates could adversely affect our performance and/or profitability. In addition, changes in federal and state laws relating to employee benefits, including, but not limited to, sick time, paid time off, leave of absence, wage-and-hour, overtime, meal-and-break time and joint/co-employment could cause us to incur additional costs, which could negatively impact our profitability.

Capital Risks

We may be unable to raise additional capital or maintain bank credit on favorable terms, which could adversely affect our business and financial condition.

We have historically relied on the public debt markets to raise capital to partially fund our operations and growth. We have also historically maintained lines of credit with financial institutions. Changes in the credit and capital markets, including market disruptions, limited liquidity and interest rate fluctuations, may increase the cost of financing or restrict our access to these potential sources of future liquidity. Our continued access to these liquidity sources on favorable terms depends on multiple factors, including our operating performance and maintaining strong debt ratings. If our credit ratings fall below desirable levels, our ability to access the debt markets and our cost of funds for new debt issuances could be adversely impacted. Additionally, if unfavorable capital market conditions exist if and when we were to seek additional financing, we may not be able to raise sufficient capital on favorable terms and on a timely basis (if at all). If our access to capital was to become significantly constrained or our cost of capital was to increase significantly our financial condition, results of operations and cash flows could be adversely affected.

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Our capital allocation could be inefficient or ineffective.

Our goal is to invest capital to maximize our overall long-term returns. This includes spending on inventory, capital projects and expenses, managing debt levels, and periodically returning value to our shareholders through share repurchases and dividends. To a large degree, capital efficiency reflects how well we manage our other key risks. The actions taken to address other specific risks may affect how well we manage the more general risk of capital efficiency. If we do not properly allocate our capital to maximize returns, we may fail to produce optimal financial results and we may experience a reduction in shareholder value.

Legal and Regulatory Risks

Regulatory and legal matters could adversely affect our business operations and change financial performance.

Various aspects of our operations are subject to federal, state or local laws, rules and regulations, any of which may change from time to time. The costs and other effects of new or changed legal requirements cannot be determined with certainty. For example, new legislation or regulations may result in increased costs directly for our compliance or indirectly to the extent such requirements increase prices of goods and services, reduce the availability of raw materials or further restrict our ability to extend credit to our customers.

We continually monitor the state and federal legal and regulatory environments for developments that may impact us. Failure to detect changes and comply with such laws and regulations may result in an erosion of our reputation, disruption of business and/or loss of associate morale. Additionally, we are regularly involved in various litigation matters that arise out of the conduct of our business. Litigation or regulatory developments could adversely affect our business operations and financial performance.

Our efforts to protect the security of sensitive or confidential customer, associate or company information could be unsuccessful, which could severely damage our reputation, expose us to risks of litigation and liability, disrupt our operations and harm our business.

As part of our normal course of business, we collect, retain, process and transmit sensitive and confidential customer, associate and company information.  We also engage third-party vendors that provide technology, systems and services to facilitate our collection, retention, processing and transmission of this information.  The protection of this data is extremely important to us, our associates and our customers.  As with other companies, our facilities and systems and those of our third-party vendors are vulnerable to cybersecurity threats, security breaches, system failures, acts of vandalism, fraud, misappropriation, malware and other malicious or harmful code, misplaced or lost data, programming and/or human errors, insider threats, or other similar events.  Despite our substantial investments in personnel, training and implementation of programs, procedures, and plans to protect the security, confidentiality, integrity and availability of our information and to prevent, detect, contain and respond to cybersecurity threats, there is no assurance that these measures will be adequate to prevent all such cybersecurity threats, particularly given the ever-evolving and increasingly sophisticated methods of cyber-attack that may be difficult or impossible to anticipate and/or detect.  In addition, the regulatory environment related to data privacy and cybersecurity is constantly changing, which may increase our compliance costs and impact our customers’ shopping experience.  Any data security incident involving the breach, misappropriation, loss or other unauthorized disclosure of sensitive and/or confidential information, whether by us or our vendors, could disrupt our operations, damage our reputation and customers' willingness to shop in our stores or on our website, violate applicable laws, regulations, orders and agreements, and subject us to additional costs and liabilities which could be material.

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Item 1B. Unresolved Staff Comments

Not applicable.

Item 2. Properties

Stores

As of February 2, 2019, we operated 1,159 Kohl's department stores with 82.6 million selling square feet in 49 states. We also operate four Off-Aisle clearance centers and 12 FILA outlets.

Our typical store lease has an initial term of 20-25 years and four to eight renewal options for consecutive five-year extension terms. Substantially all of our leases provide for a minimum annual rent that is fixed or adjusts to set levels during the lease term, including renewals. Approximately one-fourth of the leases provide for additional rent based on a percentage of sales over designated levels.

The following tables summarize key information about our Kohl's stores as of February 2, 2019:

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Distribution Centers

The following table summarizes key information about each of our distribution centers:

We own all of the distribution centers except Corsicana, Texas, which is leased.

Corporate Facilities

We own our corporate headquarters in Menomonee Falls, Wisconsin. We also own or lease additional buildings and office space, which are used by various corporate departments, including our credit operations.

Item 3. Legal Proceedings

We are not currently a party to any material legal proceedings but are subject to certain legal proceedings and claims from time to time that arise out of the conduct of our business.

Item 4. Mine Safety Disclosures

Not applicable.

Item 4A. Executive Officers

Our executive officers as of February 2, 2019 were as follows:

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Michelle Gass

Ms. Gass has served as our CEO and as a director since May 2018.  Ms. Gass was promoted to CEO-elect in October 2017.  She joined the Company in 2013 as Chief Customer Officer and was named Chief Merchandising and Customer Officer in June 2015.  Prior to Kohl’s, Ms. Gass spent more than 16 years with Starbucks Corporation holding a variety of leadership roles across marketing, global strategy and merchandising, including President, Starbucks Europe, Middle East and Africa.  Prior to Starbucks, Ms. Gass was with Procter and Gamble.  Ms. Gass has over 25 years of experience in the retail and consumer goods industries.  She is currently a director for PepsiCo Inc., a global food and beverage company.  From April 2014 to February 2017, Ms. Gass also served as a director of Cigna Corporation, a global health service company.  

Sona Chawla

Ms. Chawla has served as President since May 2018.  She served as Chief Operating Officer and President-elect from October 2017 to May 2018.  Ms. Chawla joined the Company as Chief Operating Officer in November 2015.  Prior to joining the Company, Ms. Chawla served on Walgreen Company’s senior leadership team in the roles of President, Digital and Chief Marketing Officer from February 2014 to November 2015, President, E-Commerce from 2011 to February 2014 and Senior Vice President, E-Commerce from 2008 to 2011.  Prior to Walgreens, Ms. Chawla served as Vice President, Global Online Business with Dell, Inc. (2006-2008) and previously was a key executive at Wells Fargo & Company serving as Executive Vice President, Online Sales, Service and Marketing (2005-2006), Executive Vice President, Web Channel Management (2003-2005) and Senior Vice President, Enterprise Internet Services (2000-2003). Before Wells Fargo, Ms. Chawla worked at Andersen Consulting (now Accenture) and Mitchell Madison Group.  Ms. Chawla has 18 years of experience in retail and digital.  From 2012 to November 2015, Ms. Chawla served as a director of Express, Inc., a specialty retail apparel chain.  She is currently a director of CarMax, Inc., the nation’s largest retailer of used vehicles.

Douglas Howe

Mr. Howe has served as Chief Merchandising Officer since May 2018.  Prior to joining the Company, he served in several senior leadership roles with Qurate Retail Group, leading QVC’s and HSN’s product leadership as Chief Merchandising Officer from December 2017 to April 2018, Executive Vice President of Merchandising from July 2015 to December 2017, Executive Vice President of Merchandising and Planning from 2010 to July 2015, and Executive Vice President of Strategic Multichannel Planning and Merchandising from 2008 to 2010.  Prior to joining QVC in 2001 as Vice President of Merchandising, Fashion and Beauty, Mr. Howe previously served as Executive Vice President of Product Design and Development for Old Navy, as well Senior Vice President of Strategy, Design and Development for Walmart.  Mr. Howe has over 25 years of experience in the retail industry.

Bruce H. Besanko

Mr. Besanko has served as Chief Financial Officer since July 2017.  Prior to joining the Company, he spent four years with Supervalu, Inc. as Executive Vice President, Chief Operating Officer and Chief Financial Officer from October 2015 to July 2017 and Executive Vice President and Chief Financial Officer from 2013 to October 2015.  Mr. Besanko served as Executive Vice President, Chief Financial Officer and Chief Administrative Officer at OfficeMax, Inc. from 2008 to 2013.  Mr. Besanko held several finance leadership positions at Circuit City from 2007 to 2008, The Yankee Candle Company, Inc. from 2005 to 2007, Best Buy Co., Inc. from 2002 to 2005, Sears Roebuck & Company from 1996 to 2002 and Atlantic Richfield Company, Inc. from 1992 to 1996.  In addition to his business experience, Mr. Besanko served 26 years in the U.S. Air Force where he rose to the rank of Lieutenant Colonel.  Mr. Besanko has 23 years of experience in the retail industry.  He is currently a director of Diebold Nixdorf, a multinational financial and retail technology company.

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Marc A. Chini

Mr. Chini has served as Senior Executive Vice President – Chief People Officer since November 2018.  Prior to joining the Company, he served as Executive Vice President, Chief Human Resources Officer of Synchrony Financial from 2013 to November 2018.  Previously, Mr. Chini worked for General Electric Company for more than 30 years, including serving as Vice President of Human Resources GE Corporate Staff (2011-2013), Executive Vice President of Human Resources for NBC Universal (2007-2011), Vice President of Human Resources for GE Infrastructure (2005-2006), GE Aviation & Locomotive (2003-2005), and GE Aviation (1998-2003).  Prior to beginning his Human Resources career with General Electric in 1984, Mr. Chini served in various Human Resources roles for McGraw-Edison and Liberty Life.

Ratnakar Lavu

Mr. Lavu has served as Senior Executive Vice President – Chief Technology Officer since April 2018.  He served as Executive Vice President – Chief Technology Officer from February 2016 to April 2018 and Executive Vice President – Digital Technology from April 2014 to February 2016.  He joined the Company as Senior Vice President – Information Technology, Digital Innovation & Global E-Commerce in 2011.  Prior to joining the Company, he served as Chief Technology Officer of Redbox Automated Retail LLC from 2009 to 2011.  Prior to that, he served in a variety of management positions at Macys.com from 2000 to 2009, including Group Vice President E-Commerce and Information Technology from 2008 to 2009 and Vice President, Technology for Macys.com and Bloomingdales.com from 2006 to 2008.  Mr. Lavu has 18 years of experience in the retail industry.

Greg Revelle

Mr. Revelle has served as Senior Executive Vice President – Chief Marketing Officer since April 2018.  He joined the Company in April 2017 as Executive Vice President – Chief Marketing Officer.  Prior to joining the Company, he served as Executive Vice President, Chief Marketing Officer & General Manager of Financial Services for Best Buy Co., Inc. from November 2014 to March 2017 and Senior Vice President, Chief Marketing Officer & General Manager of E-Commerce at AutoNation from 2012 to November 2014.  Prior to that, he worked at Expedia, Inc. as Vice President & General Manager, Worldwide Online Marketing from 2009 to 2012 and Vice President, Corporate Development and Strategy from 2005 to 2009.  Before Expedia, Mr. Revelle worked at Credit Suisse as an Investment Banking Analyst.  Mr. Revelle has nine years of experience in the online marketing and retail industries.  He is currently a director of Cars.com, a digital automotive platform.

PART II

Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

Market information

Our Common Stock has been traded on the New York Stock Exchange ("NYSE") since May 19, 1992, under the symbol “KSS.”

On February 27, 2019, our Board of Directors approved a 10% increase in our dividend to $0.67 per common share. The dividend will be paid on April 3, 2019 to shareholders of record as of March 20, 2019. In 2018, we paid aggregate cash dividends of $400 million.

Holders

As of March 13, 2019, there were approximately 3,700 record holders of our Common Stock.

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Performance Graph

The graph below compares our cumulative five-year shareholder return to that of the Standard & Poor’s (“S&P”) 500 Index and a Peer Group Index that is consistent with the retail peer groups used in the Compensation Discussion & Analysis section of our Proxy Statement for our May 15, 2019 Annual Meeting of Shareholders.  The Peer Group Index was calculated by S&P Global, a Standard & Poor’s business and includes Bed, Bath & Beyond Inc.; The Gap, Inc.; J.C. Penney Company, Inc.; L Brands, Inc.; Macy’s, Inc.; Nordstrom, Inc.; Ross Stores, Inc.; Target Corporation; and The TJX Companies, Inc.  The Peer Group Index excludes Sears Holding Corporation as they are in bankruptcy proceedings. The Peer Group Index is weighted by the market capitalization of each component company at the beginning of each period.  The graph assumes an investment of $100 on February 1, 2014 and reinvestment of dividends. The calculations exclude trading commissions and taxes.

Recent Sales of Unregistered Securities; Use of Proceeds from Registered Securities

We did not sell any equity securities from 2016 through 2018 that were not registered under the Securities Act.

Purchases of Equity Securities by the Issuer and Affiliated Purchasers

In 2016, our Board of Directors increased the remaining share repurchase authorization under our existing share repurchase program to $2.0 billion. Purchases under the repurchase program may be made in the open market, through block trades and other negotiated transactions. We expect to execute the share repurchase program primarily in open market transactions, subject to market conditions. There is no fixed termination date for the repurchase program, and the program may be suspended, discontinued or accelerated at any time.

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The following table contains information for shares repurchased and shares acquired from employees in lieu of amounts required to satisfy minimum tax withholding requirements upon the vesting of the employees’ restricted stock during the three fiscal months ended February 2, 2019:

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Item 6. Selected Consolidated Financial Data

The selected consolidated financial data presented below should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this document.

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary

As of February 2, 2019, we operated 1,159 Kohl's department stores, a website (www.Kohls.com), 12 FILA outlets, and four Off-Aisle clearance centers. Our Kohl's stores and website sell moderately-priced proprietary and national brand apparel, footwear, accessories, beauty and home products. Our Kohl's stores generally carry a consistent merchandise assortment with some differences attributable to local preferences. Our website includes merchandise which is available in our stores, as well as merchandise that is available only online.

Key financial results for 2018 included:

See "Results of Operations" and "Liquidity and Capital Resources" for additional details about our financial results, how we define comparable sales, and a reconciliation of GAAP to non-GAAP net income and diluted earnings per share.

2019 Outlook

Our current expectations for 2019 are as follows:

This guidance includes the impact of the new lease standard which we are required to adopt in 2019 but excludes any non-recurring charges.  For additional details on the lease standard, see Note 1 to our Consolidated Financial Statements.

Results of Operations

53^rd Week

Fiscal 2017 was a 53-week year.  During the 53^rd week, net sales were approximately $170 million; other revenue was approximately $10 million; SG&A expenses were approximately $40 million; and interest was approximately $3 million. The 53^rd week increased our 2017 net income by approximately $15 million and our diluted earnings per share by approximately $0.10.  For 2018, comparable sales compare the 52-week periods ended

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February 2, 2019 and February 3, 2018.  For 2017, comparable sales compare the 52-week periods ended January 27, 2018 and January 28, 2017.  

Net Sales

As an omnichannel retailer, it is often difficult to distinguish between a "store" sale and a "digital" sale. Below is a list of some omnichannel examples:

Because we do not have a clear distinction between "store" sales and "digital" sales, we do not report them separately.

Kohl’s store sales are included in comparable sales after the store has been open for 12 full months.  Digital sales and sales at remodeled and relocated Kohl’s stores are included in comparable sales unless square footage has changed by more than 10%.  

The following graph summarizes net sales dollars and comparable sales (Dollars in Millions):

2018 compared to 2017

Net sales increased $131 million, or 0.7%, to $19.2 billion for 2018.  The increase was primarily due to a 1.7% increase in comparable sales mostly reflecting higher average transaction values.  The increase was partially offset by $170 million of sales in the 53^rd week of 2017.

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By line of business, Men’s, Children’s and Footwear were the strongest categories.  Home and Women’s also reported positive comparable sales.  Accessories was slightly negative.

Geographically, all regions reported higher comparable sales in 2018.  

2017 compared to 2016

Net sales increased $400 million, or 2.1%, to $19.0 billion for 2017.  Approximately $170 million of the increase was due to the 53^rd week in the fiscal 2017 calendar.  The remaining increase was primarily due to a 1.5% increase in comparable sales.  The increase in comparable sales reflects higher average transaction values.

By line of business, Home and Footwear were the strongest categories.  Men’s also outperformed the Company average.  Accessories and Children’s also reported higher comparable sales.  Comparable sales trends in the Women’s business improved each quarter, but sales decreased for the year.

Geographically, all regions reported higher comparable sales in 2017.  

Other Revenue

Other revenue includes revenue from credit card operations, third-party advertising on our website, unused gift cards and merchandise return cards (breakage), and other non-merchandise revenue.

The following graph summarizes other revenue (Dollars in Millions):

Other revenue increased $14 million in 2018 and $3 million in 2017.  The increase in 2018 is due to higher credit card revenue, third-party advertising on our website and breakage. The increase in 2017 is due to $10 million of revenue earned in the 53^rd week and higher third-party advertising on our website, partially offset by lower credit card revenue.

Cost of Merchandise Sold and Gross Margin

Cost of merchandise sold includes the total cost of products sold, including product development costs, net of vendor payments other than reimbursement of specific, incremental and identifiable costs; inventory shrink; markdowns; freight expenses associated with moving merchandise from our vendors to our distribution centers; shipping expenses for digital sales; terms cash discount; and depreciation of product development facilities and equipment.  Our cost of merchandise sold may not be comparable with that of other retailers because we include distribution center and buying costs in selling, general and administrative expenses while other retailers may include these expenses in cost of merchandise sold.

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The following graph summarizes cost of merchandise sold and gross margin as a percent of net sales (Dollars in Millions):

Gross margin is calculated as net sales less cost of merchandise sold.  Gross margin as a percent of net sales increased 32 basis points in 2018 and 13 basis points in 2017.  The increases were driven by effective inventory management which contributed to fewer permanent and promotional markdowns, partially offset by higher shipping costs resulting from digital growth.  

Selling, General and Administrative Expenses

SG&A includes compensation and benefit costs (including stores, corporate headquarters, buying and merchandising, and distribution centers); occupancy and operating costs of our retail, distribution and corporate facilities; expenses from our Kohl’s credit card operations; freight expenses associated with moving merchandise from our distribution centers to our retail stores and among distribution and retail facilities; marketing expenses, offset by vendor payments for reimbursement of specific, incremental and identifiable costs; and other non-operating revenues and expenses. We do not include depreciation and amortization in SG&A. The classification of these expenses varies across the retail industry.

Many of our expenses, including store payroll and distribution costs, are variable in nature. These costs generally increase as sales increase and decrease as sales decrease. We measure both the change in these variable expenses and the expense as a percent of sales. If the expense as a percent of sales decreased from the prior year, the expense "leveraged". If the expense as a percent of sales increased over the prior year, the expense "deleveraged".

The following graph summarizes the increases and (decreases) in SG&A by expense type (Dollars in Millions):

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SG&A increased $100 million, or 2%, to $5.6 billion for 2018.  The increase is net of approximately $40 million of incremental expense in 2017 due to the 53^rd week in the fiscal 2017 calendar.  As a percentage of revenue, SG&A deleveraged by 30 basis points.

The increase in technology expenses reflects higher spend as we migrate technology systems to the cloud.  Leadership changes drove the increase in corporate expenses.  Distribution costs, which exclude payroll related to online originated orders that were shipped from our stores, were $312 million for 2018 and increased $9 million due to higher transportation costs.  Marketing costs reflect higher digital and personalization spend.  In our stores, increases in expenses driven by omnichannel support of ship-from-store and buy online, pick-up in store operations were offset by productivity improvements.  Expenses from our credit card operations decreased due to savings in payroll and operating costs.

The following graph summarizes the increases and (decreases) in SG&A by expense type (Dollars in Millions):

SG&A increased $71 million, or 1%, to $5.5 billion for 2017.  Approximately $40 million of the increase was due to the 53^rd week in the fiscal 2017 calendar.  As a percentage of revenue, SG&A leveraged by 20 basis points.  

The increase in corporate expenses was driven by higher incentive compensation as a result of our strong financial performance in 2017.  The increase in technology expenses reflects higher costs as we migrate to the cloud.  Distribution costs, which exclude payroll related to online originated orders that were shipped from our stores, were $303 million for 2017.  The increase of $23 million was due to growth in digital sales and the opening of our fifth E-Commerce facility.  In our stores, decreases in controllable expenses were substantially offset by higher store payroll due to on-going wage pressure and omnichannel support of ship-from-store and buy online, pick-up in store operations.  Expenses from our credit card operations decreased due to lower operating costs.  Marketing costs reflect efficiencies in our non-customer facing spend and the benefit of not repeating a non-productive marketing event.  

Other Expenses

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The changes in depreciation and amortization reflect the net impact of lower depreciation due to maturing of our stores, higher amortization due to investments in technology, higher depreciation from our fifth E-Commerce fulfillment center which opened in 2017, and a $22 million write-off in 2017 of information technology projects that no longer fit into our strategic and cloud migration plans.

The decrease in interest expense in 2018 was driven by the benefits of debt reductions in 2018. Higher interest income due to higher yields and investment balances and lower interest on capital leases as the portfolio matures also contributed to the decreases in both periods.

Impairments, store closing and other costs include the following expenses related to closing four stores, consolidating call center locations which support both Kohl’s charge and online customers, a voluntary retirement program, and the impairment of certain assets in 2018. In 2016, the costs related to closing 18 stores and the organizational realignment at our corporate office:

Loss on the extinguishment of debt of $63 million in 2018 resulted from a $413 million make whole call and a $500 million cash tender offer in 2018.  

Income Taxes

On December 22, 2017, H.R. 1, originally the Tax Cuts & Jobs Act, was signed into law making significant changes to the Internal Revenue Code.  Changes include a corporate rate decrease from 35% to 21%, effective January 1, 2018, as well as a variety of other changes including the acceleration of expensing of certain business assets and reductions in the amount of executive pay that could qualify as a tax deduction.

Our effective tax rate in 2018 includes the full year benefit of the decrease in the corporate rate.  For 2017, the reduction in the tax rate was prorated, resulting in a statutory federal tax rate of 33.7%.  In 2017, we recorded a total tax benefit of $136 million related to the federal tax rate reduction and the re-measurement of our deferred tax assets and liabilities as well as a $20 million benefit from the settlement of a significant state tax dispute.  These items reduced our 2017 effective tax rate by 10.9 percentage points.  

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Adjusted Net Income and Earnings per Diluted Share

We believe adjusted results are useful because they provide enhanced visibility into our results for the periods excluding the impact of unique items such as those included in the table above.  However, these non-GAAP financial measures are not intended to replace GAAP measures.

Inflation

We expect that our operations will continue to be influenced by general economic conditions, including food, fuel and energy prices, higher wages and by costs to source our merchandise. There can be no assurance that our business will not be impacted by such factors in the future.

Liquidity and Capital Resources

The following table presents our primary cash requirements and sources of funds.

Our working capital and inventory levels typically build throughout the fall, peaking during the November and December holiday selling season.

The following table includes cash balances and changes:

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Operating Activities

Net cash provided by operations increased $416 million to $2.1 billion in 2018.  The increase was primarily attributable to changes in accounts payable and other operating assets and liabilities.

Net cash provided by operations decreased $462 million to $1.7 billion in 2017.  The decrease was primarily attributable to changes in accounts payable.

Investing Activities

Net cash used in investing activities decreased $77 million to $572 million in 2018. The decrease was primarily due to the timing of technology spending.

Net cash used in investing activities decreased $107 million to $649 million in 2017. The decrease was primarily due to the completion of the beauty rollout, corporate improvements, and new stores in 2016.

The following chart summarizes capital expenditures by major category:

We expect total capital expenditures of approximately $850 million in fiscal 2019. The increase is driven by omnichannel investments as we construct our sixth E-commerce fulfillment center.  The total actual amount of our future capital expenditures will depend on store strategies; construction of and renovations to distribution centers; mix of owned, leased or acquired stores; and technology and corporate spending.  We do not anticipate that our capital expenditures will be limited by any restrictive covenants in our financing agreements.

Financing Activities

Net cash used in financing activities increased $1.1 billion to $1.9 billion in 2018, primarily due to $943 million of debt reductions during the year.

Net cash used in financing activities decreased $222 million to $808 million in 2017, primarily due to a $251 million decrease in treasury stock purchases. Share repurchases are discretionary in nature. The timing and amount of repurchases are based upon available cash balances, our stock price and other factors.

We may again seek to retire or purchase our outstanding debt through open market cash purchases, privately negotiated transactions or otherwise. Such repurchases, if any, will depend on prevailing market conditions, our liquidity requirements, contractual restrictions and other factors. The amounts involved could be material.

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As of February 2, 2019, our credit ratings were as follows:

During 2018, we paid cash dividends of $400 million as detailed in the following table:  

On February 27, 2019, our Board of Directors declared a quarterly cash dividend on our common stock of $0.67 per share, a 10% increase over our prior dividend. The dividend is payable April 3, 2019 to shareholders of record at the close of business on March 20, 2019.

Free Cash Flow

We generated $1.4 billion of free cash flow for 2018; an increase of $522 million, or 59%, over 2017. As discussed above, the increase is primarily the result of changes in operating assets and liabilities. Free cash flow is a non-GAAP financial measure which we define as net cash provided by operating activities and proceeds from financing obligations (which generally represent landlord reimbursements of construction costs) less capital expenditures and capital lease and financing obligation payments. Free cash flow should be evaluated in addition to, and not considered a substitute for, other financial measures such as net income and net cash provided by operating activities. We believe that free cash flow represents our ability to generate additional cash flow from our business operations. See the key financial ratio calculations section below.

Liquidity Ratios

The following table provides additional measures of our liquidity:

Liquidity measures our ability to meet short-term cash needs.  Working capital decreased $566 million and our current ratio decreased 22 basis points over year-end 2017 primarily due to lower cash balances as a result of debt reductions.

Return on Investment Ratios

The following table provides additional measures of our return on investments:

Changes in earnings drove changes in our return on investment ratios.

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We believe that ROI is a useful financial measure in evaluating our operating performance. When analyzed in conjunction with our net earnings and total assets and compared with the return on assets, it provides investors with a useful tool to evaluate our ongoing operations and our management of assets from period to period.  ROI is a non-GAAP financial measure which we define as earnings before interest, taxes, depreciation, amortization and rent (“EBITDAR”) divided by average gross investment. Our ROI calculation may not be comparable to similarly titled measures reported by other companies. ROI should be evaluated in addition to, and not considered a substitute for, other financial measures such as return on assets.  See the key financial ratio calculations below for our ROI and ROA and ROI excluding non-recurring items calculations.

Capital Structure Ratios

The following table provides additional measures of our capital structure:

The decreases in our capital structure ratios are primarily due to debt reductions in 2018.

Adjusted Debt to EBITDAR is a non-GAAP financial measure which we define as our adjusted outstanding debt balance divided by adjusted EBITDAR.  We believe that our debt levels are best analyzed using this measure. Our current goals are to maintain a ratio that demonstrates our commitment to an investment grade rating and allows us to operate with an efficient capital structure for our size, growth plans and industry.  Our Adjusted Debt to EBITDAR calculation may not be comparable to similarly-titled measures reported by other companies. Adjusted Debt to EBITDAR should be evaluated in addition to, and not considered a substitute for, other financial measures such as debt/capitalization. See the key financial ratio calculations section below for our Adjusted Debt to EBITDAR calculation.

Our debt agreements contain various covenants including limitations on additional indebtedness and a maximum permitted debt ratio. As of February 2, 2019, we were in compliance with all debt covenants and expect to remain in compliance during 2019.  See the key financial ratio calculations section below for our debt covenant calculation.  

Key Financial Ratio Calculations

The following tables include our ROA and ROI calculations. All ratios except ROA are non-GAAP financial measures.

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The following table reconciles net cash provided by operating activities (a GAAP measure) to free cash flow (a non-GAAP measure):

The following table includes our debt/capitalization and Adjusted Debt to Adjusted EBITDAR calculations:

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The following table includes our debt ratio calculation, as defined by our debt agreements:

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Contractual Obligations

Our contractual obligations as of February 2, 2019 were as follows: