CVS 2008 Annual Report Download - page 38

34 CVS CAREMARK
Management’s Discussion and Analysis of Financial Condition
and Results of Operations
Self-Insurance Liabilities
We are self-insured for certain losses related to general liability,
workers’ compensation and auto liability, although we maintain
stop loss coverage with third party insurers to limit our total
liability exposure. We are also self-insured for certain losses
related to health and medical liabilities.
The estimate of our self-insurance liability contains uncertainty
since we must use judgment to estimate the ultimate cost that
will be incurred to settle reported claims and unreported claims
for incidents incurred but not reported as of the balance sheet
date. When estimating our self-insurance liability, we consider a
number of factors, which include, but are not limited to, historical
claim experience, demographic factors, severity factors and
other standard insurance industry actuarial assumptions. On
a quarterly basis, we review to determine if our self-insurance
liability is adequate as it relates to our general liability, workers’
compensation and auto liability. Similar reviews are conducted
semi-annually to determine if our self-insurance liability is
adequate for our health and medical liability.
Our total self-insurance liability covered by this critical accounting
policy was $395.8 million as of December 31, 2008. Although
we believe we have suffi cient current and historical information
available to us to record reasonable estimates for our self-insurance
liability, it is possible that actual results could differ. In order to
help you assess the risk, if any, associated with the uncertainties
discussed above, a ten percent (10%) pre-tax change in our
estimate for our self-insurance liability, which we believe is a
reasonably likely change, would increase or decrease our self-
insurance liability by about $39.6 million as of December 31, 2008.
We have not made any material changes in the accounting
methodology used to establish our self-insurance liability during
the past three years.
Inventory
Our inventory is stated at the lower of cost or market on a fi rst-in,
fi rst-out basis using the retail method of accounting to determine
cost of sales and inventory in our CVS/pharmacy stores, average
cost to determine cost of sales and inventory in our mail service
and specialty pharmacies and the cost method of accounting to
determine inventory in the Longs Drug Stores and our distribution
centers. The Longs Drug Stores will be conformed to the retail
method of accounting when their accounting systems are con-
verted in 2009. Under the retail method, inventory is stated at
cost, which is determined by applying a cost-to-retail ratio to the
ending retail value of our inventory. Since the retail value of our
inventory is adjusted on a regular basis to refl ect current market
conditions, our carrying value should approximate the lower of
cost or market. In addition, we reduce the value of our ending
inventory for estimated inventory losses that have occurred during
the interim period between physical inventory counts. Physical
inventory counts are taken on a regular basis in each store and
a continuous cycle count process is the primary procedure used
to validate the inventory balances on hand in each distribution
center to ensure that the amounts refl ected in the accompanying
consolidated fi nancial statements are properly stated.
The accounting for inventory contains uncertainty since we must
use judgment to estimate the inventory losses that have occurred
during the interim period between physical inventory counts.
When estimating these losses, we consider a number of factors,
which include, but are not limited to, historical physical inventory
results on a location-by-location basis and current physical
inventory loss trends.
Our total reserve for estimated inventory losses covered by this
critical accounting policy was $126.5 million as of December 31,
2008. Although we believe we have suffi cient current and histori-
cal information available to us to record reasonable estimates for
estimated inventory losses, it is possible that actual results could
differ. In order to help you assess the aggregate risk, if any,
associated with the uncertainties discussed above, a ten percent
(10%) pre-tax change in our estimated inventory losses, which
we believe is a reasonably likely change, would increase or
decrease our total reserve for estimated inventory losses by
about $12.6 million as of December 31, 2008.
We have not made any material changes in the accounting
methodology used to establish our inventory loss reserves during
the past three years. Although we believe that the estimates
discussed previously in this document are reasonable and
the related calculations conform to U.S. Generally Accepted
Accounting Principles, actual results could differ from our
estimates, and such differences could be material.
RECENT ACCOUNTING PRONOUNCEMENTS
In the fi rst quarter of 2008, we adopted EITF Issue No. 06-4,
“Accounting for Deferred Compensation and Postretirement
Benefi t Aspects of Endorsement Split-Dollar Life Insurance
Arrangements” (“EITF 06-4”). EITF 06-4 requires the application
of the provisions of SFAS No. 106, “Employers’ Accounting for
Postretirement Benefi ts Other Than Pensions” (“SFAS 106”) (if,
in substance, a postretirement benefi t plan exists), or Accounting
Principles Board Opinion No. 12 (if the arrangement is, in
substance, an individual deferred compensation contract) to
endorsement split-dollar life insurance arrangements. SFAS 106
requires the recognition of a liability for the discounted value of
the future premium benefi ts that will be incurred through the
death of the underlying insureds. The adoption of this statement
did not have a material effect on our consolidated results of
operations, fi nancial position and cash fl ows.