Costco 2007 Annual Report Download - page 56

used to hedge the impact of fluctuations of foreign exchange on inventory purchases and typically have
very short terms. These forward contracts do not qualify for derivative hedge accounting. The
aggregate notional amounts, which approximate the fair value of foreign exchange contracts
outstanding at September 2, 2007 and September 3, 2006, were $74,950 and $63,487, respectively.
The majority of the forward foreign exchange contracts were entered into by the Company’s wholly-
owned United Kingdom subsidiary primarily to hedge U.S. dollar merchandise inventory purchases.
Effective March 25, 2002, the Company entered into “fixed-to-floating” interest rate swaps associated
with its $300,000 5.5% Senior Notes which matured and were retired in March 2007. The swaps were
designated and qualified as fair value hedges of the debt. As the terms of the swaps matched those of
the underlying hedged debt, changes in the fair value of the swaps were offset by corresponding
changes in the carrying amount of the hedged debt and resulted in no net earnings impact. At
September 3, 2006, the aggregate value of the swaps was $1,243 and was included in deferred
income taxes and other current assets on the Company’s consolidated balance sheets. In March 2007,
upon maturity of the debt and expiration of the swap agreements, the aggregate fair value of the swaps
was zero.
The Company is exposed to market risk for changes in utility commodity pricing, which it partially
mitigates through the use of firm-price contracts with counterparties for approximately 23% of its
locations. The effects of these arrangements were not significant for any period presented.
Equity Investments in Subsidiary and Joint Ventures
During 2006 and 2005, the Company contributed an additional $15,000 to its investment in Costco
Mexico (a 50%-owned joint venture), which did not impact its percentage ownership of this entity, as
the joint venture partner contributed a like amount. The Company did not contribute additional capital in
2007.
Foreign Currency Translation
The functional currencies of the Company’s international subsidiaries are the local currency of the
country in which the subsidiary is located. Assets and liabilities recorded in foreign currencies, as well
as the Company’s investment in the Costco Mexico joint venture, are translated at the exchange rate
on the balance sheet date. Translation adjustments resulting from this process are charged or credited
to accumulated other comprehensive income. Revenue and expenses of the Company’s consolidated
foreign operations are translated at average rates of exchange prevailing during the year. Gains and
losses on foreign currency transactions are included in interest income and other and were not
significant in fiscal 2007, 2006, or 2005.
Revenue Recognition
The Company generally recognize sales, net of estimated returns, at the time the member takes
possession of merchandise or receives services. When the Company collects payments from
customers prior to the transfer of ownership of merchandise or the performance of services, the
amounts received are generally recorded as deferred revenue on the consolidated balance sheets until
the sale or service is completed. The Company provides for estimated sales returns based on historical
merchandise returns levels.
During 2007, in connection with changes to its consumer electronic returns policy, the Company
developed more detailed operational data regarding member return patterns. The data indicated a
longer timeframe over which returns are received than previously used to estimate the sales return
reserve. Accordingly, during fiscal 2007 the Company increased the reserve balance and recorded an
adjustment to sales of $452,553 and a pretax charge to income of $95,263 for the related gross margin
and disposition costs.
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