Sears 2008 Annual Report Download - page 45

Shrinkage is estimated as a percentage of sales for the period from the date of the last physical inventory to
the end of the fiscal year. Physical inventories are taken at least annually for all stores on a staggered basis
throughout the year and inventory records are adjusted accordingly. The shrinkage rate from the most recent
physical inventory, in combination with historical experience, is used as the basis for the shrinkage accrual
following the physical inventory.
Self Insurance Reserves
We use a combination of third-party insurance and/or self-insurance for a number of risks including
workers’ compensation, asbestos and environmental, automobile, warranty, product and general liability claims.
General liability costs relate primarily to litigation that arises from store operations. Self-insurance reserves
include actuarial estimates of both claims filed and carried at their expected ultimate settlement value and claims
incurred but not yet reported. Our estimated claim amounts are discounted using a rate with a duration that
approximates the duration of our self-insurance reserve portfolio. Our liability reflected on the consolidated
balance sheets represents an estimate of the ultimate cost of claims incurred as of the balance sheet date. In
estimating this liability, we utilize loss development factors based on Company-specific data to project the future
development of incurred losses. Loss estimates are adjusted based upon actual claims settlements and reported
claims. These projections are subject to a high degree of variability based upon future inflation rates, litigation
trends, legal interpretations, benefit level changes and claim settlement patterns. Although we do not expect the
amounts ultimately paid to differ significantly from our estimates, self-insurance reserves could be affected if
future claim experience differs significantly from the historical trends and the actuarial assumptions.
Defined Benefit Retirement Plans
The fundamental components of accounting for defined benefit retirement plans consist of the compensation
cost of the benefits earned, the interest cost from deferring payment of those benefits into the future and the
results of investing any assets set aside to fund the obligation. Such retirement benefits were earned by associates
ratably over their service careers. Therefore, the amounts reported in the income statement for these retirement
plans have historically followed the same pattern. Accordingly, changes in the obligations or the value of assets
to fund them have been recognized systematically and gradually over the associate’s estimated period of service.
The largest drivers of experience losses in recent years have been the discount rate used to determine the present
value of the obligation and the actual return on pension assets. We recognize the changes by amortizing
experience gains/losses in excess of the 10% corridor into expense over the associate service period and by
recognizing the difference between actual and expected asset returns over a five-year period.
Effective January 31, 1996, Kmart’s pension plans were frozen, and associates no longer earn additional
benefits under the plans. Therefore, there are no assumptions related to future compensation costs relating to the
Kmart pension plans. During the first quarter of 2005, Holdings announced that the Sears’ domestic pension plan
would be frozen effective January 1, 2006. Accordingly, domestic associates have earned no additional benefits
subsequent to December 31, 2005. Benefits earned through December 31, 2005 will be paid out to eligible
participants following retirement.
The Kmart tax-qualified defined benefit pension plan was merged with and into the Sears domestic pension
plan effective as of the end of the day January 30, 2008. The merged plan was renamed as the Sears Holdings
Pension Plan (“SHC domestic plan”) and Holdings accepted sponsorship of the SHC domestic plan effective as
of that date.
Holdings’ actuarial valuations utilize key assumptions including discount rates and expected returns on plan
assets. We are required to consider current market conditions, including changes in interest rates and plan asset
investment returns, in determining these assumptions. Actuarial assumptions may differ materially from actual
results due to changing market and economic conditions, changes in investment strategies, higher or lower
withdrawal rates, and longer or shorter life spans of participants.
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