Petsmart 2014 Annual Report Download - page 85

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Table of Contents
PetSmart, Inc. and Subsidiaries
Notes to the Consolidated Financial Statements — (Continued)
In accordance with our master operating agreement with Banfield, we charge Banfield license fees for the space used by
the veterinary hospitals and for its portion of specific operating expenses. License fees and the reimbursements for specific
operating expenses are included in other revenue in the Consolidated Statements of Income and Comprehensive Income.
Cost of Merchandise Sales
Cost of merchandise sales includes the following types of expenses:
• Purchase price of inventory sold;
• Transportation costs associated with inventory;
• Inventory shrinkage costs and valuation adjustments;
• Costs associated with operating our distribution network, including payroll and benefit costs, occupancy costs, utilities
costs, and depreciation;
• Procurement costs, including merchandising and other costs directly associated with the procurement, storage, and
handling of inventory;
• Store occupancy costs, including rent, common area maintenance, real estate taxes, utilities, and depreciation of
leasehold improvements and capitalized lease assets; and
• Reductions for promotions and discounts, as well as vendor funding for temporary price reductions.
Cost of Services Sales
Cost of services sales primarily relates to payroll and benefit expenses related to PetSmart-employed groomers, trainers,
and PetsHotel associates. Also included in cost of services sales are services-related costs for supplies and repairs, as well as
professional fees for the training of groomers, trainers, and PetsHotel associates.
Cost of Other Revenue
Cost of other revenue includes the costs related to license fees and specific operating expenses charged to Banfield.
Vendor Concentration Risk
We purchase merchandise inventories from several hundred vendors worldwide. Sales of products from our two largest
vendors represented approximately 19.0%, 20.5%, and 20.7% of our net sales for 2013, 2012, and 2011, respectively.
Advertising
Advertising costs are expensed as incurred, and are classified within operating, general, and administrative expenses in
the Consolidated Statements of Income and Comprehensive Income. Total advertising expenditures, net of vendor allowances
for advertising agreements, and including direct response advertising, were $139.9 million, $117.6 million, and $95.9 million
for 2013, 2012, and 2011, respectively. Vendor allowances for advertising agreements reduced total advertising expense by
$38.8 million, $35.8 million, and $33.0 million for 2013, 2012, and 2011, respectively.
Stock-based Compensation
We recognize stock-based compensation expense based on the fair value of the awards at the grant date for all awards
except management equity units which are evaluated quarterly based upon the current market value of our common stock. We
use option pricing methods that require the input of highly subjective assumptions, including the expected stock price
volatility. Compensation cost is recognized on a straight-line basis over the vesting period of the related stock-based
compensation award, with the exception of certain retirement provisions.
Foreign Currency
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