Item 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

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This discussion and analysis should be read with, and is qualified in its entirety by, the Consolidated Financial Statements and the notes thereto. It also should be read in conjunction with the Cautionary Disclosure Regarding Forward-Looking Statements and the Risk Factors disclosures set forth in the Introduction and in Item 1A of this report, respectively.

Executive Overview

We are the largest discount retailer in the United States by number of stores, with 11,879 stores located in 43 states as of February 27, 2015, primarily in the southern, southwestern, midwestern and eastern United States. We offer a broad selection of merchandise, including consumable products such as food, paper and cleaning products, health and beauty products and pet supplies, and non-consumable products such as seasonal merchandise, home decor and domestics, and basic apparel. We completed our first full year of tobacco product sales in 2014, with favorable impacts on our net sales and same store sales. Our merchandise includes high quality national brands from leading manufacturers, as well as comparable quality private brand selections with prices at substantial discounts to national brands. We offer our customers these national brand and private brand products at everyday low prices (typically $10 or less) in our convenient small-box (small store) locations.

The customers we serve are value-conscious, many with low or fixed incomes, and Dollar General has always been intensely focused on helping them make the most of their spending dollars. We believe our convenient store format and broad selection of high quality products at compelling values have driven our substantial growth and financial success over the years. Like other retailers, we have been operating for several years in an environment with ongoing macroeconomic challenges and uncertainties. In addition, our core customer faces multiple macroeconomic headwinds, from fluctuating food and energy costs to rising and uncertain medical costs, and the timetable and strength of economic recovery remains uncertain. During the latter part of 2014, our customer has experienced some general economic tailwinds, such as lower gasoline prices and improving employment rates; however, the duration of these effects is still unknown.

We are keenly focused on executing our four primary operating priorities, which are: 1) drive productive sales growth, 2) enhance our gross profit margins, 3) leverage process improvements and information technology to reduce costs, and 4) strengthen and expand Dollar General's culture of serving others.

Our first priority is driving productive sales growth, which includes increasing shopper frequency, item unit sales and transaction amount. In 2014, sales in same-stores increased by 2.8% over 2013 levels due to increases in both traffic and average transaction. Successful sales growth initiatives in 2014 included completion of the first full year of sales relating to the chain-wide rollout of tobacco products and the expansion of our limited scope store remodeling efforts, which optimized shelf space in many of our older, smaller stores and in many cases, increased the number of coolers for refrigerated and frozen foods and beverages. We remodeled and relocated a total of 915 stores during the year. We continued to meet the affordability needs of our core customer by renewing our focus on $1 to $5 items, as more than 75% of our SKUs at year-end were items priced at $5 or less. We also experienced the successful launch of our DG Digital Coupons program. Similar to the preceding two years, inflation had a very modest impact on our sales in 2014. In addition to same-store sales growth, we opened 700 new stores.

Our second priority is to enhance our gross profit rate. The full year of sales of tobacco products in 2014 has driven increased customer traffic as planned, although the addition of tobacco products and an increased proportion of sales of perishables have lowered the gross profit rate. An increase in markdowns, an increase in the LIFO provision and supply chain disruption due to the longshoreman

labor dispute on the U.S. west coast all contributed to a decrease in our overall gross profit rate in 2014. We believe that both tobacco and perishables are significant drivers of customer traffic that should lead to increases in average purchase amount. We expect the improvement in our net sales from these initiatives will outweigh the corresponding reduction in our gross profit rate. In addition, we have ongoing efforts to reduce product costs including shrink reduction, effective category management, utilization of private brands, distribution and transportation efficiencies and additional improvements to our pricing and markdown business model, among others, while remaining committed to our everyday low price strategy. In our consumables category, we strive to offer the optimal balance of the most popular nationally advertised brands and our own private brands, which generally have higher gross profit rates than national brands. We believe that our core customer is continuing to seek out and purchase goods at entry level price points and is doing so with greater frequency. To this end, we increased our offering of $1 food items and the number of offerings from our Smart & Simple brand. Commodities cost inflation was minimal in 2014 and, in some instances, we experienced a decrease in such costs. Accordingly, overall price increases passed through to our customers were minimal. We have seen positive results from our home and apparel segments, and remain committed to all of our non-consumables categories, including seasonal. We expect the growth of consumables to continue to outpace the non-consumables categories again in 2015, albeit to a lesser degree than in recent years, due in part to the anticipated continued economic pressures discussed above.

Our third priority is leveraging process improvements and information technology to reduce costs. We are committed as an organization to reduce costs, particularly selling, general and administrative expenses ("SG&A") that do not affect the customer experience. In 2014, our financial results reflect a significant increase in incentive compensation expense, as the 2013 threshold financial performance level required under our annual cash incentive compensation program was not met. Additionally, rent and utilities costs contributed to the increase in SG&A. Conversely, we again successfully lowered our store labor costs as a percentage of sales, in part, by simplifying various tasks performed in the stores. Going forward, we will continue to simplify or eliminate unnecessary work and optimize labor in our stores and elsewhere in the company. Additional items that were lower as a percentage of sales include workers' compensation and general liability expenses.

Our fourth priority is to strengthen and expand Dollar General's culture of serving others. For customers this means helping them "Save time. Save money. Every day!" by providing clean, well-stocked stores with quality products at low prices. For employees, this means creating an environment that attracts and retains key employees throughout the organization. For the public, this means giving back to our store communities through our charitable and other efforts. For shareholders, this means meeting their expectations of an efficiently and profitably run organization that operates with compassion and integrity.

Our continued focus on these four priorities, coupled with strong cash flow management and share repurchases, resulted in solid overall operating and financial performance in 2014 as compared to 2013 as follows. Basis points, as referred to below, are equal to 0.01 percent of total sales.

Net sales in 2014 increased 8.0% over 2013. Sales in same-stores increased 2.8%, with increases in both customer traffic and average transaction amount. Consumables represented 76% of sales in 2014 and drove 82% of the total increase. Departments with the most significant increases were tobacco, perishables and candy and snacks. Average sales per square foot in 2014 were $223, up from $220 in 2013.

Operating profit increased 1.9% to $1.77 billion, or 9.4% of sales, compared to $1.74 billion, or 9.9% of sales in 2013. The decrease in our operating profit rate was attributable to a 36 basis-point decrease in our gross profit rate, coupled with a 19 basis-point increase in SG&A.

Our gross profit rate declined by 36 basis points due primarily to an increase in promotional markdowns, and in addition, sales of lower margin items increased at a proportionally higher rate than sales of higher margin items.

The increase in SG&A, as a percentage of sales, was due primarily to a significant increase in incentive compensation expense as well as an increase in rent expense; partially offset by efficiencies relating to store labor costs. For other factors, see the detailed discussion that follows.

Interest expense was relatively constant, decreasing by $0.8 million in 2014 to $88.2 million. Total long-term obligations as of January 30, 2015 were $2.74 billion.

We reported net income of $1.07 billion, or $3.49 per diluted share, for 2014, compared to net income of $1.03 billion, or $3.17 per diluted share, for 2013. Stock repurchase activity during 2013 and 2014 contributed to the increase in diluted earnings per share.

We generated approximately $1.31 billion of cash flows from operating activities in 2015, an increase of 8.4% compared to 2013. We primarily utilized our cash flows from operating activities to invest in the growth of our business and repurchase our common stock.

Inventory turnover was 4.8 times on a rolling four-quarter basis. Inventories increased 2.9% on a per store basis over 2013.

During 2014 we opened 700 new stores, remodeled or relocated 915 stores, and closed 43 stores.

Also in 2014, we repurchased approximately 14.1 million shares of our outstanding common stock for $800.1 million.

In 2015, we plan to continue to focus on our four key operating priorities. We expect our sales growth in 2015 to again be driven by consumables as we expect our customer to continue to face economic challenges, although we are optimistic recent economic tailwinds may encourage our customer to purchase more non-consumable items. We plan to focus our efforts on effectively serving our core customers' needs by providing them with the selection they want at the right price points in 2015.

We made progress in 2014 on implementing an improved supply chain solution to assist in promotional and core inventory forecasting and ordering. We expect to make further progress in 2015, and we expect that eventually all of our SKUs will be managed through this solution. The supply chain solution is helping us improve our ordering processes in the stores and has contributed to our work simplification efforts and improvements in maintaining efficient inventory levels. We believe we have additional opportunities for work simplification and optimization of store labor in 2015.

We are pleased with the performance of our 2014 new stores, remodels and relocations, and in 2015 we plan to open 730 new stores and to remodel or relocate 875 stores.

Finally, we plan to continue to repurchase shares of our common stock in 2015 as well as initiate quarterly cash dividends, subject to Board discretion, to further enhance shareholder return.

Key Financial Metrics. We have identified the following as our most critical financial metrics:

Same-store sales growth;

Sales per square foot;

Gross profit, as a percentage of sales;

Selling, general and administrative expenses, as a percentage of sales;

Operating profit;

Cash flow;

Net income;

Earnings per share;

Earnings before interest, income taxes, depreciation and amortization;

Return on invested capital; and

Adjusted debt to Earnings before interest, income taxes, depreciation and amortization and rent expense.

Readers should refer to the detailed discussion of our operating results below for additional comments on financial performance in the current year periods as compared with the prior year periods.

Results of Operations

Accounting Periods. The following text contains references to years 2014, 2013, and 2012, which represent fiscal years ended January 30, 2015, January 31, 2014, and February 1, 2013, respectively. Our fiscal year ends on the Friday closest to January 31. All fiscal years were 52-week accounting periods.

Seasonality. The nature of our business is seasonal to a certain extent. Primarily because of sales of holiday-related merchandise, sales in our fourth quarter (November, December and January) have historically been higher than sales achieved in each of the first three quarters of the fiscal year. Expenses, and to a greater extent operating profit, vary by quarter. Results of a period shorter than a full year may not be indicative of results expected for the entire year. Furthermore, the seasonal nature of our business may affect comparisons between periods.

The following table contains results of operations data for fiscal years 2014, 2013 and 2012, and the dollar and percentage variances among those years.

											2014 vs. 2013						2013 vs. 2012
(amounts in millions, except per share amounts)		2014			2013			2012			Amount Change			% Change			Amount Change			% Change
Net sales by category:
Consumables		$	14,321.1		$	13,161.8		$	11,844.8		$	1,159.3			8.8	%	$	1,317.0			11.1	%
% of net sales			75.73	%		75.19	%		73.93	%
Seasonal			2,345.0			2,259.5			2,172.4			85.5			3.8			87.1			4.0
% of net sales			12.40	%		12.91	%		13.56	%
Home products			1,205.4			1,115.6			1,061.6			89.7			8.0			54.1			5.1
% of net sales			6.37	%		6.37	%		6.63	%
Apparel			1,038.1			967.2			943.3			71.0			7.3			23.9			2.5
% of net sales			5.49	%		5.53	%		5.89	%
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Net sales		$	18,909.6		$	17,504.2		$	16,022.1		$	1,405.4			8.0	%	$	1,482.0			9.2	%
Cost of goods sold			13,107.1			12,068.4			10,936.7			1,038.7			8.6			1,131.7			10.3
% of net sales			69.31	%		68.95	%		68.26	%
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Gross profit			5,802.5			5,435.7			5,085.4			366.8			6.7			350.3			6.9
% of net sales			30.69	%		31.05	%		31.74	%
Selling, general and administrative expenses			4,033.4			3,699.6			3,430.1			333.9			9.0			269.4			7.9
% of net sales			21.33	%		21.14	%		21.41	%
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Operating profit			1,769.1			1,736.2			1,655.3			32.9			1.9			80.9			4.9
% of net sales			9.36	%		9.92	%		10.33	%
Interest expense			88.2			89.0			127.9			(0.8	)		(0.8	)		(38.9	)		(30.4	)
% of net sales			0.47	%		0.51	%		0.80	%
Other (income) expense			—			18.9			30.0			(18.9	)		(100.0	)		(11.1	)		(37.0	)
% of net sales			0.00	%		0.11	%		0.19	%
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Income before income taxes			1,680.9			1,628.3			1,497.4			52.5			3.2			130.9			8.7
% of net sales			8.89	%		9.30	%		9.35	%
Income taxes			615.5			603.2			544.7			12.3			2.0			58.5			10.7
% of net sales			3.26	%		3.45	%		3.40	%
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Net income		$	1,065.3		$	1,025.1		$	952.7		$	40.2			3.9	%	$	72.5			7.6	%
% of net sales			5.63	%		5.86	%		5.95	%
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Diluted earnings per share		$	3.49		$	3.17		$	2.85		$	0.32			10.1	%	$	0.32			11.2	%
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Net Sales. The net sales increase in 2014 reflects a same-store sales increase of 2.8% compared to 2013. For 2014, there were 11,052 same-stores which accounted for sales of $17.82 billion. Same-stores include stores that have been open for at least 13 months and remain open at the end of the reporting period. Changes in same-store sales are calculated based on the comparable calendar weeks in the prior year, and include stores that have been remodeled, expanded or relocated. The remainder of the increase in sales in 2014 was attributable to new stores, partially offset by sales from closed stores. The increase in sales reflects increased customer traffic and average transaction amounts resulting from the refinement of the Company's merchandise offerings, including a full year's sales of tobacco products,

the expansion of perishables, and enhanced utilization of store square footage. Increases in sales of consumables outpaced our non-consumables, with sales of tobacco products, perishables, and candy and snacks contributing the majority of the increase in sales of consumables.

The net sales increase in 2013 reflects a same-store sales increase of 3.3% compared to 2012. For 2013, there were 10,387 same-stores which accounted for sales of $16.37 billion. The remainder of the increase in sales in 2013 was attributable to new stores, partially offset by sales from closed stores. The increase in sales reflects increased customer traffic and average transaction amounts. Increases in sales of consumables outpaced our non-consumables, with sales of tobacco products, perishables, and candy and snacks contributing the majority of the increase. Tobacco was added in the stores primarily during the first and second quarters of 2013. The expansion of coolers for perishables in over 1,600 existing stores was completed in the first half of the year while other initiatives, including space optimization in many of our smaller stores, were implemented throughout the year.

Of our four major merchandise categories, the consumables category, which generally has a lower gross profit rate than the other three categories, has grown most significantly over the past several years. Because of the impact of sales mix on gross profit, we continually review our merchandise mix and strive to adjust it when appropriate.

Gross Profit. The gross profit rate as a percentage of sales was 30.7% in 2014 compared to 31.1% in 2013. Gross profit increased by 6.7% in 2014, and as a percentage of sales, decreased by 36 basis points. The most significant factor affecting the gross profit rate was an increase in markdowns, primarily due to increased promotions driven by competitive pressures. In addition, we are experiencing an ongoing trend of consumables comprising a larger portion of our net sales, primarily as the result of increased sales of lower margin consumables including tobacco products and expanded perishables offerings. These factors were partially offset by higher initial inventory markups. We recorded a LIFO provision of $4.2 million in 2014 compared to a LIFO benefit of $11.0 million in 2013.

The gross profit rate as a percentage of sales was 31.1% in 2013 compared to 31.7% in 2012. Gross profit increased by 6.9% in 2013, and as a percentage of sales, decreased by 69 basis points. The majority of the gross profit rate decrease in 2013 as compared to 2012 was due to consumables comprising a larger portion of our net sales, primarily as the result of increased sales of lower margin consumables which contributed to lower initial inventory markups. In addition, we experienced a higher inventory shrinkage rate, partially attributable to the addition of certain consumable products with relatively higher retail prices. These factors were partially offset by a reduction in net purchase costs on certain products. The Company recorded a LIFO benefit of $11.0 million in 2013 compared to a LIFO provision of $1.4 million in 2012.

SG&A Expense. SG&A expense was 21.3% as a percentage of sales in 2014 compared to 21.1% in 2013, an increase of 19 basis points. The results reflect a significant increase in incentive compensation expense, as our prior year 2013 financial performance did not satisfy certain performance requirements under our cash incentive compensation program. The 2014 results also reflect increases in rent and utilities. Partially offsetting these increased costs were retail labor expense, which increased at a rate lower than our increase in sales, the introduction of convenience fees charged to customers for cash back on debit card transactions, and a reduction in workers' compensation and general liability expenses. The 2014 period included expenses of $14.3 million relating to an attempted acquisition, while the 2013 results include expenses of $8.5 million for a legal settlement of a previously decertified collective action.

SG&A expense was 21.1% as a percentage of sales in 2013 compared to 21.4% in 2012, an improvement of 27 basis points. We had a significant decrease in incentive compensation expense, as 2013 financial performance did not satisfy certain performance requirements under our cash incentive compensation program. Retail labor expense increased at a rate lower than our increase in sales. Declines in workers' compensation and general liability expenses also contributed to the overall

decrease in SG&A expense as a percentage of sales. The above items were partially offset by certain costs that increased from 2012 to 2013 at a rate higher than our increase in sales, including depreciation and amortization and fees associated with the increased volume of customer purchases transacted with debit cards.

Interest Expense. Interest expense remained relatively constant in 2014 compared to 2013. See the detailed discussion under "Liquidity and Capital Resources" regarding the financing of various long-term obligations and the related effect on interest expense in the periods presented.

The decrease in interest expense in 2013 compared to 2012 is due to lower all-in interest rates primarily resulting from the completion of a refinancing in April 2013.

We had outstanding variable-rate debt of $62.0 million and $139.5 million as of January 30, 2015 and January 31, 2014, respectively, after taking into consideration the impact of interest rate swaps. The remainder of our outstanding indebtedness at January 30, 2015 and January 31, 2014 was fixed rate debt.

Other (Income) Expense. In 2013, we recorded pretax losses of $18.9 million resulting from the termination of our senior secured credit facilities. In 2012, we recorded pretax losses of $29.0 million resulting from the redemption of $450.7 million aggregate principal amount of our senior subordinated notes due 2017 plus accrued and unpaid interest.

Income Taxes. The effective income tax rates for 2014, 2013, and 2012 were expenses of 36.6%, 37.0%, and 36.4%, respectively.

The effective income tax rate for 2014 was 36.6% compared to a rate of 37.0% for 2013 which represents a net decrease of 0.4 percentage points. The effective income tax rate decreased from 2013 due principally to the favorable resolution of state income tax examinations and other state income tax reserves, which increased by a lesser amount in 2014 compared to 2013. As in prior years, we receive a significant income tax benefit related to wages paid to certain newly hired employees that qualify for federal jobs credits (principally the Work Opportunity Tax Credit or "WOTC"). The federal law authorizing the WOTC credit has expired for employees hired after December 31, 2014. In the past, when these credit provisions have expired, Congress has reenacted the law on a retroactive basis. It is uncertain as to whether (or when) WOTC credits will be retroactively renewed in this instance. The Company will receive credits in future periods for employees hired on or before December 31, 2014; however, the future period credit received will be significantly lower than what has been recognized in 2014 and prior years without WOTC reenactment.

The effective income tax rate for 2013 was 37.0% compared to a rate of 36.4% for 2012 which represents a net increase of 0.6 percentage points. The 2012 amounts were favorably impacted by the resolution of income tax examinations that did not reoccur, to the same extent, in 2013. This effective tax rate increase was partially offset by the recording of an income tax benefit in 2013 associated with the expiration of the assessment period during which the taxing authorities could have assessed additional income tax associated with our 2009 tax year. In addition, 2013 reflects larger income tax benefits associated with federal jobs credits.

The 2012 effective tax rate of 36.4% was greater than the statutory tax rate of 35% due primarily to the inclusion of state income taxes in the total effective tax rate.

Off Balance Sheet Arrangements

The entities involved in the ownership structure underlying the leases for three of our distribution centers meet the accounting definition of a Variable Interest Entity ("VIE"). One of these distribution centers has been recorded as a financing obligation whereby its property and equipment are reflected in our consolidated balance sheets. The land and buildings of the other two distribution centers have been recorded as operating leases. We are not the primary beneficiary of these VIEs and, accordingly, have not included these entities in our consolidated financial statements. Other than the foregoing, we are not party to any material off balance sheet arrangements.

Effects of Inflation

We experienced little or no overall product cost inflation in 2014, 2013 and 2012.

Liquidity and Capital Resources

Current Financial Condition and Recent Developments

During the past three years, we have generated an aggregate of approximately $3.66 billion in cash flows from operating activities and incurred approximately $1.48 billion in capital expenditures. During that period, we expanded the number of stores we operate by 1,852, representing growth of approximately 19%, and we remodeled or relocated 2,089 stores, or approximately 18% of the stores we operated as of January 30, 2015. We intend to continue our current strategy of pursuing store growth, remodels and relocations in 2015.

We have a five-year $1.85 billion unsecured credit agreement (the "Facilities"), and we have outstanding $1.8 billion aggregate principal amount of senior notes. At January 30, 2015, we had total outstanding debt (including the current portion of long-term obligations) of $2.74 billion, which includes balances under the Facilities, and senior notes, all of which are described in greater detail below. We had $821.5 million available for borrowing under the Facilities at January 30, 2015.

We believe our cash flow from operations and existing cash balances, combined with availability under the Facilities, and access to the debt markets will provide sufficient liquidity to fund our current obligations, projected working capital requirements, capital spending and planned dividend payments for a period that includes the next twelve months as well as the next several years. However, our ability to maintain sufficient liquidity may be affected by numerous factors, many of which are outside of our control. Depending on our liquidity levels, conditions in the capital markets and other factors, we may from time to time consider the issuance of debt, equity or other securities, the proceeds of which could provide additional liquidity for our operations.

Facilities

The Facilities consist of a senior unsecured term loan facility (the "Term Facility") with an initial balance of $1.0 billion and an $850.0 million senior unsecured revolving credit facility (the "Revolving Facility") which provides for the issuance of letters of credit up to $250.0 million. We may request, subject to agreement by one or more lenders, increased revolving commitments and/or incremental term loan facilities in an aggregate amount of up to $150.0 million. The Facilities mature on April 11, 2018.

Borrowings under the Facilities bear interest at a rate equal to an applicable margin plus, at our option, either (a) LIBOR or (b) a base rate (which is usually equal to the prime rate). The applicable margin for borrowings as of January 30, 2015 was 1.275% for LIBOR borrowings and 0.275% for base-rate borrowings. We must also pay a facility fee, payable on any used and unused amounts of the Facilities, and letter of credit fees. The applicable margins for borrowings, the facility fees and the letter of credit fees under the Facilities are subject to adjustment each quarter based on our long-term senior unsecured debt ratings.

The Term Facility amortizes in quarterly installments of $25.0 million, which commenced on August 1, 2014. The final quarterly payment of the then-remaining balance will be due at maturity on April 11, 2018. As of January 30, 2015, the balance on the Term Facility was $925.0 million. The Facilities can be prepaid in whole or in part at any time. The Facilities contain certain covenants that place limitations on the incurrence of liens; change of business; mergers or sales of all or substantially all assets; and subsidiary indebtedness, among other limitations. The Facilities also contain financial covenants that require the maintenance of a minimum fixed charge coverage ratio and a maximum

leverage ratio. As of January 30, 2015, we were in compliance with all such covenants. The Facilities also contain customary affirmative covenants and events of default.

As of January 30, 2015, we had total outstanding letters of credit of $43.6 million, $28.5 million of which were under the Revolving Facility.

For the remainder of fiscal 2015, we anticipate potential borrowings under the Revolving Facility up to a maximum of approximately $500 million outstanding at any one time, including any anticipated borrowings to fund repurchases of common stock.

Senior Notes

We have $500.0 million aggregate principal amount of 4.125% senior notes due 2017 (the "2017 Senior Notes") which mature on July 15, 2017, $400.0 million aggregate principal amount of 1.875% senior notes due 2018 (the "2018 Senior Notes"), net of discount at issuance of $0.5 million, which mature on April 15, 2018; and $900.0 million aggregate principal amount of 3.25% senior notes due 2023 (the "2023 Senior Notes"), net of discount at issuance of $2.4 million, which mature on April 15, 2023. Collectively, the 2017 Senior Notes, the 2018 Senior Notes and the 2023 Senior Notes comprise the "Senior Notes", each of which were issued pursuant to an indenture as modified by supplemental indentures relating to each series of Senior Notes (as so supplemented, the "Senior Indenture"). Interest on the 2017 Senior Notes is payable in cash on January 15 and July 15 of each year and commenced on January 15, 2013. Interest on the 2018 Senior Notes and the 2023 Senior Notes is payable in cash on April 15 and October 15 of each year and commenced on October 15, 2013.

We may redeem some or all of the Senior Notes at any time at redemption prices set forth in the Senior Indenture. Upon the occurrence of a change of control triggering event, which is defined in the Senior Indenture, each holder of our Senior Notes has the right to require us to repurchase some or all of such holder's Senior Notes at a purchase price in cash equal to 101% of the principal amount thereof, plus accrued and unpaid interest, if any, to the repurchase date.

The Senior Indenture contains covenants limiting, among other things, our ability (subject to certain exceptions) to consolidate, merge, or sell or otherwise dispose of all or substantially all of our assets; and our ability and the ability of our subsidiaries to incur or guarantee indebtedness secured by liens on any shares of voting stock of significant subsidiaries.

The Senior Indenture also provides for events of default which, if any of them occurs, would permit or require the principal of and accrued interest on our Senior Notes to become or to be declared due and payable.

Sale Leaseback Transaction

In January 2014 we consummated a transaction pursuant to which we sold and subsequently leased back the land, buildings and related improvements for 233 of our stores. This transaction resulted in cash proceeds of approximately $281.6 million.

Rating Agencies

In February 2015, Standard & Poor's reaffirmed our senior unsecured debt rating of BBB– and our corporate debt rating of BBB–, both with a stable outlook, and Moody's reaffirmed our senior unsecured debt rating of Baa3 with a stable outlook. Previously, Standard and Poor's had placed all of our credit ratings on watch with negative implications and Moody's had placed all of our credit ratings on review for downgrade due to the proposed business combination with Family Dollar. Our current credit ratings, as well as future rating agency actions, could (i) impact our ability to finance our operations on satisfactory terms; (ii) affect our financing costs; and (iii) affect our insurance premiums

and collateral requirements necessary for our self-insured programs. There can be no assurance that we will be able to maintain or improve our current credit ratings.

Interest Rate Swaps

We use interest rate swaps to minimize the risk of adverse changes in interest rates. These swaps are intended to reduce risk by hedging an underlying economic exposure. Because of high correlation between the derivative financial instrument and the underlying exposure being hedged, fluctuations in the value of the financial instruments are generally offset by reciprocal changes in the value of the underlying economic exposure. Our principal interest rate exposure relates to outstanding amounts under our Facilities. At January 30, 2015, we had interest rate swaps with a total notional amount of $875.0 million. For more information see Item 7A, "Quantitative and Qualitative Disclosures about Market Risk" below.

Fair Value Accounting

We have classified our interest rate swaps, as further discussed in Item 7A. below, in Level 2 of the fair value hierarchy, as the significant inputs to the overall valuations are based on market-observable data or information derived from or corroborated by market-observable data, including market-based inputs to models, model calibration to market-clearing transactions, broker or dealer quotations, or alternative pricing sources with reasonable levels of price transparency. Where models are used, the selection of a particular model to value a derivative depends upon the contractual terms of, and specific risks inherent in, the instrument as well as the availability of pricing information in the market. We use similar models to value similar instruments. Valuation models require a variety of inputs, including contractual terms, market prices, yield curves, credit curves, measures of volatility, and correlations of such inputs. For our derivatives, all of which trade in liquid markets, model inputs can generally be verified.

We incorporate credit valuation adjustments to appropriately reflect both our own nonperformance risk and the respective counterparty's nonperformance risk in the fair value measurements of our derivatives. The credit valuation adjustments are calculated by determining the total expected exposure of the derivatives (which incorporates both the current and potential future exposure) and then applying each counterparty's credit spread to the applicable exposure. For derivatives with two-way exposure, such as interest rate swaps, the counterparty's credit spread is applied to our exposure to the counterparty, and our own credit spread is applied to the counterparty's exposure to us, and the net credit valuation adjustment is reflected in our derivative valuations. The total expected exposure of a derivative is derived using market-observable inputs, such as yield curves and volatilities. The inputs utilized for our own credit spread are based on implied spreads from our publicly-traded debt. For counterparties with publicly available credit information, the credit spreads over LIBOR used in the calculations represent implied credit default swap spreads obtained from a third party credit data provider. In adjusting the fair value of our derivative contracts for the effect of nonperformance risk, we have considered the impact of netting and any applicable credit enhancements, such as collateral postings, thresholds, mutual puts, and guarantees. Additionally, we actively monitor counterparty credit ratings for any significant changes.

As of January 30, 2015, the net credit valuation adjustments had an insignificant impact on the settlement values of our derivative liabilities. Various factors impact changes in the credit valuation adjustments over time, including changes in the credit spreads of the parties to the contracts, as well as changes in market rates and volatilities, which affect the total expected exposure of the derivative instruments. When appropriate, valuations are also adjusted for various factors such as liquidity and bid/offer spreads, which factors we deemed to be immaterial as of January 30, 2015.

Contractual Obligations

The following table summarizes our significant contractual obligations and commercial commitments as of January 30, 2015 (in thousands):

		Payments Due by Period
Contractual obligations		Total			1 year			1 - 3 years			3 - 5 years			5+ years
Long-term debt obligations		$	2,736,995		$	100,090		$	700,555		$	1,025,955		$	910,395
Capital lease obligations			5,875			1,068			2,114			957			1,736
Interest(a)			353,570			71,770			125,478			61,967			94,355
Self-insurance liabilities(b)			225,021			83,165			93,738			31,097			17,021
Operating leases(c)			6,626,501			793,274			1,454,936			1,232,628			3,145,663
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​
Subtotal		$	9,947,962		$	1,049,367		$	2,376,821		$	2,352,604		$	4,169,170
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​

		Commitments Expiring by Period
Commercial commitments(d)		Total			1 year			1 - 3 years			3 - 5 years			5+ years
Letters of credit		$	15,100		$	15,100		$	—		$	—		$	—
Purchase obligations(e)			987,784			963,720			24,064			—			—
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​
Subtotal		$	1,002,884		$	978,820		$	24,064		$	—		$	—
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​
Total contractual obligations and commercial commitments(f)		$	10,950,846		$	2,028,187		$	2,400,885		$	2,352,604		$	4,169,170
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​
​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​	​

(a)

Represents obligations for interest payments on long-term debt and capital lease obligations, and includes projected interest on variable rate long-term debt, using 2014 year end rates. Variable rate long-term debt includes the balance of the senior revolving credit facility (which had a balance of zero as of January 30, 2015), the balance of our tax increment financing of $12.0 million, and the unhedged portion of the senior term loan facility of $50 million.

(b)

We retain a significant portion of the risk for our workers' compensation, employee health insurance, general liability, property loss and automobile insurance. As these obligations do not have scheduled maturities, these amounts represent undiscounted estimates based upon actuarial assumptions. Reserves for workers' compensation and general liability which existed as of the date of a merger transaction in 2007 were discounted in order to arrive at estimated fair value. All other amounts are reflected on an undiscounted basis in our consolidated balance sheets.

(c)

Operating lease obligations are inclusive of amounts included in deferred rent in our consolidated balance sheets.

(d)

Commercial commitments include information technology license and support agreements, supplies, fixtures, letters of credit for import merchandise, and other inventory purchase obligations.

(e)

Purchase obligations include legally binding agreements for software licenses and support, supplies, fixtures, and merchandise purchases (excluding such purchases subject to letters of credit).

(f)

We have potential payment obligations associated with uncertain tax positions that are not reflected in these totals. We are currently unable to make reasonably reliable estimates of the period of cash settlement with the taxing authorities for the $10.7 million of reserves for uncertain tax positions.

Share Repurchase Program

On March 10, 2015, the Company's Board of Directors authorized a $1.0 billion increase to our existing common stock repurchase program. The total remaining authorization is approximately $1.2 billion at March 12, 2015. Under the authorization, purchases may be made in the open market or in privately negotiated transactions from time to time subject to market and other conditions, and the authorization has no expiration date. For more detail about our share repurchase program, see Note 12 to the consolidated financial statements.

Other Considerations

On March 10, 2015, the Board of Directors approved a quarterly cash dividend to shareholders of $0.22 per share which will be paid on April 22, 2015 to shareholders of record on April 8, 2015. Although the Board currently intends to continue regular quarterly cash dividends, the payment of future cash dividends are subject to the Board's discretion and will depend upon, among other things, our results of operations, cash requirements, financial condition, contractual restrictions and other factors that our Board may deem relevant.

Our inventory balance represented approximately 49% of our total assets exclusive of goodwill and other intangible assets as of January 30, 2015. Our ability to effectively manage our inventory balances can have a significant impact on our cash flows from operations during a given fiscal year. Inventory purchases are often somewhat seasonal in nature, such as the purchase of warm-weather or Christmas-related merchandise. Efficient management of our inventory has been and continues to be an area of focus for us.

As described in Note 8 to the consolidated financial statements, we are involved in a number of legal actions and claims, some of which could potentially result in material cash payments. Adverse developments in those actions could materially and adversely affect our liquidity. We also have certain income tax-related contingencies as disclosed in Note 4 to the consolidated financial statements. Future negative developments could have a material adverse effect on our liquidity.

Cash Flows

Cash flows from operating activities. Cash flows from operating activities were $1.31 billion in 2014, an increase of $101.7 million compared to 2013. Significant components of the increase in cash flows from operating activities in 2014 compared to 2013 include increased net income due primarily to increased sales and operating profit in 2014 as described in more detail above under "Results of Operations." Merchandise inventories increased by a greater amount in 2014 compared to 2013, which was partially offset by accounts payable, which increased by $97.2 million in 2014 compared to a $36.9 million increase in 2013. The increase in accounts payable during 2014 was due primarily to the volume and timing of domestic merchandise receipts. On an ongoing basis, we closely monitor and manage our inventory balances, and they may fluctuate from period to period based on new store openings, the timing of purchases, and other factors. Merchandise inventories increased by 9% during 2014, compared to a 7% increase in 2013. Inventory levels in the consumables category increased by $178.4 million, or 12%, in 2014 compared to an increase of $168.0 million, or 12%, in 2013. The seasonal category increased by $13.8 million, or 3%, in 2014 compared to a decrease of $4.7 million, or 1%, in 2013. The home products category was essentially unchanged in 2014 compared to an increase of $22.0 million, or 9%, in 2013. The apparel category increased by $37.1 million, or 13%, in 2014 compared to a decrease of $29.5 million, or 9%, in 2013.

Significant components of the increase in cash flows from operating activities in 2013 compared to 2012 include increased net income due primarily to increased sales and lower SG&A expenses, as a percentage of sales, in 2013 as described in more detail above under "Results of Operations." Significant components of the increase in cash flows from operating activities were related to changes

in working capital, including Merchandise inventories, Accounts payable and Accrued expenses and other. The impact of the changes in inventory balances, which increased in both years but by a lesser amount in 2013 compared to 2012, is explained in more detail below. Items positively affecting Accrued expenses and other include the timing of accruals and payments for legal settlements and non-income taxes (primarily sales taxes), and the adjustment of accruals during 2012 resulting from the favorable resolution of income tax examinations which did not recur in 2013. Partially offsetting the positive impact of the items discussed above were reduced incentive compensation accruals, increased cash payments for income taxes, and changes in Accounts payable, which are affected by the timing and mix of merchandise purchases, the most significant category of which were domestic purchases.

In addition, our merchandise inventories increased by 7% during 2013, compared to a 19% increase in 2012. The percentage increase in inventories in 2013 was less than the prior year due to our emphasis on more effective inventory management and our related efforts to control shrink. Inventory levels in the consumables category increased by $168.0 million, or 12%, in 2013 compared to an increase of $245.7 million, or 22%, in 2012. The seasonal category decreased by $4.7 million, or 1%, in 2013 compared to an increase of $70.2 million, or 18%, in 2012. The home products category increased $22.0 million, or 9%, in 2013 compared to an increase of $56.2 million, or 29%, in 2012. The apparel category decreased by $29.5 million, or 9%, in 2013 compared to an increase of $16.0 million, or 5%, in 2012.

Cash flows from investing activities. Significant components of property and equipment purchases in 2014 included the following approximate amounts: $127 million for improvements, upgrades, remodels and relocations of existing stores; $102 million for new leased stores; $64 million for distribution and transportation-related projects; $38 million for stores built by us; and $35 million for information systems upgrades and technology-related projects. The timing of new, remodeled and relocated store openings along with other factors may affect the relationship between such openings and the related property and equipment purchases in any given period. During 2014, we opened 700 new stores and remodeled or relocated 915 stores. See "—Liquidity and Capital Resources." Cash flows from investing activities decreased from 2013 to 2014, due primarily to a sale-leaseback transaction in 2013 (more fully described below).

Significant components of property and equipment purchases in 2013 included the following approximate amounts: $187 million for improvements, upgrades, remodels and relocations of existing stores; $124 million for new leased stores; $112 million for distribution centers, which included a significant portion of the construction cost of a distribution center in Pennsylvania; $76 million for stores purchased or built by us; and $28 million for information systems upgrades and technology-related projects. During 2013, we opened 650 new stores and remodeled or relocated 582 stores. Our sale-leaseback transaction which we consummated in January 2014 for 233 of our stores resulted in proceeds from the sale of these properties of approximately $281.6 million.

Significant components of property and equipment purchases in 2012 included the following approximate amounts: $155 million for new leased stores; $151 million for improvements, upgrades, remodels and relocations of existing stores; $132 million for stores purchased or built by us; $83 million for distribution centers; $27 million for systems-related capital projects; and $17 million for transportation-related projects. During 2012, we opened 625 new stores and remodeled or relocated 592 stores.

Capital expenditures during 2015 are projected to be in the range of $500-$550 million. We anticipate funding 2015 capital requirements with existing cash balances, cash flows from operations, and if necessary, as of January 30, 2015, we also have significant availability under our Revolving Facility. We plan to continue to invest in store growth and development of approximately 730 new stores and approximately 875 stores to be remodeled or relocated. Capital expenditures in 2015 are anticipated to support our store growth as well as our remodel and relocation initiatives, including

capital outlays for leasehold improvements, fixtures and equipment; the construction of new stores; costs to support and enhance our supply chain initiatives including the distribution center under construction in Texas; technology initiatives; as well as routine and ongoing capital requirements.

Cash flows from financing activities. In 2014, we repurchased 14.1 million outstanding shares of our common stock at a total cost of $800.1 million. We made repayments of $75.0 million on the balance of the Term Facility. Borrowings and repayments under the Revolving Facility during the 2014 period were the same amount, resulting in no net increase to amounts outstanding under the Revolving Facility during 2014.

The 2013 cash flows from financing activities reflect our refinancing in April 2013, including the issuance of long-term obligations which includes the $1.0 billion unsecured Term Facility and the issuance of Senior Notes totaling approximately $1.3 billion. Proceeds from these transactions were used to extinguish our previous secured term loan and revolving credit facilities which had balances of $1.96 billion and $155.6 million at termination. Net repayments under the Revolving Facility were $130.9 million during 2013. We paid debt issuance costs and hedging fees totaling $29.2 million in 2013 related to the refinancing. Also in 2013, we repurchased 11.0 million outstanding shares of our common stock at a total cost of $620.1 million.

In 2012 we repurchased 14.4 million outstanding shares of our common stock at a total cost of $671.4 million. In July 2012, we issued $500.0 million aggregate principal amount of 4.125% senior notes due 2017. Also in July 2012, we redeemed the remaining aggregate principal amount of senior subordinated notes due 2017 at a redemption price of 105.938% of the principal amount thereof, resulting in a cash outflow of $477.5 million. Net borrowings under our senior secured revolving credit facility were $101.8 million during 2012.

Critical Accounting Policies and Estimates

The preparation of financial statements in accordance with U.S. GAAP requires management to make estimates and assumptions that affect reported amounts and related disclosures. In addition to the estimates presented below, there are other items within our financial statements that require estimation, but are not deemed critical as defined below. We believe these estimates are reasonable and appropriate. However, if actual experience differs from the assumptions and other considerations used, the resulting changes could have a material effect on the financial statements taken as a whole.

Management believes the following policies and estimates are critical because they involve significant judgments, assumptions, and estimates. Management has discussed the development and selection of the critical accounting estimates with the Audit Committee of our Board of Directors, and the Audit Committee has reviewed the disclosures presented below relating to those policies and estimates. See Note 1 to the consolidated financial statements for a detailed discussion of our principal accounting policies.

Merchandise Inventories. Merchandise inventories are stated at the lower of cost or market ("LCM") with cost determined using the retail last in, first out ("LIFO") method. We use the retail inventory method ("RIM") to calculate gross profit and the resulting valuation of inventories at cost, which are computed by applying a calculated cost-to-retail inventory ratio to the retail value of sales at a department level. The RIM is an averaging method that has been widely used in the retail industry due to its practicality. Also, the use of the RIM will result in valuing inventories at LCM if markdowns are currently taken as a reduction of the retail value of inventories. Inherent in the retail inventory method calculation are certain significant management judgments and estimates including, among others, initial markups, markdowns, and shrinkage, which significantly impact the gross profit calculation as well as the ending inventory valuation at cost. These significant estimates, coupled with

the fact that the RIM is an averaging process, can, under certain circumstances, produce distorted cost figures. Factors that can lead to distortion in the calculation of the inventory balance include:

applying the RIM to a group of products that is not fairly uniform in terms of its cost and selling price relationship and turnover;

applying the RIM to transactions over a period of time that include different rates of gross profit, such as those relating to seasonal merchandise;

inaccurate estimates of inventory shrinkage between the date of the last physical inventory at a store and the financial statement date; and

inaccurate estimates of LCM and/or LIFO reserves.

Factors that reduce potential distortion include the use of historical experience in estimating the shrink provision (see discussion below) and an annual LIFO analysis whereby all SKUs are considered for inclusion in the index formulation. An actual valuation of inventory under the LIFO method is made at the end of each year based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations are based on management's estimates of expected year-end inventory levels, sales for the year and the expected rate of inflation/deflation for the year and are thus subject to adjustment in the final year-end LIFO inventory valuation. We also perform interim inventory analysis for determining obsolete inventory. Our policy is to write down inventory to an LCM value based on various management assumptions including estimated markdowns and sales required to liquidate such inventory in future periods. Inventory is reviewed on a quarterly basis and adjusted to reflect write-downs as appropriate.

Factors such as slower inventory turnover due to changes in competitors' practices, consumer preferences, consumer spending and unseasonable weather patterns, among other factors, could cause excess inventory requiring greater than estimated markdowns to entice consumer purchases, resulting in an unfavorable impact on our consolidated financial statements. Sales shortfalls due to the above factors could cause reduced purchases from vendors and associated vendor allowances that would also result in an unfavorable impact on our consolidated financial statements.

We calculate our shrink provision based on actual physical inventory results during the fiscal period and an accrual for estimated shrink occurring subsequent to a physical inventory through the end of the fiscal reporting period. This accrual is calculated as a percentage of sales at each retail store, at a department level, and is determined by dividing the book-to-physical inventory adjustments recorded during the previous twelve months by the related sales for the same period for each store. To the extent that subsequent physical inventories yield different results than this estimated accrual, our effective shrink rate for a given reporting period will include the impact of adjusting the estimated results to the actual results. Although we perform physical inventories in virtually all of our stores on an annual basis, the same stores do not necessarily get counted in the same reporting periods from year to year, which could impact comparability in a given reporting period.

We believe our estimates and assumptions related to merchandise inventories have generally been accurate in recent years and we do not currently anticipate material changes in these estimates and assumptions.

Goodwill and Other Intangible Assets. The qualitative and quantitative assessments related to the valuation and any potential impairment of goodwill and other intangible assets are each subject to judgments and/or assumptions. Significant judgments required in the analysis of qualitative factors may include determining the appropriate factors to consider and the relative importance of those factors along with other assumptions. Significant judgments required in the quantitative testing process may include projecting future cash flows, determining appropriate discount rates, correctly applying valuation techniques, correctly computing the implied fair value of goodwill if necessary, and other

assumptions. Future cash flow projections are based on management's projections and represent best estimates taking into account recent financial performance, market trends, strategic plans and other available information, which in recent years have been materially accurate. Although not currently anticipated, changes in these estimates and assumptions could materially affect the determination of fair value or impairment. Future indicators of impairment could result in an asset impairment charge. If these judgments or assumptions are incorrect or flawed, the analysis could be negatively impacted.

Our most recent testing of our goodwill and indefinite lived trade name intangible assets was completed during the third quarter of 2014. No indicators of impairment were evident and no assessment of or adjustment to these assets was required. We are not currently projecting a decline in cash flows that could be expected to have an adverse effect such as a violation of debt covenants or future impairment charges.

Property and Equipment. Property and equipment are recorded at cost. We group our assets into relatively homogeneous classes and generally provide for depreciation on a straight-line basis over the estimated average useful life of each asset class, except for leasehold improvements, which are amortized over the lesser of the applicable lease term or the estimated useful life of the asset. Certain store and warehouse fixtures, when fully depreciated, are removed from the cost and related accumulated depreciation and amortization accounts. The valuation and classification of these assets and the assignment of depreciable lives involves significant judgments and the use of estimates, which we believe have been materially accurate in recent years.

Impairment of Long-lived Assets. Impairment of long-lived assets results when the carrying value of the assets exceeds the estimated undiscounted future cash flows generated by the assets. Our estimate of undiscounted future store cash flows is based upon historical operations of the stores and estimates of future profitability which encompasses many factors that are subject to variability and are difficult to predict. If our estimates of future cash flows are not materially accurate, our impairment analysis could be impacted accordingly. If a long-lived asset is found to be impaired, the amount recognized for impairment is equal to the difference between the carrying value and the asset's estimated fair value. The fair value is estimated based primarily upon projected future cash flows (discounted at our credit adjusted risk-free rate) or other reasonable estimates of fair market value in accordance with U.S. GAAP. Although not currently anticipated, changes in these estimates, assumptions or projections could materially affect the determination of fair value or impairment.

Insurance Liabilities. We retain a significant portion of the risk for our workers' compensation, employee health, property loss, automobile and general liability. These represent significant costs primarily due to our large employee base and number of stores. Provisions are made for these liabilities on an undiscounted basis based on actual claim data and estimates of incurred but not reported claims developed using actuarial methodologies based on historical claim trends, which have been and are anticipated to continue to be materially accurate. If future claim trends deviate from recent historical patterns, or other unanticipated events affect the number and significance of future claims, we may be required to record additional expenses or expense reductions, which could be material to our future financial results.

Contingent Liabilities—Income Taxes. Income tax reserves are determined using the methodology established by accounting standards relating to uncertainty in income taxes. These standards require companies to assess each income tax position taken using a two-step process. A determination is first made as to whether it is more likely than not that the position will be sustained, based upon the technical merits, upon examination by the taxing authorities. If the tax position is expected to meet the more likely than not criteria, the benefit recorded for the tax position equals the largest amount that is greater than 50% likely to be realized upon ultimate settlement of the respective tax position. Uncertain tax positions require determinations and liabilities to be estimated based on provisions of the

tax law which may be subject to change or varying interpretation. If our determinations and estimates prove to be inaccurate, the resulting adjustments could be material to our future financial results.

Contingent Liabilities—Legal Matters. We are subject to legal, regulatory and other proceedings and claims. We establish liabilities as appropriate for these claims and proceedings based upon the probability and estimability of losses and to fairly present, in conjunction with the disclosures of these matters in our financial statements and SEC filings, management's view of our exposure. We review outstanding claims and proceedings with external counsel to assess probability and estimates of loss, which includes an analysis of whether such loss estimates are probable, reasonably possible, or remote. We re-evaluate these assessments on a quarterly basis or as new and significant information becomes available to determine whether a liability should be established or if any existing liability should be adjusted. The actual cost of resolving a claim or proceeding ultimately may be substantially different than the amount of the recorded liability. In addition, because it is not permissible under U.S. GAAP to establish a litigation liability until the loss is both probable and estimable, in some cases there may be insufficient time to establish a liability prior to the actual incurrence of the loss (upon verdict and judgment at trial, for example, or in the case of a quickly negotiated settlement).

Lease Accounting and Excess Facilities. Many of our stores are subject to build-to-suit arrangements with landlords, which typically carry a primary lease term of up to 15 years with multiple renewal options. We also have stores subject to shorter-term leases and many of these leases have renewal options. Certain of our stores have provisions for contingent rentals based upon a percentage of defined sales volume. We recognize contingent rental expense when the achievement of specified sales targets is considered probable. We record minimum rental expense on a straight-line basis over the base, non-cancelable lease term commencing on the date that we take physical possession of the property from the landlord, which normally includes a period prior to store opening to make necessary leasehold improvements and install store fixtures. When a lease contains a predetermined fixed escalation of the minimum rent, we recognize the related rent expense on a straight-line basis and record the difference between the recognized rental expense and the amounts payable under the lease as deferred rent. Tenant allowances, to the extent received, are recorded as deferred incentive rent and amortized as a reduction to rent expense over the term of the lease. We reflect as a liability any difference between the calculated expense and the amounts actually paid. Improvements of leased properties are amortized over the shorter of the life of the applicable lease term or the estimated useful life of the asset.

Share-Based Payments. Our share-based stock option awards are valued on an individual grant basis using the Black-Scholes-Merton closed form option pricing model. We believe that this model fairly estimates the value of our share-based awards. The application of this valuation model involves assumptions that are judgmental and highly sensitive in the valuation of stock options, which affects compensation expense related to these options. These assumptions include the term that the options are expected to be outstanding, the historical volatility of our stock price, applicable interest rates and the dividend yield of our stock. Other factors involving judgments that affect the expensing of share-based payments include estimated forfeiture rates of share-based awards. Historically, these estimates have not been materially inaccurate; however, if our estimates differ materially from actual experience, we may be required to record additional expense or reductions of expense, which could be material to our future financial results.

Fair Value Measurements. Accounting standards for the measurement of fair value of assets and liabilities establish a fair value hierarchy that distinguishes between market participant assumptions based on market data obtained from sources independent of the reporting entity (observable inputs that are classified within Levels 1 and 2 of the hierarchy) and the reporting entity's own assumptions about market participant assumptions (unobservable inputs classified within Level 3 of the hierarchy). Therefore, Level 3 inputs are typically based on an entity's own assumptions, as there is little, if any,

related market activity, and thus require the use of significant judgment and estimates. Currently, we have no assets or liabilities that are valued based solely on Level 3 inputs.

Our fair value measurements are primarily associated with our derivative financial instruments, intangible assets, debt instruments, and to a lesser degree our investments. We use various valuation models in determining the values of these assets and liabilities. The application of these models involves assumptions such as discounted cash flow analysis and interest rate curves that are judgmental and highly sensitive in the fair value computations. In recent years, these methodologies have produced materially accurate valuations.

Derivative Financial Instruments. In addition to estimating the fair value of derivatives as discussed above, we also bear the risk that certain derivative instruments that have been designated as hedges and currently meet the strict hedge accounting requirements may not qualify in the future as "highly effective," as defined, as well as the risk that hedged transactions in cash flow hedging relationships may no longer be considered probable to occur. If hedge accounting were disallowed it could cause greater volatility in our results of operations. Further, new regulations, accounting standards, and related interpretations pertaining to these instruments may be issued in the future, and we cannot predict the possible impact that such requirements may have on our use of derivative instruments.