Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

Executive Summary

Fiscal 2018 included the following notable items:

•	GAAP earnings per share from continuing operations were $5.50.

•	Adjusted earnings per share were $5.39.

•	Total revenue increased 3.6 percent, driven by a comparable sales increase and sales from new stores, partially offset by fiscal 2017 containing 53 weeks.

•	Comparable sales increased 5.0 percent, driven by a 5.0 percent increase in traffic.

◦	Comparable store sales grew 3.2 percent.

◦	Comparable digital channel sales increased 36 percent, contributing 1.8 percentage points to comparable sales growth.

•	We returned $3.4 billion to shareholders through dividends and share repurchases.

As described in Note 2 to the Financial Statements, certain prior-year amounts have been adjusted to reflect the impact of adopting Accounting Standards Update (ASU) No. 2014-09—Revenue from Contracts with Customers (Topic 606), ASU No. 2016-02—Leases (Topic 842), and ASU No. 2017-07—Compensation – Retirement Benefits (Topic 715) throughout this document to conform to the current year presentation.

Sales were $74,433 million for 2018, an increase of $2,647 million or 3.7 percent from the prior year, due to a comparable sales increase of 5.0 percent and the contribution from new stores, partially offset by the impact of the extra week in 2017. Operating income in 2018 decreased by $114 million or 2.7 percent from 2017 to $4,110 million. The Analysis of Results of Operations discussion provides more information. Operating cash flow provided by continuing operations was $5,970 million for 2018, a decrease of $891 million, or 13.0 percent, from $6,861 million for 2017. Refer to the Cash Flows discussion within the Liquidity and Capital Resources section of MD&A on page 24 for additional information.

Earnings Per Share From Continuing Operations										Percent Change
2018			2017 As Adjusted (a)(b)			2016 As Adjusted (b)			2018/2017		2017/2016
GAAP diluted earnings per share	$	5.50		$	5.29		$	4.58		4.0	%	15.5	%
Adjustments	(0.10		)	(0.60		)	0.42
Adjusted diluted earnings per share	$	5.39		$	4.69		$	5.00		15.1	%	(6.3	)%

Note: Amounts may not foot due to rounding. Adjusted diluted earnings per share from continuing operations (Adjusted EPS), a non-GAAP metric, excludes the impact of certain items. Management believes that Adjusted EPS is useful in providing period-to-period comparisons of the results of our continuing operations. A reconciliation of non-GAAP financial measures to GAAP measures is provided on page 21.

(a)	Consisted of 53 weeks.

(b)	Lease standard adoption resulted in a $0.03 and $0.02 reduction in GAAP and Adjusted EPS, respectively, for 2017, and a less than $0.01 and $0.01 reduction in GAAP and Adjusted EPS, respectively, for 2016.

We report after-tax return on invested capital (ROIC) from continuing operations because we believe ROIC provides a meaningful measure of our capital-allocation effectiveness over time. For the trailing twelve months ended February 2, 2019, ROIC was 14.7 percent, compared with 15.4 percent for the trailing twelve months ended February 3, 2018. Excluding the discrete impacts of the Tax Cuts and Jobs Act (Tax Act), ROIC was 14.6 percent and 13.6 percent for the trailing twelve months ended February 2, 2019, and February 3, 2018, respectively. A reconciliation of ROIC is provided on page 23.

Analysis of Results of Operations

										Percent Change
(dollars in millions)	2018			2017 As Adjusted (a)			2016 As Adjusted			2018/2017		2017/2016
Sales	$	74,433		$	71,786		$	69,414		3.7	%	3.4	%
Other revenue	923			928			857			(0.5	)	8.3
Total revenue	75,356			72,714			70,271			3.6		3.5
Cost of sales	53,299			51,125			49,145			4.3		4.0
SG&A expenses	15,723			15,140			14,217			3.9		6.5
Depreciation and amortization (exclusive of depreciation included in cost of sales)	2,224			2,225			2,045			(0.1	)	8.8
Operating income	$	4,110		$	4,224		$	4,864		(2.7	)%	(13.1	)%

(a)	Consisted of 53 weeks.

Rate Analysis	2018		2017 As Adjusted (a)		2016 As Adjusted
Gross margin rate	28.4	%	28.8	%	29.2	%
SG&A expense rate	20.9		20.8		20.2
Depreciation and amortization (exclusive of depreciation included in cost of sales) expense rate	3.0		3.1		2.9
Operating income margin rate	5.5		5.8		6.9

Note: Gross margin rate is calculated as gross margin (sales less cost of sales) divided by sales. All other rates are calculated by dividing the applicable amount by total revenue.

(a)	Consisted of 53 weeks.

Sales

Sales include all merchandise sales, net of expected returns, and gift card breakage. Note 3 of the Financial Statements defines gift card "breakage". Comparable sales is a measure that highlights the performance of our stores and digital channel sales by measuring the change in sales for a period over the comparable, prior-year period of equivalent length. Comparable sales include all sales, except sales from stores open less than 13 months, digital acquisitions we have owned less than 13 months, stores that have been closed, and digital acquisitions that we no longer operate. Comparable sales measures vary across the retail industry. As a result, our comparable sales calculation is not necessarily comparable to similarly titled measures reported by other companies. Digital channel sales include all sales initiated through mobile applications and our websites. Our stores fulfill the majority of digital channel sales, including through store pick up or drive up and delivery via our wholly owned subsidiary, Shipt. Digital channel sales may also be fulfilled through our distribution centers, our vendors, or other third parties.

The increase in 2018 sales compared with 2017 is due to a 5.0 percent comparable sales increase and the contribution from new stores, partially offset by the extra week in 2017, which contributed $1,167 million of sales, or 1.6 percent of 2017 sales. The increase in 2017 sales is due to a comparable sales increase of 1.3 percent, the extra week in 2017, and the contribution from new stores. The extra week contributed 1.7 percentage points of increase over 2016. Inflation did not materially affect sales in any period presented.

Comparable Sales	2018		2017		2016
Comparable sales change	5.0	%	1.3	%	(0.5	)%
Drivers of change in comparable sales
Number of transactions	5.0		1.6		(0.8	)
Average transaction amount	0.1		(0.3	)	0.3

Note: Amounts may not foot due to rounding.

Contribution to Comparable Sales Change	2018		2017		2016
Stores channel comparable sales change	3.2	%	0.1	%	(1.5	)%
Digital channel percentage points contribution to comparable sales change	1.8		1.2		1.0
Total comparable sales change	5.0	%	1.3	%	(0.5	)%

Note: Amounts may not foot due to rounding.

Sales by Channel	2018		2017		2016
Stores originated	92.9	%	94.5	%	95.6	%
Digitally originated	7.1		5.5		4.4
Total	100	%	100	%	100	%

Note 3 to the Financial Statements provides sales by product category. The collective interaction of a broad array of macroeconomic, competitive, and consumer behavioral factors, as well as sales mix and transfer of sales to new stores makes further analysis of sales metrics infeasible.

TD Bank Group (TD) offers credit to qualified guests through Target-branded credit cards: the Target Credit Card and the Target MasterCard Credit Card (Target Credit Cards). Additionally, we offer a branded proprietary Target Debit Card. Collectively, we refer to these products as REDcards®. Guests receive a 5 percent discount on nearly all purchases and free shipping when they use a REDcard at Target. We monitor the percentage of purchases that are paid for using REDcards (REDcard Penetration) because our internal analysis has indicated that a meaningful portion of incremental purchases on our REDcards are also incremental sales for Target.

REDcard Penetration	2018		2017		2016
Target Debit Card	13.0	%	13.1	%	13.0	%
Target Credit Cards	10.9		11.3		11.2
Total REDcard Penetration	23.8	%	24.5	%	24.2	%

Note: Amounts may not foot due to rounding. In 2018, we refined our calculation of REDcard Penetration. The prior period amounts have been updated to conform with the current methodology, resulting in an increase of 0.2 percentage points to the Total REDcard Penetration for 2017 and 2016.

Gross Margin Rate

Our gross margin rate was 28.4 percent in 2018, 28.8 percent in 2017, and 29.2 percent in 2016. The 2018 decrease was primarily due to increased digital fulfillment and supply chain costs. The benefit of merchandising strategies, including cost savings initiatives and efforts to improve pricing and promotions, was partially offset by the impact of our sales mix.

The 2017 decrease was primarily due to increased digital fulfillment costs and supply chain costs. Benefits from cost savings initiatives were offset by net investments in pricing and promotions.

Selling, General and Administrative Expense Rate

Our SG&A expense rate was 20.9 percent in 2018, 20.8 percent in 2017, and 20.2 percent in 2016. The increase in 2018 was primarily due to higher compensation, primarily driven by store wages, partially offset by cost savings across multiple expense categories.

The increase in 2017 was primarily due to higher compensation costs, including both bonus expense and store wages, partially offset by cost savings primarily driven by efficiency in our technology operations.

Depreciation and Amortization Expense Rate

Our depreciation and amortization (exclusive of depreciation included in cost of sales) expense rate was 3.0 percent in 2018, 3.1 percent in 2017, and 2.9 percent in 2016. The 2018 decrease was primarily due to the rate impact of higher sales. The 2017 increase was primarily due to higher accelerated depreciation for planned store remodels, partially offset by the rate impact of the 53rd week of sales.

Store Data

Change in Number of Stores	2018		2017
Beginning store count	1,822		1,802
Opened	29		32
Closed	(7	)	(12	)
Ending store count	1,844		1,822

Number of Stores and Retail Square Feet	Number of Stores					Retail Square Feet (a)
February 2, 2019		February 3, 2018			February 2, 2019		February 3, 2018
170,000 or more sq. ft.	272		274			48,604		48,966
50,000 to 169,999 sq. ft.	1,501		1,500			188,900		189,030
49,999 or less sq. ft.	71		48			2,077		1,359
Total	1,844		1,822			239,581		239,355

(a)	In thousands, reflects total square feet less office, distribution center, and vacant space.

Other Performance Factors

Net Interest Expense

Net interest expense from continuing operations was $461 million, $653 million, and $991 million for 2018, 2017, and 2016, respectively. Net interest expense for 2017 and 2016 included losses on early retirement of debt of $123 million and $422 million, respectively.

Provision for Income Taxes

Our 2018 effective income tax rate from continuing operations increased to 20.3 percent from 19.9 percent in 2017, primarily due to lower discrete favorable benefits of the Tax Act, which were $36 million in 2018 compared with $343 million in 2017, and less rate benefit from our global sourcing operations in 2018 compared with 2017. The lower 2018 benefit of discrete Tax Act-related items was substantially offset by the full-year benefit of a 21 percent federal statutory rate in 2018 compared with a 33.7 percent blended federal statutory rate in 2017.

Our 2017 effective income tax rate from continuing operations decreased to 19.9 percent, from 32.7 percent in 2016, driven primarily by the impact of the Tax Act.

Note 19 of the Financial Statements provides additional information.

Reconciliation of Non-GAAP Financial Measures to GAAP Measures

To provide additional transparency, we have disclosed non-GAAP adjusted diluted earnings per share from continuing operations (Adjusted EPS). This metric excludes certain items presented below. We believe this information is useful in providing period-to-period comparisons of the results of our continuing operations. This measure is not in accordance with, or an alternative to, generally accepted accounting principles in the U.S. (GAAP). The most comparable GAAP measure is diluted earnings per share from continuing operations. Adjusted EPS should not be considered in isolation or as a substitution for analysis of our results as reported under GAAP. Other companies may calculate Adjusted EPS differently than we do, limiting the usefulness of the measure for comparisons with other companies.

		2018												2017 As Adjusted (a)(b)												2016 As Adjusted (b)
(millions, except per share data)		Pretax				Net of Tax				Per Share Amounts				Pretax				Net of Tax				Per Share Amounts				Pretax				Net of Tax				Per Share Amounts
GAAP diluted earnings per share from continuing operations										$	5.50											$	5.29											$	4.58
Adjustments
Tax Act (c)		$	—			$	(36	)		$	(0.07	)		$	—			$	(343	)		$	(0.62	)		$	—			$	—			$	—
Loss on early retirement of debt		—				—				—				123				75				0.14				422				257				0.44
Other (d)		—				—				—				(5		)		(3		)		(0.01		)		(4		)		(2		)		—
Other income tax matters (e)		—				(18		)		(0.03		)		—				(57		)		(0.10		)		—				(7		)		(0.01		)
Adjusted diluted earnings per share from continuing operations										$	5.39											$	4.69											$	5.00

Note: Amounts may not foot due to rounding.

(a)	Consisted of 53 weeks.

(b)	Lease standard adoption resulted in a $0.03 and $0.02 reduction in GAAP and Adjusted EPS, respectively, for 2017, and a less than $0.01 and $0.01 reduction in GAAP and Adjusted EPS, respectively, for 2016. Refer to Note 2 to the Consolidated Financial Statements.

(c)	Represents discrete items related to the Tax Act. Refer to the Provision for Income Taxes discussion within MD&A and Note 19 of the Financial Statements.

(d)	For 2017, represents an insurance recovery related to the 2013 data breach. For 2016, represents items related to the 2015 sale of our pharmacy and clinic businesses.

(e)	Represents income from certain income tax matters not related to current period operations.

Earnings from continuing operations before interest expense and income taxes (EBIT) and earnings before interest expense, income taxes, depreciation and amortization (EBITDA) are non-GAAP financial measures which we believe provide meaningful information about our operational efficiency compared with our competitors by excluding the impact of differences in tax jurisdictions and structures, debt levels, and, for EBITDA, capital investment. These measures are not in accordance with, or an alternative for, GAAP. The most comparable GAAP measure is net earnings from continuing operations. EBIT and EBITDA should not be considered in isolation or as a substitution for analysis of our results as reported under GAAP. Other companies may calculate EBIT and EBITDA differently, limiting the usefulness of the measure for comparisons with other companies.

EBIT and EBITDA										Percent Change
(dollars in millions)	2018			2017 As Adjusted (a)(b)			2016 As Adjusted (b)			2018/2017		2017/2016
Net earnings from continuing operations	$	2,930		$	2,908		$	2,666		0.7	%	9.1	%
+ Provision for income taxes	746			722			1,295			3.5		(44.3	)
+ Net interest expense	461			653			991			(29.3	)	(34.1	)
EBIT (b)	$	4,137		$	4,283		$	4,952		(3.4	)%	(13.5	)%
+ Total depreciation and amortization (c)	2,474			2,476			2,318			(0.1	)	6.8
EBITDA (b)	$	6,611		$	6,759		$	7,270		(2.2	)%	(7.0	)%

(a)	Consisted of 53 weeks.

(b)	Adoption of the new accounting standards resulted in a $29 million and $17 million decrease in EBIT and a $2 million and $3 million increase in EBITDA for 2017 and 2016, respectively.

(c)	Represents total depreciation and amortization, including amounts classified within Depreciation and Amortization and within Cost of Sales.

We have also disclosed after-tax ROIC, which is a ratio based on GAAP information. We believe this metric is useful in assessing the effectiveness of our capital allocation over time. Other companies may calculate ROIC differently, limiting the usefulness of the measure for comparisons with other companies.

After-Tax Return on Invested Capital
				Trailing Twelve Months
Numerator (dollars in millions)				February 2, 2019				February 3, 2018 As Adjusted (a)
Operating income				$	4,110			$	4,224
+ Net other income / (expense)				27				59
EBIT				4,137				4,283
+ Operating lease interest (b)				83				79
- Income taxes (c)(d)				856				867
Net operating profit after taxes				$	3,364			$	3,495

Denominator (dollars in millions)		February 2, 2019				February 3, 2018 As Adjusted				January 28, 2017 As Adjusted
Current portion of long-term debt and other borrowings		$	1,052			$	281			$	1,729
+ Noncurrent portion of long-term debt		10,223				11,117				10,862
+ Shareholders' equity		11,297				11,651				10,915
+ Operating lease liabilities (e)		2,170				2,072				1,970
- Cash and cash equivalents		1,556				2,643				2,512
- Net assets of discontinued operations (f)		—				2				62
Invested capital		$	23,186			$	22,476			$	22,902
Average invested capital (g)		$	22,831			$	22,689

After-tax return on invested capital (d)(h)		14.7	%		15.4	%
After-tax return on invested capital excluding discrete impacts of Tax Act (d)		14.6	%		13.6	%

(a)	Consisted of 53 weeks.

(b)

Represents the add-back to operating income driven by the hypothetical interest expense we would incur if the property under our operating leases were owned or accounted for as finance leases. Calculated using the discount rate for each lease and recorded as a component of rent expense within SG&A Expenses. Operating lease interest is added back to Operating Income in the ROIC calculation to control for differences in capital structure between us and our competitors.

(c)

Calculated using the effective tax rates for continuing operations, which were 20.3 percent and 19.9 percent for the trailing twelve months ended February 2, 2019, and February 3, 2018, respectively. For the trailing twelve months ended February 2, 2019, and February 3, 2018, includes tax effect of $839 million and $851 million, respectively, related to EBIT, and $17 million and $16 million, respectively, related to operating lease interest.

(d)	The effective tax rate for the trailing twelve months ended February 2, 2019, and February 3, 2018, includes discrete tax benefits of $36 million and $343 million, respectively, related to the Tax Act.

(e)	Total short-term and long-term operating lease liabilities included within Accrued and Other Current Liabilities and Noncurrent Operating Lease Liabilities on the Consolidated Statements of Financial Position.

(f)	Included in Other Assets and Liabilities on the Consolidated Statements of Financial Position.

(g)	Average based on the invested capital at the end of the current period and the invested capital at the end of the comparable prior period.

(h)	Adoption of the new lease standard reduced ROIC by approximately 0.5 percentage points for all periods presented.

Analysis of Financial Condition

Liquidity and Capital Resources

Our period-end cash and cash equivalents balance decreased to $1,556 million from $2,643 million in 2017 primarily because we repatriated cash previously held by entities located outside the U.S. and deployed it during 2018 in support of our business objectives. Our cash and cash equivalents balance includes short-term investments of $769 million and $1,906 million as of February 2, 2019, and February 3, 2018, respectively. Our investment policy is designed to preserve principal and liquidity of our short-term investments. This policy allows investments in large money market funds or in highly rated direct short-term instruments that mature in 60 days or less. We also place dollar limits on our investments in individual funds or instruments.

Capital Allocation

We follow a disciplined and balanced approach to capital allocation based on the following priorities, ranked in order of importance: first, we fully invest in opportunities to profitably grow our business, create sustainable long-term value, and maintain our current operations and assets; second, we maintain a competitive quarterly dividend and seek to grow it annually; and finally, we return any excess cash to shareholders by repurchasing shares within the limits of our credit rating goals.

Operating Cash Flows

Operating cash flow provided by continuing operations was $5,970 million in 2018 compared with $6,861 million in 2017 and $5,337 million in 2016. The 2018 operating cash flow decrease was primarily due to a larger increase in inventory in 2018 compared with 2017, partially offset by lower income tax payments in 2018 due to the Tax Act.

The 2017 operating cash flow increase was due to increased payables leverage primarily driven by changes in vendor payment terms in 2017, partially offset by an inventory increase in 2017 compared with a decrease during 2016. The operating cash flow increase was also partially due to the payment of approximately $500 million of taxes during 2016 related to the sale of our pharmacy and clinic businesses.

Inventory

Year-end inventory was $9,497 million, compared with $8,597 million in 2017. We increased inventory in 2018 to support higher sales, including market share opportunities in toys and baby-related merchandise. In addition, inventory levels were increased to support new brand launches and our efforts to improve in-stock levels.

Capital Expenditures

Capital expenditures increased in 2018 from the prior year primarily due to increased investments in existing stores as we further accelerated our current store remodel program. This investment acceleration follows an increase in 2017 as we accelerated our store remodel program.

In addition to these cash investments, we entered into leases related to new stores in 2018, 2017, and 2016 with total future minimum lease payments of $473 million, $438 million, and $550 million, respectively.

We expect capital expenditures in 2019 at a level consistent with 2018 as we continue the current store remodel program, open additional small-format stores, and make other investments in our business. We also expect to continue our current rate of investment in store leases.

Dividends

We paid dividends totaling $1,335 million ($2.52 per share) in 2018 and $1,338 million ($2.44 per share) in 2017, a per share increase of 3.3 percent. We declared dividends totaling $1,347 million ($2.54 per share) in 2018, a per share increase of 3.3 percent over 2017. We declared dividends totaling $1,356 million ($2.46 per share) in 2017, a per share increase of 4.2 percent over 2016. We have paid dividends every quarter since our 1967 initial public offering, and it is our intent to continue to do so in the future.

Share Repurchases

During 2018, 2017, and 2016 we returned $2,067 million, $1,026 million, and $3,686 million, respectively, to shareholders through share repurchase. See Part II, Item 5 of this Annual Report on Form 10-K and Note 21 to the Financial Statements for more information.

Financing

Our financing strategy is to ensure liquidity and access to capital markets, to maintain a balanced spectrum of debt maturities, and to manage our net exposure to floating interest rate volatility. Within these parameters, we seek to minimize our borrowing costs. Our ability to access the long-term debt and commercial paper markets has provided us with ample sources of liquidity. Our continued access to these markets depends on multiple factors, including the condition of debt capital markets, our operating performance, and maintaining strong credit ratings. As of February 2, 2019, our credit ratings were as follows:

Credit Ratings	Moody's	Standard and Poor's	Fitch
Long-term debt	A2	A	A-
Commercial paper	P-1	A-1	F2

If our credit ratings were lowered, our ability to access the debt markets, our cost of funds, and other terms for new debt issuances could be adversely impacted. Each of the credit rating agencies reviews its rating periodically and there is no guarantee our current credit ratings will remain the same as described above.

In 2018, we funded our holiday sales period working capital needs through internally generated funds and the issuance of commercial paper. In 2017, we funded our holiday sales period working capital needs through internally generated funds.

We have additional liquidity through a committed $2.5 billion revolving credit facility obtained through a group of banks. In October 2018, we extended this credit facility by one year to October 2023. No balances were outstanding at any time during 2018, 2017, or 2016.

Most of our long-term debt obligations contain covenants related to secured debt levels. In addition to a secured debt level covenant, our credit facility also contains a debt leverage covenant. We are, and expect to remain, in compliance with these covenants. Additionally, at February 2, 2019, no notes or debentures contained provisions requiring acceleration of payment upon a credit rating downgrade, except that certain outstanding notes allow the note holders to put the notes to us if within a matter of months of each other we experience both (i) a change in control and (ii) our long-term credit ratings are either reduced and the resulting rating is non-investment grade, or our long-term credit ratings are placed on watch for possible reduction and those ratings are subsequently reduced and the resulting rating is non-investment grade.

Note 16 of the Financial Statements provides more information about financing activities.

We believe our sources of liquidity will continue to be adequate to maintain operations, finance anticipated expansion and strategic initiatives, fund debt maturities, pay dividends, and execute purchases under our share repurchase program for the foreseeable future. We continue to anticipate ample access to commercial paper and long-term financing.

Commitments and Contingencies

Contractual Obligations as of	Payments Due by Period
February 2, 2019				Less than			1-3			3-5			After 5
(millions)	Total			1 Year			Years			Years			Years
Recorded contractual obligations:
Long-term debt (a)	$	10,336		$	1,002		$	2,150		$	63		$	7,121
Finance lease liabilities (b)	1,461			98			196			193			974
Operating lease liabilities (b)	2,904			245			470			443			1,746
Deferred compensation (c)	518			59			116			111			232
Real estate liabilities (d)	121			121			—			—			—
Tax contingencies (e)	—			—			—			—			—
Unrecorded contractual obligations:
Interest payments – long-term debt	5,893			407			724			628			4,134
Purchase obligations (f)	992			532			170			75			215
Real estate obligations (g)	1,013			487			59			67			400
Future contributions to retirement plans (h)	—			—			—			—			—
Contractual obligations	$	23,238		$	2,951		$	3,885		$	1,580		$	14,822

(a)	Represents principal payments only. See Note 16 of the Financial Statements for further information.

(b)	Finance and operating lease payments include $127 million and $778 million, respectively, related to options to extend lease terms that are reasonably certain of being exercised. See Note 18 of the Financial Statements for further information.

(c)	The timing of deferred compensation payouts is estimated based on payments currently made to former employees and retirees and the projected timing of future retirements.

(d)	Real estate liabilities include costs incurred but not paid related to the construction or remodeling of real estate and facilities.

(e)	Estimated tax contingencies of $334 million, including interest and penalties and primarily related to continuing operations, are not included in the table above because we are not able to make reasonably reliable estimates of the period of cash settlement. See Note 19 of the Financial Statements for further information.

(f)

Purchase obligations include all legally binding contracts such as firm minimum commitments for inventory purchases, merchandise royalties, equipment purchases, marketing-related contracts, software acquisition/license commitments, and service contracts. We issue inventory purchase orders in the normal course of business, which represent authorizations to purchase that are cancelable by their terms. We do not consider purchase orders to be firm inventory commitments; therefore, they are excluded from the table above. If we choose to cancel a purchase order, we may be obligated to reimburse the vendor for unrecoverable outlays incurred prior to cancellation. We also issue trade letters of credit in the ordinary course of business, which are excluded from this table as these obligations are conditioned on terms of the letter of credit being met.

(g)	Real estate obligations include legally binding minimum lease payments for leases signed but not yet commenced, and commitments for the purchase, construction, or remodeling of real estate and facilities.

(h)	We have not included obligations under our pension plans in the contractual obligations table above because no additional amounts are required to be funded as of February 2, 2019. Our historical practice regarding these plans has been to contribute amounts necessary to satisfy minimum pension funding requirements, plus periodic discretionary amounts determined to be appropriate.

Off Balance Sheet Arrangements: Other than the unrecorded contractual obligations noted above, we do not have any arrangements or relationships with entities that are not consolidated into the financial statements.

Critical Accounting Estimates

Our consolidated financial statements are prepared in accordance with GAAP, which requires us to make estimates and apply judgments that affect the reported amounts. In the Notes to Consolidated Financial Statements, we describe the significant accounting policies used in preparing the consolidated financial statements. Our management has discussed the development, selection, and disclosure of our critical accounting estimates with the Audit & Finance Committee of our Board of Directors. The following items require significant estimation or judgment:

Inventory and cost of sales: The vast majority of our inventory is accounted for under the retail inventory accounting method using the last-in, first-out method. Our inventory is valued at the lower of cost or market. We reduce inventory for estimated losses related to shrink and markdowns. Our shrink estimate is based on historical losses verified by physical inventory counts. Historically, our actual physical inventory count results have shown our estimates to be reliable. Market adjustments for markdowns are recorded when the salability of the merchandise has diminished. We believe the risk of inventory obsolescence is largely mitigated because our inventory typically turns in less than three months. Inventory was $9,497 million and $8,597 million at February 2, 2019 and February 3, 2018, respectively, and is further described in Note 9 of the Financial Statements.

Vendor income: We receive various forms of consideration from our vendors (vendor income), principally earned as a result of volume rebates, markdown allowances, promotions, and advertising allowances. Substantially all vendor income is recorded as a reduction of cost of sales.

We establish a receivable for vendor income that is earned but not yet received. Based on the agreements in place, this receivable is computed by estimating when we have completed our performance and when the amount is earned. The majority of the year-end vendor income receivables are collected within the following fiscal quarter, and we do not believe there is a reasonable likelihood that the assumptions used in our estimate will change significantly. Historically, adjustments to our vendor income receivable have not been material. Vendor income receivable was $468 million and $416 million at February 2, 2019 and February 3, 2018, respectively. Vendor income is described further in Note 5 of the Financial Statements.

Long-lived assets: Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amounts may not be recoverable. The evaluation is performed at the lowest level of identifiable cash flows independent of other assets, which is primarily at the store level. An impairment loss would be recognized when estimated undiscounted future cash flows from the operation and/or disposition of the assets are less than their carrying amount. Measurement of an impairment loss would be based on the excess of the carrying amount of the asset group over its fair value. Fair value is measured using discounted cash flows or independent opinions of value, as appropriate. We recorded impairments of $92 million, $91 million, and $43 million in 2018, 2017, and 2016, respectively, which are described further in Note 11 of the Financial Statements.

We applied the hindsight practical expedient for measurement of lease assets and liabilities, and associated leasehold improvement assets, in our adoption of ASU No. 2016-02—Leases (Topic 842), which required significant judgment to determine the reasonably certain lease term for existing leases in transition to the new standard. Using hindsight shortened lease terms for many leases. Operating lease assets and liabilities were $1,965 million and $2,170 million, respectively, at February 2, 2019. Finance lease assets and liabilities were $872 million and $1,021 million, respectively, at February 2, 2019. Leases are described further in Notes 2 and 18 of the Financial Statements.

Insurance/self-insurance: We retain a substantial portion of the risk related to certain general liability, workers' compensation, property loss, and team member medical and dental claims. However, we maintain stop-loss coverage to limit the exposure related to certain risks. Liabilities associated with these losses include estimates of both claims filed and losses incurred but not yet reported. We use actuarial methods which consider a number of factors to estimate our ultimate cost of losses. General liability and workers' compensation liabilities are recorded at our estimate of their net present value; other liabilities referred to above are not discounted. Our workers' compensation and general liability accrual was $423 million and $419 million at February 2, 2019 and February 3, 2018, respectively. We believe that the amounts accrued are appropriate; however, our liabilities could be significantly affected if future occurrences or loss developments differ from our assumptions. For example, a 5 percent increase or decrease in average claim costs would impact our self-insurance expense by $21 million in 2018. Historically, adjustments to our estimates have not been material. Refer to Item 7A, Quantitative and Qualitative Disclosures About Market Risk, for further disclosure of the market risks associated with these exposures. We maintain insurance coverage to limit our exposure to certain events, including network security matters.

Income taxes: We pay income taxes based on the tax statutes, regulations, and case law of the various jurisdictions in which we operate. Significant judgment is required in determining the timing and amounts of deductible and taxable items, and in evaluating the ultimate resolution of tax matters in dispute with tax authorities.

We recognized the income tax effects of the Tax Act in our 2018 and 2017 financial statements in accordance with Staff Accounting Bulletin No. 118, which provides SEC staff guidance for the application of ASC Topic 740, Income Taxes. Note 19 of the Financial Statements provides additional information.

The benefits of uncertain tax positions are recorded in our financial statements only after determining it is likely the uncertain tax positions would withstand challenge by taxing authorities. We periodically reassess these probabilities and record any changes in the financial statements as appropriate. Liabilities for uncertain tax positions, including interest and penalties, were $334 million and $363 million at February 2, 2019 and February 3, 2018, respectively, and primarily relate to continuing operations. We believe the resolution of these matters will not have a material adverse impact on our consolidated financial statements. Income taxes are described further in Note 19 of the Financial Statements.

Pension accounting: We maintain a funded, qualified defined benefit pension plan, as well as several smaller and unfunded nonqualified plans for certain current and retired team members. The costs for these plans are determined based on actuarial calculations using the assumptions described in the following paragraphs. Eligibility and the level of benefits varies depending on team members' full-time or part-time status, date of hire, age, and/or length of service. The benefit obligation and related expense for these plans are determined based on actuarial calculations using assumptions about the expected long-term rate of return, the discount rate, and compensation growth rates. The assumptions, with adjustments made for any significant plan or participant changes, are used to determine the period-end benefit obligation and establish expense for the next year.

Our 2018 expected long-term rate of return on plan assets of 6.30 percent is determined by the portfolio composition, historical long-term investment performance, and current market conditions. A 1 percentage point decrease in our expected long-term rate of return would increase annual expense by $39 million.

The discount rate used to determine benefit obligations is adjusted annually based on the interest rate for long-term high-quality corporate bonds, using yields for maturities that are in line with the duration of our pension liabilities. Our benefit obligation and related expense will fluctuate with changes in interest rates. A 1 percentage point decrease to the weighted average discount rate would increase annual expense by $68 million.

Based on our experience, we use a graduated compensation growth schedule that assumes higher compensation growth for younger, shorter-service pension-eligible team members than it does for older, longer-service pension-eligible team members.

Pension benefits are further described in Note 24 of the Financial Statements.

Legal and other contingencies: We believe the accruals recorded in our consolidated financial statements properly reflect loss exposures that are both probable and reasonably estimable. We do not believe any of the currently identified claims or litigation may materially affect our results of operations, cash flows, or financial condition. However, litigation is subject to inherent uncertainties, and unfavorable rulings could occur. If an unfavorable ruling were to occur, it may cause a material adverse impact on the results of operations, cash flows, or financial condition for the period in which the ruling occurs, or future periods. Refer to Note 15 of the Financial Statements for further information on contingencies.

New Accounting Pronouncements

Refer to Note 2, Note 3, and Note 18, of the Financial Statements for a description of new accounting pronouncements related to revenues, leases, and pension expense. We do not expect any other recently issued accounting pronouncements will have a material effect on our financial statements.

Forward-Looking Statements

This report contains forward-looking statements, which are based on our current assumptions and expectations. These statements are typically accompanied by the words "expect," "may," "could," "believe," "would," "might," "anticipates," or words of similar import. The principal forward-looking statements in this report include: our financial performance, statements regarding the adequacy of and costs associated with our sources of liquidity, the continued execution of our share repurchase program, our expected capital expenditures and new lease commitments, the impact of changes in the expected effective income tax rate on net income, including those resulting from the Tax Act, the expected compliance with debt covenants, the expected impact of new accounting pronouncements, our intentions regarding future dividends, contributions and payments related to our pension plan, the expected returns on pension plan assets, the expected timing and recognition of compensation expenses, the effects of macroeconomic conditions, the adequacy of our reserves for general liability, workers' compensation and property loss, the expected outcome of, and adequacy of our reserves for investigations, inquiries, claims and litigation, expected changes to our contractual obligations and liabilities, the expected ability to recognize deferred tax assets and liabilities and the timing of such recognition, the resolution of tax matters, the expected impact of changes in information technology systems, and changes in our assumptions and expectations.

All such forward-looking statements are intended to enjoy the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995, as amended. Although we believe there is a reasonable basis for the forward-looking statements, our actual results could be materially different. The most important factors which could cause our actual results to differ from our forward-looking statements are set forth on our description of risk factors in Item 1A to this Form 10-K, which should be read in conjunction with the forward-looking statements in this report. Forward-looking statements speak only as of the date they are made, and we do not undertake any obligation to update any forward-looking statement.