4. Leases and Store Closures

Initial terms for leased premises in the U.S. are typically 15 to 25 years, followed by additional terms containing renewal options at five-year intervals, and may include rent escalation clauses. Non-U.S. leases are typically for shorter terms and may or may not include cancellation clauses or renewal options. The commencement date of all lease terms is the earlier of the date the Company becomes legally obligated to make rent payments or the date the Company has the right to control the property. The Company recognizes rent expense on a straight-line basis over the term of the lease. In addition to minimum fixed rentals, some leases provide for contingent rentals based upon a portion of sales.

The Company continuously evaluates its real estate portfolio in conjunction with its capital needs. The Company has entered into several sale-leaseback transactions. For the nine month periods ended May 31, 2015 and 2014, the Company recorded proceeds from sale-leaseback transactions of $867 million and $144 million, respectively. In some of these transactions, the Company negotiated fixed rate renewal options which constitute a form of continuing involvement, resulting in the assets remaining on the balance sheet and a corresponding finance lease obligation.

Annual minimum rental commitments under all leases having an initial or remaining non-cancelable term of more than one year are shown below (in millions):

	Financing Obligation		Capital Lease		Operating Lease
2015	$	19	$	68	$	3,110
2016		18		65		3,028
2017		18		62		2,988
2018		18		59		2,755
2019		18		59		2,572
Later		1,130		880		24,020
Total Minimum Lease Payments	$	1,221	$	1,193	$	38,473

The capital and finance lease amounts include $1.5 billion of imputed interest and executory costs. Total minimum lease payments have not been reduced by minimum sublease rentals of approximately $218 million on leases due in the future under non-cancelable subleases.

In March 2014, the Company’s Board of Directors approved a plan to close underperforming stores in efforts to optimize and focus resources in a manner intended to increase shareholder value. The Company incurred no pre-tax charges related to this plan in the three month period ended May 31, 2015. For the nine month period ended May 31, 2015, the Company incurred total pre-tax charges of $17 million primarily related to lease termination costs. The Company incurred pre-tax charges of $95 million ($47 million related to lease termination costs and $48 million in asset impairments) for the three and nine month periods ended May 31, 2014. The Company expects to incur no additional costs related to this plan.

On April 8, 2015, the Company’s Board of Directors approved a plan to implement a new restructuring program (the “Cost Transformation Program”) as part of an initiative to reduce costs and increase operating efficiencies. The Cost Transformation Program included plans to close approximately 200 stores across the U.S.; reorganize corporate and field operations; drive operating efficiencies; and streamline information technology and other functions. The Company incurred pre-tax charges of $160 million ($102 million related to asset impairment charges, $34 million in severance and other business transition and exit costs and $24 million in real estate costs) related to the Cost Transformation Program in the three and nine month periods ended May 31, 2015.

The Company provides for future costs related to closed locations. The liability is based on the present value of future rent obligations and other related costs (net of estimated sublease rent) to the first lease option date. During the three and nine month periods ended May 31, 2015, the Company recorded charges of $34 million and $60 million, respectively, for facilities that were closed or relocated under long-term leases, including stores closed through the Company’s store optimization plan and Cost Transformation Program. This compares to $44 million and $77 million for the three and nine month periods ended May 31, 2014, respectively. These charges are reported in selling, general and administrative expenses on the Consolidated Condensed Statements of Earnings.

The changes in reserve for facility closings and related lease termination charges include the following (in millions):

	May 31, 2015			August 31, 2014
Balance – beginning of period	$	257		$	123
Provision for present value of non-cancellable lease payments on closed facilities		44			171
Assumptions about future sublease income, terminations and changes in interest rates		(2	)		(8	)
Interest accretion		18			14
Liability assumed through acquisition of Alliance Boots		13			-
Cash payments, net of sublease income		(52	)		(43	)
Balance – end of period	$	278		$	257

The Company remains secondarily liable on 72 leases. The maximum potential undiscounted future payments are $355 million at May 31, 2015. Lease option dates vary, with some extending to 2039.

Rental expense, which includes common area maintenance, insurance and taxes, was as follows (in millions):

	Three Months Ended May 31,						Nine Months Ended May 31,
	2015			2014			2015			2014
Minimum rentals	$	852		$	686		$	2,339		$	2,020
Contingent rentals		1			1			3			4
Less: Sublease rental income		(15	)		(4	)		(32	)		(16	)
	$	838		$	683		$	2,310		$	2,008