1. Business and Summary of Accounting Policies

Business

As of February 3, 2018, we operated 1,158 department stores, a website (www.Kohls.com), 12 FILA outlets, and four Off-Aisle clearance centers. Our Kohl's stores and website sell moderately-priced proprietary and national brand apparel, footwear, accessories, beauty and home products. Our Kohl's stores generally carry a consistent merchandise assortment with some differences attributable to local preferences. Our website includes merchandise which is available in our stores, as well as merchandise which is available only online.

Our authorized capital stock consists of 800 million shares of $0.01 par value common stock and 10 million shares of $0.01 par value preferred stock.

Consolidation

The consolidated financial statements include the accounts of Kohl’s Corporation and its subsidiaries including Kohl’s Department Stores, Inc., its primary operating company. All intercompany accounts and transactions have been eliminated.

Accounting Period

Our fiscal year ends on the Saturday closest to January 31^st each year. Unless otherwise stated, references to years in this report relate to fiscal years rather than to calendar years. The following fiscal periods are presented in this report.

Fiscal year	Ended	Number of Weeks
2017	February 3, 2018		53
2016	January 28, 2017		52
2015	January 30, 2016		52

Use of Estimates

The preparation of consolidated financial statements in conformity with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates.

Cash and Cash Equivalents

In addition to money market investments, cash equivalents include commercial paper and certificates of deposit with original maturities of three months or less. We carry these investments at cost which approximates fair value.

Also included in cash and cash equivalents are amounts due from credit card transactions with settlement terms of less than five days. Credit and debit card receivables included within cash were $83 million at February 3, 2018 and $81 million at January 28, 2017.

Merchandise Inventories

Merchandise inventories are valued at the lower of cost or market with cost determined on the first-in, first-out (“FIFO”) basis using the retail inventory method (“RIM”). Under RIM, the valuation of inventory at cost and the resulting gross margins are calculated by applying a cost-to-retail ratio to the retail value inventory. RIM is an averaging method that has been widely used in the retail industry due to its practicality. The use of RIM will result in inventory being valued at the lower of cost or market since permanent markdowns are currently taken as a reduction of the retail value of inventory. We would record an additional reserve if the future estimated selling price is less than cost.

Property and Equipment

Property and equipment consist of the following:

(Dollars in Millions)	Feb 3, 2018				Jan 28, 2017
Land		$	1,115			$	1,118
Buildings and improvements:
Owned			8,062				8,004
Leased			1,813				1,801
Fixtures and equipment			1,700				1,711
Information technology			2,337				1,939
Construction in progress			152				318
Total property and equipment, at cost			15,179				14,891
Less accumulated depreciation and amortization			(7,406	)			(6,788	)
Property and equipment, net		$	7,773			$	8,103

Construction in progress includes property and equipment which is not ready for its intended use.

Property and equipment is recorded at cost, less accumulated depreciation. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Leased property and improvements to leased property are amortized on a straight-line basis over the term of the lease or useful life of the asset, whichever is less.

The annual provisions for depreciation and amortization generally use the following ranges of useful lives:

	Buildings and improvements	5-40 years
	Fixtures and equipment	3-15 years
	Information technology	3-8 years

Store Closure and Restructure Reserve

The following table summarizes changes in the store closure and restructure reserve during 2017:

(Dollars in Millions)	Store Lease Obligations			Severance			Total
Balance - January 28, 2017	$	103		$	3		$	106
Payments		(10	)		(3	)		(13	)
Reversals		(6	)		—			(6	)
Balance - February 3, 2018	$	87		$	—		$	87

Long-Lived Assets

All property and equipment and other long-lived assets are reviewed for potential impairment when events or changes in circumstances indicate that the asset’s carrying value may not be recoverable. If such indicators are present, it is determined whether the sum of the estimated undiscounted future cash flows attributable to such assets is less than the carrying value of the assets. A potential impairment has occurred if projected future undiscounted cash flows are less than the carrying value of the assets. No material impairments were recorded in 2017 or 2015 as a result of the tests performed. An impairment relating to store closures was recorded in 2016.

Accrued Liabilities

Accrued liabilities consist of the following:

(Dollars in Millions)	Feb 3, 2018		Jan 28, 2017
Gift cards and merchandise return cards	$	330	$	329
Sales, property and use taxes		151		183
Payroll and related fringe benefits		173		147
Credit card liabilities		125		67
Other		376		498
Accrued liabilities	$	1,155	$	1,224

Self-Insurance

We use a combination of insurance and self-insurance for a number of risks.

We retain the initial risk of $500,000 per occurrence in workers’ compensation claims and $250,000 per occurrence in general liability claims. We record reserves for workers’ compensation and general liability claims which include the total amounts that we expect to pay for a fully developed loss and related expenses, such as fees paid to attorneys, experts and investigators.

We are fully self-insured for employee-related health care benefits, a portion of which is paid by our associates.

We use a third-party actuary to estimate the liabilities associated with workers’ compensation, general liability and employee-related health care risks. These liabilities include amounts for both reported claims and incurred, but not reported losses. Total liabilities for these risks were $53 million as of February 2, 2018 and $65 million as of January 28, 2017.

Our self-insured retention for property losses differs based on the type of claim. For catastrophic claims such as earthquakes, floods and windstorms, the retained amount varies from 2 - 5% of the insurance claim. For other standard claims, such as fire and building damages, we are self-insured for the first $250,000 per occurrence of the property loss.

Treasury Stock

We account for repurchases of common stock and shares withheld in lieu of taxes when restricted stock vests using the cost method with common stock in treasury classified in the Consolidated Balance Sheets as a reduction of shareholders’ equity.

Other Comprehensive Income

The tax effects of interest rate derivatives included in other comprehensive income are as follows:

(Dollars in Millions)	2017			2016			2015
Before-tax amounts	$	5		$	5		$	5
Tax expense		(2	)		(2	)		(2	)
After-tax amounts	$	3		$	3		$	3

Revenue Recognition

Revenue from the sale of merchandise is recognized when received by the customer, net of any returns. Net sales do not include sales tax as we are considered a pass-through conduit for collecting and remitting sales taxes.

Revenue from Kohl's gift card sales is recognized upon gift card redemption. Income from unredeemed cards (breakage) is recorded in proportion and over the time period gift cards are actually redeemed.

Cost of Merchandise Sold and Selling, General and Administrative Expenses

The following table illustrates the primary costs classified in Cost of Merchandise Sold and Selling, General and Administrative Expenses:

Cost of Merchandise Sold

Selling, General and

Administrative Expenses

• Total cost of products sold including product development costs, net of vendor payments other than reimbursement of specific, incremental and identifiable costs

• Inventory shrink

• Markdowns

• Freight expenses associated with moving merchandise from our vendors to our distribution centers

• Shipping and handling expenses of digital sales

• Terms cash discount

• Depreciation of product development facilities and equipment

• Compensation and benefit costs including:

• Stores

• Corporate headquarters, including buying and merchandising

• Distribution centers

• Occupancy and operating costs of our retail, distribution and corporate facilities

• Net revenues from the Kohl’s credit card program

• Freight expenses associated with moving merchandise from our distribution centers to our retail stores and between distribution and retail facilities

• Marketing expenses, offset by vendor payments for reimbursement of specific, incremental and identifiable costs

• Other non-operating revenues and expenses

The classification of these expenses varies across the retail industry.

Vendor Allowances

We receive consideration for a variety of vendor-sponsored programs, such as markdown allowances, volume rebates, and promotion and marketing support. The vendor consideration is recorded as earned either as a reduction of inventory costs or Selling, General and Administrative Expenses. Promotional and marketing allowances are intended to offset our marketing costs to promote vendors’ merchandise. Markdown allowances and volume rebates are recorded as a reduction of inventory costs.

Reward Programs

We maintain programs in which customers earn rewards, which can be applied to future purchases, based on their spending and other promotional activities. We accrue the cost of anticipated redemptions related to the programs when the rewards are earned on the initial purchase. The costs of the programs are recorded in Cost of Merchandise Sold.

Fair Value

Fair value measurements are required to be classified and disclosed in one of the following pricing categories:

Level 1:		Financial instruments with unadjusted, quoted prices listed on active market exchanges.

Level 2:		Financial instruments lacking unadjusted, quoted prices from active market exchanges, including over-the-counter traded financial instruments. The prices for the financial instruments are determined using prices for recently traded financial instruments with similar underlying terms as well as directly or indirectly observable inputs, such as interest rates and yield curves that are observable at commonly quoted intervals.

Level 3:		Financial instruments that are not actively traded on a market exchange. This category includes situations where there is little, if any, market activity for the financial instrument. The prices are determined using significant unobservable inputs or valuation techniques.

Current assets and liabilities are reported at cost, which approximate fair value.

Leases

We lease certain property and equipment used in our operations.

We are often involved extensively in the construction of leased stores. In many cases, we are responsible for construction cost over runs or non-standard tenant improvements (e.g. roof or HVAC systems). As a result of this involvement, we are deemed the “owner” for accounting purposes during the construction period, so are required to capitalize the construction costs on our Balance Sheet. Upon completion of the project, we perform a sale-leaseback analysis to determine if we can remove the assets from our Balance Sheet. In many of our leases, we are reimbursed a portion of the construction costs via adjusted rental payments and/or cash payments or have terms which fix the rental payments for a significant percentage of the leased asset’s economic life. These items generally are considered “continuing involvement” which precludes us from derecognizing the assets from our Balance Sheet when construction is complete. In conjunction with these leases, we also record financing obligations equal to the cash proceeds or fair market value of the assets received from the landlord. At the end of the lease term, including exercise of any renewal options, the net remaining financing obligation over the net carrying value of the fixed asset will be recognized as a non-cash gain on sale of the property. We do not report rent expense for the properties which are owned for accounting purposes. Rather, rental payments under the lease are recognized as a reduction of the financing obligation and interest expense.

Some of our leased property and equipment are recorded as capital leases. These assets are included in property and equipment and depreciated over the term of the lease. We do not report rent expense for capital leases. Rather, rental payments under the lease are recognized as a reduction of the capital lease obligation and interest expense.

All other leases are considered operating leases. Assets subject to an operating lease and the related lease payments are not recorded on our Balance Sheet. Rent expense is recognized on a straight-line basis over the expected lease term.

The lease term for all types of leases begins on the date we become legally obligated for the rent payments or we take possession of the building or land, whichever is earlier. The lease term includes cancelable option periods where failure to exercise such options would result in an economic penalty. Failure to exercise such options would result in the recognition of accelerated depreciation expense of the related assets.

Marketing

Marketing costs are expensed when the marketing is first seen. Marketing costs, net of related vendor allowances, are as follows:

(Dollars in Millions)	2017				2016				2015
Gross marketing costs		$	1,124			$	1,164			$	1,171
Vendor allowances			(138	)			(148	)			(160	)
Net marketing costs		$	986			$	1,016			$	1,011
Net marketing costs as a percent of net sales			5.2	%			5.4	%			5.3	%

Income Taxes

Income taxes are accounted for under the asset and liability method. Under this method, deferred tax assets and liabilities are recorded based on differences between the amounts of assets and liabilities recognized for financial reporting purposes and such amounts recognized for income tax purposes. Deferred tax assets and liabilities are calculated using the enacted tax rates and laws that are expected to be in effect when the differences are expected to reverse. We establish valuation allowances for deferred tax assets when we believe it is more likely than not that the asset will not be realizable for tax purposes. We recognize interest and penalty expense related to unrecognized tax benefits in our provision for income tax expense.

Net Income Per Share

Basic net income per share is net income divided by the average number of common shares outstanding during the period. Diluted net income per share includes incremental shares assumed for share-based awards.

The information required to compute basic and diluted net income per share is as follows:

(Dollars in Millions, Except per Share Data)	2017		2016		2015
Numerator—net income	$	859	$	556	$	673
Denominator—weighted average shares
Basic		167		178		193
Impact of dilutive share-based awards (a)		1		1		2
Diluted		168		179		195
Net income per share:
Basic	$	5.14	$	3.12	$	3.48
Diluted	$	5.12	$	3.11	$	3.46

(a)

Excludes 2 million share-based awards for 2017, 3 million share-based awards for 2016 and 1 million share-based awards for 2015 as the impact of such awards was antidilutive.

Share-Based Awards

Stock-based compensation expense is generally recognized on a straight-line basis over the vesting period based on the fair value of awards which are expected to vest. The fair value of all share-based awards is estimated on the date of grant.

Recent Accounting Pronouncements

The following table provides a brief description of issued, but not yet effective, accounting standards:

Standard

Description

Effect on our Financial Statements

Revenue from Contracts with Customers

(ASC Topic 606)

Issued May 2014

Effective Q1 2018

The standard eliminates the transaction- and industry-specific revenue recognition guidance under current U.S. GAAP and replaces it with a principles-based approach for revenue recognition and disclosures.

The standard will change the way we account for sales returns, our loyalty program and certain promotional programs. Based on current estimates, we do not expect these provisions of the standard will have a material impact on our financial statements.

We have evaluated the principal versus agent provisions of the standard and expect to continue to record sales gross as we are the principal in the transactions.

Upon implementation of the new standard, we expect to reclassify approximately $1 billion of net earnings from our credit card operations, which are currently reported in Selling, General and Administrative Expenses, into a newly-created revenue line on the face of our Income Statement.

We plan to adopt the standard using the retrospective method and will restate our prior period financials to reflect the standard as if it had always been applicable.

Leases

(ASC Topic 842)

Issued February 2016

Effective Q1 2019

Among other things, the new standard requires us to recognize a right of use asset and a lease liability on our balance sheet for leases. It also changes the presentation and timing of lease-related expenses.

Approximately 5% of our store leases and all of our land leases are not currently recorded on our balance sheet. Recording right of use assets and liabilities for these and other non-store leases is expected to have a material impact on our balance sheet. We are also evaluating the impact that recording right of use assets and liabilities will have on our income statement and the financial statement impact that the standard will have on leases which are currently recorded on our balance sheet.