BEST BUY CO INC (BBY) FY 2023 MD&A

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

Management's Discussion and Analysis of Financial Condition and Results of Operations (“MD&A”) is intended to provide a reader of our financial statements with a narrative from the perspective of our management on our financial condition, results of operations, liquidity and certain other factors that may affect our future results. Unless otherwise noted, transactions and other factors significantly impacting our financial condition, results of operations and liquidity are discussed in order of magnitude. Our MD&A should be read in conjunction with the Consolidated Financial Statements and related Notes included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. Refer to Item 7, Management’s Discussion and Analysis of Financial Condition and Results of Operations, in our Form 10-K for the fiscal year ended January 29, 2022, for discussion of the results of operations for the year ended January 29, 2022, compared to the year ended January 30, 2021, which is incorporated by reference herein.

Overview

We are driven by our purpose to enrich lives through technology and our vision to personalize and humanize technology solutions for every stage of life. We accomplish this by leveraging our combination of technology and a human touch to meet our customers’ everyday needs, whether they come to us online, visit our stores or invite us into their homes. We have operations in the U.S. and Canada.

We have two reportable segments: Domestic and International. The Domestic segment is comprised of our operations in all states, districts and territories of the U.S. and our Best Buy Health business, and includes the brand names Best Buy, Best Buy Ads, Best Buy Business, Best Buy Health, CST, Current Health, Geek Squad, Lively, Magnolia, Pacific Kitchen and Home, TechLiquidators and Yardbird and the domain names bestbuy.com, currenthealth.com, lively.com, techliquidators.com and yardbird.com. The International segment is comprised of all operations in Canada under the brand names Best Buy, Best Buy Mobile and Geek Squad and the domain name bestbuy.ca.

Our fiscal year ends on the Saturday nearest the end of January. Fiscal 2023, fiscal 2022 and fiscal 2021 included 52 weeks. Our business, like that of many retailers, is seasonal. A large proportion of our revenue and earnings is generated in the fiscal fourth quarter, which includes the majority of the holiday shopping season.

Comparable Sales

Throughout this MD&A, we refer to comparable sales. Comparable sales is a metric used by management to evaluate the performance of our existing stores, websites and call centers by measuring the change in net sales for a particular period over the comparable prior-period of equivalent length. Comparable sales includes revenue from stores, websites and call centers operating for at least 14 full months. Revenue from online sales is included in comparable sales and represents sales initiated on a website or app, regardless of whether customers choose to pick up product in store, curbside, at an alternative pick-up location or take delivery direct to their homes. Revenue from acquisitions is included in comparable sales beginning with the first full quarter following the first anniversary of the date of the acquisition. Comparable sales also includes credit card revenue, gift card breakage, commercial sales and sales of merchandise to wholesalers and dealers, as applicable. Revenue from stores closed more than 14 days, including but not limited to relocated, remodeled, expanded and downsized stores, or stores impacted by natural disasters, is excluded from comparable sales until at least 14 full months after reopening. Comparable sales excludes the impact of revenue from discontinued operations, the impact of profit-share revenue from our services plan portfolio and the effect of fluctuations in foreign currency exchange rates (applicable to our International segment only). All periods presented apply this methodology consistently.

On November 2, 2021, we acquired all outstanding shares of Current Health Ltd. (“Current Health”). On November 4, 2021, we acquired all outstanding shares of Two Peaks, LLC d/b/a Yardbird Furniture (“Yardbird”). Consistent with our comparable sales policy, the results of Current Health and Yardbird are excluded from our comparable sales calculation until the first quarter of fiscal 2024.

We believe comparable sales is a meaningful supplemental metric for investors to evaluate revenue performance resulting from growth in existing stores, websites and call centers versus the portion resulting from opening new stores or closing existing stores. The method of calculating comparable sales varies across the retail industry. As a result, our method of calculating comparable sales may not be the same as other retailers’ methods.

Non-GAAP Financial Measures

This MD&A includes financial information prepared in accordance with accounting principles generally accepted in the U.S. (“GAAP”), as well as certain adjusted or non-GAAP financial measures, such as constant currency, non-GAAP operating income, non-GAAP effective tax rate and non-GAAP diluted earnings per share (“EPS”). We believe that non-GAAP financial measures, when reviewed in conjunction with GAAP financial measures, provide additional useful information for evaluating current period performance and assessing future performance. For these reasons, internal management reporting, including budgets, forecasts and financial targets used for short-term incentives are based on non-GAAP financial measures. Generally, our non-GAAP financial measures include adjustments for items such as restructuring charges, goodwill and intangible asset impairments, price-fixing settlements, gains and losses on certain investments, intangible asset amortization, certain acquisition-related costs and the tax effect of all such items. In addition, certain other items may be excluded from non-GAAP financial measures when we believe doing so provides greater clarity to management and our investors. We provide reconciliations of the most comparable financial measures presented in accordance with GAAP to presented non-GAAP financial measures that enable investors to understand the adjustments made in arriving at the non-GAAP financial measures and to evaluate performance using the same metrics as management. These non-GAAP financial measures should be considered in addition to, and not superior to or as a substitute for, GAAP financial measures. We strongly encourage investors and shareholders to review our financial statements and publicly-filed reports in their entirety and not to rely on any single financial measure. Non-GAAP financial measures may be calculated differently from similarly titled measures used by other companies, thereby limiting their usefulness for comparative purposes.

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In our discussions of the operating results of our consolidated business and our International segment, we sometimes refer to the impact of changes in foreign currency exchange rates or the impact of foreign currency exchange rate fluctuations, which are references to the differences between the foreign currency exchange rates we use to convert the International segment’s operating results from local currencies into U.S. dollars for reporting purposes. We also may use the term “constant currency,” which represents results adjusted to exclude foreign currency impacts. We calculate those impacts as the difference between the current period results translated using the current period currency exchange rates and using the comparable prior period currency exchange rates. We believe the disclosure of revenue changes in constant currency provides useful supplementary information to investors in light of significant fluctuations in currency rates.

Refer to the Non-GAAP Financial Measures section below for detailed reconciliations of items impacting non-GAAP operating income, non-GAAP effective tax rate and non-GAAP diluted EPS in the presented periods.

Business Strategy Update

During fiscal 2023, our team delivered strong execution and relentless focus on customer service during what continues to be a challenging environment for our industry. Throughout the fiscal year, we remained committed to balancing our near-term response to current conditions and managing well what is in our control, while also advancing our strategic initiatives and investing in areas important for our long-term performance.

During the first year of the pandemic, we said we believed customer shopping behavior would be permanently changed in a way that is even more digital and puts customers entirely in control to shop how they want. And our strategy was to embrace that reality, and to lead not follow.

In fiscal 2023, digital sales comprised 33% of our Domestic revenue compared to 19% in fiscal 2020. Sales via phone, chat and virtual have also remained significantly higher. Even with that shift, our stores remain a cornerstone of our differentiation. Not only was 67% of our Domestic revenue transacted in our stores, more than half of our identified customers engaged in cross-channel shopping experiences, and more than 40% of online sales were picked up in stores. Further, we play an important role for our vendors as the only national consumer electronics specialty retailer who can showcase their products and help commercialize their new technology. Therefore, we are focused on evolving our omnichannel retail strategy over time, including our portfolio of stores, operating model and digital tools, to provide customers with differentiated experiences and enhance our omnichannel fulfillment.

We continue to advance our other strategic initiatives as well. We are building customer relationships through membership, including evolving our free My Best Buy program and our paid Best Buy Totaltech membership option. In Best Buy Health, we are essentially nurturing a startup within a large-scale organization and leveraging Best Buy’s core assets, including the Geek Squad, to grow, build and establish the Care at Home space, an emerging part of the healthcare industry.

As we enter fiscal 2024, macroeconomic headwinds will likely result in continued pressure, and we are preparing for sales in the consumer electronics industry to decline again this year. In particular, our customers are facing economic challenges from the dual pressures of high inflation and the resulting interest rate increases, and it is difficult to predict how such factors will impact us in the near term. However, we expect several factors to drive the eventual return of industry growth over time, including the natural upgrade and replacement cycles for the technology bought earlier in the pandemic and continued vendor innovation. In addition, macro technology trends like cloud, augmented reality and expanded broadband access have the potential to drive new products and demand. While our product categories tend to experience slightly different timing nuances, in general, we believe they are poised for growth in the coming years. In addition, we are continuing our expansion into newer categories like wellness technology, personal electric transportation, outdoor living and electric car charging.

We remain excited about our industry and our future. There are more technology products than ever in people’s homes, technology is increasingly a necessity in our lives, and we believe we are uniquely there for our customers as they continue to navigate this innovative space.

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Results of Operations

Consolidated Results

Selected consolidated financial data was as follows ($ in millions, except per share amounts):

(1)Because retailers vary in how they record costs of operating their supply chain between cost of sales and SG&A, our gross profit rate and SG&A rate may not be comparable to other retailers' corresponding rates. For additional information regarding costs classified in cost of sales and SG&A, refer to Note 1, Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

In fiscal 2023, we generated $46.3 billion in revenue and our comparable sales declined 9.9%. Our comparable sales decline was due to multiple factors, including the following: (1) the lapping of strong sales in fiscal 2022 and fiscal 2021 that were driven by heightened demand during the pandemic for stay-at-home focused purchases and the benefit of government stimulus payments; (2) the shift of consumer spending back into service areas such as travel and entertainment and away from durable goods; and (3) macroeconomic pressures, including high inflation, that resulted in overall softness in customer demand within the consumer electronics industry.

Revenue, gross profit rate, SG&A and operating income rate changes in fiscal 2023 were primarily driven by our Domestic segment. For further discussion of each segment’s rate changes, see Segment Performance Summary, below.

Segment Performance Summary

Domestic Segment

Selected financial data for the Domestic segment was as follows ($ in millions):

(1)Comparable online sales are included in the comparable sales calculation.

The decrease in revenue in fiscal 2023 was primarily driven by comparable sales declines across most of our product categories, particularly computing, home theater, mobile phones and appliances. Online revenue of $14.2 billion decreased 13.5% on a comparable basis in fiscal 2023. These decreases in revenue were primarily due to the reasons described within the Consolidated Results section, above.

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Domestic segment stores open at the end of each of the last three fiscal years were as follows:

(1)Excludes stores that were temporarily closed as a result of the COVID-19 pandemic.

We continuously monitor store performance as part of a market-driven, omnichannel strategy. As we approach the expiration of leases, we evaluate various options for each location, including whether a store should remain open. In fiscal 2024, we currently expect to close approximately 20 to 30 Best Buy stores and to increase the number of Outlet Centers to approximately 30.

Domestic segment revenue mix percentages and comparable sales percentage changes by revenue category were as follows:

Notable comparable sales changes by revenue category were as follows:

• Computing and Mobile Phones: The 12.0% comparable sales decline was driven primarily by computing, mobile phones, wearables and tablets.

• Consumer Electronics: The 12.2% comparable sales decline was driven primarily by home theater, digital imaging and headphones.

• Appliances: The 5.7% comparable sales decline was driven primarily by large appliances.

• Entertainment: The 5.5% comparable sales decline was driven primarily by virtual reality and gaming software.

• Services: The 2.5% comparable sales decline was driven primarily by the launch of our Best Buy Totaltech membership offering that includes benefits that were previously stand-alone revenue-generating services, such as warranty services.

Our gross profit rate decreased in fiscal 2023, primarily due to lower product margin rates, including increased promotions, lower services margin rates, driven by the incremental customer benefits and associated costs from our Best Buy Totaltech membership offering compared to our previous Total Tech Support offer, and higher supply chain costs. These decreases were partially offset by higher profit-sharing revenue from our private label and co-branded credit card arrangement and an approximately $30 million profit-sharing benefit from our services plan portfolio.

Our SG&A decreased in fiscal 2023, primarily due to lower short-term incentive compensation expense of approximately $455 million compared to the prior year and decreased store payroll expenses. We were below the required thresholds for most short-term incentive compensation performance metrics in the current year while lapping short-term incentive amounts near maximum levels in the prior year.

The restructuring charges incurred in fiscal 2023 primarily related to employee termination benefits related to an enterprise-wide restructuring initiative that commenced in the second quarter of fiscal 2023 to better align our spending with critical strategies and operations, as well as optimize our cost structure. Refer to Note 3, Restructuring, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K for additional information.

Our operating income rate decreased in fiscal 2023, primarily driven by the unfavorable gross profit rate described above and decreased leverage from lower sales volume on our fixed expenses, which resulted in an unfavorable SG&A rate.

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International Segment

Selected financial data for the International segment was as follows ($ in millions):

The decrease in revenue in fiscal 2023 was primarily driven by lower sales in Canada due to comparable sales declines across most of our product categories and the negative impact from unfavorable foreign currency exchange rates.

International segment stores open at the end of each of the last three fiscal years were as follows:

(1)Excludes stores that were temporarily closed as a result of the COVID-19 pandemic.

International segment revenue mix percentages and comparable sales percentage changes by revenue category were as follows:

Notable comparable sales changes by revenue category were as follows:

• Computing and Mobile Phones: The 6.1% comparable sales decline was driven primarily by computing and tablets, partially offset by comparable sales growth in mobile phones.

• Consumer Electronics: The 6.2% comparable sales decline was driven primarily by home theater and health and fitness.

• Appliances: The 0.3% comparable sales growth was driven by small appliances.

• Entertainment: The 8.6% comparable sales decline was driven primarily by gaming and virtual reality.

• Services: The 2.1% comparable sales decline was driven primarily by warranty services.

Our gross profit rate decreased in fiscal 2023, primarily driven by lower product margin rates and higher supply chain costs in Canada.

Our SG&A decreased in fiscal 2023, primarily due to lower short-term incentive compensation expense and the favorable impact of foreign currency rates.

The restructuring charges incurred in fiscal 2023 primarily related to employee termination benefits related to an enterprise-wide restructuring initiative that commenced in the second quarter of fiscal 2023 to better align our spending with critical strategies and operations, as well as optimize our cost structure. Refer to Note 3, Restructuring, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K for additional information.

Our operating income rate decreased in fiscal 2023, primarily driven by the unfavorable gross profit rate described above and decreased leverage from lower sales volume on our fixed expenses, which resulted in an unfavorable SG&A rate.

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Additional Consolidated Results

Income Tax Expense

Income tax expense decreased in fiscal 2023, primarily due to the impact of decreased pre-tax earnings, partially offset by reduced benefits from the resolution of tax matters. Our effective tax rate increased in fiscal 2023, primarily due to reduced tax benefits from the resolution of tax matters, stock-based compensation and federal tax credits, partially offset by the impact of lower pre-tax earnings.

Non-GAAP Financial Measures

Reconciliations of operating income, effective tax rate and diluted EPS (GAAP financial measures) to non-GAAP operating income, non-GAAP effective tax rate and non-GAAP diluted EPS (non-GAAP financial measures), respectively, were as follows ($ in millions, except per share amounts):

For additional information regarding the nature of charges discussed below, refer to Note 2, Acquisitions; Note 3, Restructuring; Note 4, Goodwill and Intangible Assets; and Note 11, Income Taxes, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

(1)Represents inventory markdowns and subsequent adjustments recorded within cost of sales associated with the exit from operations in Mexico.

(2)Represents a price-fixing litigation settlement received in relation to products purchased and sold in prior fiscal years.

(3)Represents charges associated with acquisitions, including: (1) the non-cash amortization of definite-lived intangible assets, including customer relationships, tradenames and developed technology; and (2) acquisition-related transaction and due diligence costs, primarily comprised of professional fees.

(4)Represents restructuring charges, including: (1) charges in fiscal 2023 associated with an enterprise-wide initiative to better align our spending with critical strategies and operations, as well as to optimize our cost structure; and (2) charges in fiscal 2021 and subsequent adjustments in fiscal 2022 associated with actions taken in the Domestic segment to better align the company’s organizational structure with its strategic focus and the exit from operations in Mexico in the International segment.

(5)Represents an increase in the fair value of a minority equity investment in fiscal 2021.

(6)The non-GAAP adjustments primarily relate to the U.S., Canada and Mexico. As such, the income tax charge is calculated using the statutory tax rate of 24.5% for the U.S. and 26.4% for Canada applied to the non-GAAP adjustments of each country. There is no income tax charge for Mexico non-GAAP items and a minimal amount of U.S. non-GAAP items, as there was no tax benefit recognized on these expenses in the calculation of GAAP income tax expense.

Our non-GAAP operating income rate decreased in fiscal 2023, primarily driven by our Domestic segment’s lower gross profit rate and decreased leverage from lower sales volume on our fixed expenses, which resulted in an unfavorable SG&A rate.

Our non-GAAP effective tax rate increased in fiscal 2023, primarily due to reduced tax benefits from the resolution of tax matters, stock-based compensation and federal tax credits, partially offset by the impact of lower pre-tax earnings.

Our non-GAAP diluted EPS decreased in fiscal 2023, primarily driven by the decrease in non-GAAP operating income, partially offset by lower diluted weighted-average common shares outstanding from share repurchases.

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Liquidity and Capital Resources

We closely manage our liquidity and capital resources. Our liquidity requirements depend on key variables, including the level of investment required to support our business strategies, the performance of our business, capital expenditures, dividends, credit facilities, short-term borrowing arrangements and working capital management. We modify our approach to managing these variables as changes in our operating environment arise. For example, capital expenditures and share repurchases are a component of our cash flow and capital management strategy, which, to a large extent, we can adjust in response to economic and other changes in our business environment. We have a disciplined approach to capital allocation, which focuses on investing in key priorities that support our strategy.

Cash and cash equivalents were as follows ($ in millions):

The decrease in cash and cash equivalents in fiscal 2023 was primarily driven by share repurchases, capital expenditures and dividend payments. These decreases were partially offset by positive cash flows from operations, primarily driven by earnings.

Our cash deposits held at financial institutions may exceed the amount of insurance provided on such deposits. Generally, these deposits may be redeemed upon demand and are maintained with financial institutions with reputable credit. We limit exposure relating to financial instruments by diversifying the financial instruments among various counterparties, which consist primarily of major financial institutions.

Cash Flows

Cash flows were as follows ($ in millions):

Operating Activities

The decrease in cash provided by operating activities in fiscal 2023 was primarily due to lower earnings and higher incentive compensation payments in the current year as a result of strong fiscal 2022 results, partially offset by the timing and volume of inventory purchases and payments.

Investing Activities

The decrease in cash used in investing activities in fiscal 2023 was primarily driven by the acquisitions of Current Health and Yardbird in fiscal 2022 and a decrease in purchases of investments, partially offset by an increase in capital spending for initiatives to support our business.

Financing Activities

The decrease in cash used in financing activities in fiscal 2023 was primarily driven by lower share repurchases.

Sources of Liquidity

Funds generated by operating activities, available cash and cash equivalents, our credit facilities and other debt arrangements are our most significant sources of liquidity. We believe our sources of liquidity will be sufficient to fund operations and anticipated capital expenditures, share repurchases, dividends and strategic initiatives, including business combinations. However, in the event our liquidity is insufficient, we may be required to limit our spending. There can be no assurance that we will continue to generate cash flows at or above current levels or that we will be able to maintain our ability to borrow under our existing credit facilities or obtain additional financing, if necessary, on favorable terms.

We have a $1.25 billion five-year senior unsecured revolving credit facility agreement (the “Five-Year Facility Agreement”) with a syndicate of banks. The Five-Year Facility Agreement permits borrowings of up to $1.25 billion and expires in May 2026. There were no borrowings outstanding under the Five-Year Facility Agreement as of January 28, 2023, or January 29, 2022.

Our ability to continue to access the Five-Year Facility Agreement is subject to our compliance with its terms and conditions, including financial covenants. The financial covenants require us to maintain certain financial ratios. As of January 28, 2023, we were in compliance with all financial covenants. If an event of default were to occur with respect to any of our other debt, it would likely constitute an event of default under the Five-Year Facility Agreement as well.

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Our credit ratings and outlook as of March 15, 2023, remained unchanged from those disclosed in our Annual Report on Form 10-K for the fiscal year ended January 29, 2022, and are summarized below.

Credit rating agencies review their ratings periodically, and, therefore, the credit rating assigned to us by each agency may be subject to revision at any time. Factors that can affect our credit ratings include changes in our operating performance, the economic environment, conditions in the retail and consumer electronics industries, our financial position and changes in our business strategy. If changes in our credit ratings were to occur, they could impact, among other things, interest costs for certain of our credit facilities, our future borrowing costs, access to capital markets, vendor financing terms and future new-store leasing costs.

Restricted Cash

Our liquidity is also affected by restricted cash balances that are primarily restricted to cover product protection plans provided under our Best Buy Totaltech membership offering and other self-insurance liabilities. Restricted cash, which is included in Other current assets on our Consolidated Balance Sheets, was $379 million and $269 million as of January 28, 2023, and January 29, 2022, respectively. The increase in restricted cash was primarily due to our Best Buy Totaltech membership offering and growth in the membership base, partially offset by a decrease in restricted cash for other self-insurance liabilities.

Capital Expenditures

Capital expenditures were as follows ($ in millions):

(1)Store-related projects are primarily comprised of store remodels and various merchandising projects.

(2)Total capital expenditures exclude non-cash capital expenditures of $35 million, $46 million and $32 million in fiscal 2023, fiscal 2022 and fiscal 2021, respectively. Non-cash capital expenditures are comprised of additions to property and equipment included in accounts payable, as well as finance leases.

We currently expect capital expenditures to approximate $850 million in fiscal 2024.

Debt and Capital

As of January 28, 2023, we had $500 million of principal amount of notes due October 1, 2028 (“2028 Notes”) and $650 million of principal amount of notes due October 1, 2030 (“2030 Notes”). Refer to Note 8, Debt, in the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K for further information about our outstanding debt.

Share Repurchases and Dividends

We repurchase our common stock and pay dividends pursuant to programs approved by our Board. The payment of cash dividends is also subject to customary legal and contractual restrictions. Our long-term capital allocation strategy is to first fund operations and investments in growth and then return excess cash over time to shareholders through dividends and share repurchases while maintaining investment-grade credit metrics. Our share repurchase plans are evaluated on an ongoing basis, considering factors such as our financial condition and cash flows, our economic outlook, the impact of tax laws, our liquidity needs, and the health and stability of global credit markets. The timing and amount of future repurchases may vary depending on such factors.

On February 28, 2022, our Board approved a new $5.0 billion share repurchase program, which replaced the $5.0 billion share repurchase program authorized on February 16, 2021. There is no expiration date governing the period over which we can repurchase shares under this authorization.

Share repurchase and dividend activity were as follows ($ and shares in millions, except per share amounts):

The total cost of shares repurchased decreased in fiscal 2023 from decreases in the volume of repurchases and the average price per share.

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Cash dividends declared and paid increased in fiscal 2023, primarily due to an increase in the regular quarterly cash dividend per share. On March 2, 2023, we announced the Board’s approval of a 5% increase in the regular quarterly dividend to $0.92 per share.

Other Financial Measures

Our current ratio, calculated as current assets divided by current liabilities, remained unchanged at 1.0 as of January 28, 2023, and January 29, 2022. Our debt to earnings ratio, calculated as total debt (including current portion) divided by net earnings increased to 0.8 as of January 28, 2023, compared to 0.5 at January 29, 2022, primarily due to lower net earnings.

Off-Balance-Sheet Arrangements and Contractual Obligations

We do not have outstanding off-balance-sheet arrangements. Contractual obligations as of January 28, 2023, were as follows ($ in millions):

For additional information regarding the nature of contractual obligations discussed below, refer to Note 6, Derivative Instruments; Note 7, Leases; Note 8, Debt; and Note 13, Contingencies and Commitments, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K.

(1)Purchase obligations include agreements to purchase goods or services that are enforceable, are legally binding and specify all significant terms, including fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. Purchase obligations do not include agreements that are cancelable without penalty. Additionally, although they do not contain legally binding purchase commitments, we included open purchase orders in the table above. Substantially all open purchase orders are fulfilled within 30 days.

(2)Lease obligations exclude $63 million of legally binding fixed costs for leases signed but not yet commenced.

(3)Operating lease obligations exclude payments to landlords covering real estate taxes and common area maintenance. These charges, if included, would increase total operating lease obligations by $0.7 billion as of January 28, 2023.

(4)Represents principal amounts only and excludes interest rate swap valuation adjustments related to our long-term debt obligations.

(5)Interest payments related to our 2028 Notes and 2030 Notes include the variable interest rate payments included in our interest rate swaps.

Additionally, we have $1.25 billion in undrawn capacity on our Five-Year Facility Agreement as of January 28, 2023, which, if drawn upon, would be included in either short-term or long-term debt on our Consolidated Balance Sheets.

Critical Accounting Estimates

The preparation of our financial statements requires us to make assumptions and estimates about future events and apply judgments that affect the reported amounts of assets, liabilities, revenue, expenses and the related disclosures. We base our assumptions, estimates and judgments on historical experience, current trends and other factors believed to be relevant at the time our consolidated financial statements are prepared. Because future events and their effects cannot be determined with certainty, actual results could differ from our assumptions and estimates, and such differences could be material.

Our significant accounting policies are discussed in Note 1, Summary of Significant Accounting Policies, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K. We have not made any material changes to our accounting policies or methodologies during the past three fiscal years. We believe that the following accounting estimates are the most critical to aid in fully understanding and evaluating our reported financial results. These estimates require our most difficult, subjective or complex judgments and generally incorporate significant uncertainty.

Vendor Allowances

Description

We receive funds from our merchandise vendors through a variety of programs and arrangements, primarily in the form of purchases-based or sales-based volumes and for product advertising and placement. We recognize allowances based on purchases and sales as a reduction of cost of sales when the associated inventory is sold. Allowances for advertising and placement are recognized as a reduction of cost of sales ratably over the corresponding performance period. Funds that are determined to be a reimbursement of specific, incremental and identifiable costs incurred to sell a vendor's products are recorded as an offset to the related expense within SG&A when incurred.

Judgments and uncertainties involved in the estimate

Due to the quantity and diverse nature of our vendor agreements, estimates are made to determine the amount of funding to be recognized in earnings or deferred as an offset to inventory. These estimates require a detailed analysis of complex factors, including (1) proper classification of the type of funding received; and (2) the methodology to estimate the portion of purchases-based funding that should be recognized in cost of sales in each period, which considers factors such as inventory turn by product category and actual sell-through of inventory.

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Effect if actual results differ from assumptions

A 10% change in our vendor funding deferral as of January 28, 2023, would have affected net earnings by approximately $45 million in fiscal 2023. The level of vendor funding deferral has remained relatively stable over the last three fiscal years.

Goodwill

Description

Goodwill is evaluated for impairment annually in the fiscal fourth quarter or whenever events or circumstances indicate the carrying value may not be recoverable. The impairment test involves a comparison of the fair value of each reporting unit with its carrying value. Fair value reflects our estimate of the price a potential market participant would be willing to pay for the reporting unit in an arms-length transaction.

We have goodwill in two reporting units – Best Buy Domestic (comprising our core U.S. Best Buy business) and Best Buy Health – with carrying values of $492 million and $891 million, respectively, as of January 28, 2023.

Judgments and uncertainties involved in the estimate

Determining the fair value of a reporting unit requires complex analysis and judgment. We use a combination of discounted cash flow (“DCF”) models and market data, such as earnings multiples and quoted market prices, for observable comparable companies. DCF models require detailed forecasts of cash flow drivers, such as revenue growth rates, margin rates and capital investments, and estimates of weighted-average cost of capital rates. These estimates incorporate many uncertain factors, such as the effectiveness of our strategy, changes in customer behavior, technological changes, competitor actions, regulatory changes and macroeconomic trends.

Effects if actual results differ from assumptions

For our Best Buy Domestic reporting unit, fair value exceeded book value by a substantial margin in fiscal 2023 and fiscal 2022. Compared to fiscal 2022, the excess of fair value over book value in fiscal 2023 decreased approximately in line with the decline in Best Buy’s market capitalization over the same period, reflecting the macroeconomic factors that affected our fiscal year 2023 performance and our expectations for the future. Barring a fundamental, material further deterioration of these factors, we believe the risk of future goodwill impairment within our Best Buy Domestic reporting unit is remote.

Our Best Buy Health reporting unit is subject to a greater level of uncertainty, since it operates in a less mature, rapidly-changing and high-growth environment. In both fiscal 2023 and fiscal 2022, the excess of fair value over book value for this reporting unit was substantial. In fiscal 2023, the excess decreased more significantly than our Best Buy Domestic reporting unit, primarily due to the effects of macroeconomic factors, driving, for example, lower forecasted revenue growth rates in some categories and higher estimates of weighted-average cost of capital rates. The risk of further deterioration in these factors, along with the more uncertain environment in which Best Buy Health operates, cause the likelihood of goodwill impairment for our Best Buy Health reporting unit to be higher than for our Best Buy Domestic reporting unit.

Inventory Markdown

Description

Our merchandise inventories were $5.1 billion as of January 28, 2023. We value our inventory at the lower of cost or net realizable value through the establishment of inventory markdown adjustments. Markdown adjustments reflect the excess of cost over the net recovery we expect to realize from the ultimate sale or other disposal of inventory and establish a new cost basis. No adjustment is recorded for inventory that we expect to return to our vendors for full credit.

Judgments and uncertainties involved in the estimate

Markdown adjustments involve uncertainty because the calculations require management to make assumptions and to apply judgment about the expected revenue and incremental costs we will generate for current inventory. Such estimates include the evaluation of historical recovery rates, as well as factors such as product type and condition, forecasted consumer demand, product lifecycles, promotional environment, vendor return rights and the expected sales channel of ultimate disposition. We also apply judgment in the assumptions about other components of net realizable value, such as vendor allowances and selling costs.

Effect if actual results differ from assumptions

A 10% change in our markdown adjustment as of January 28, 2023, would have affected net earnings by approximately $14 million in fiscal 2023. The level of markdown adjustments has remained relatively stable over the last three fiscal years.

Tax Contingencies

Description

Our income tax returns are routinely examined by domestic and foreign tax authorities. Taxing authorities audit our tax filing positions, including the timing and amount of income and deductions and the allocation of income among various tax jurisdictions. At any one time, multiple tax years are subject to audit by the various taxing authorities. In evaluating the exposures associated with our various tax filing positions, we may record a liability for such exposures. A number of years may elapse before a particular matter, for which we have established a liability, is audited and fully resolved or clarified. We adjust our liability for unrecognized tax benefits and income tax provisions in the period in which an uncertain tax position is effectively settled, the statute of limitations expires for the relevant taxing authority to examine the tax position or when more information becomes available. Our effective income tax rate is also affected by changes in tax law, the tax jurisdiction of new stores or business ventures, the level of earnings and the results of tax audits.

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Judgments and uncertainties involved in the estimate

Our liability for unrecognized tax benefits contains uncertainties because management is required to make assumptions and apply judgment to estimate the exposures associated with our various tax filing positions. Such assumptions can include complex and uncertain external factors, such as changes in tax law, interpretations of tax law and the timing of such changes, and uncertain internal factors such as taxable earnings by jurisdiction, the magnitude and timing of certain transactions and capital spending.

Effect if actual results differ from assumptions

Although we believe that the judgments and estimates discussed herein are reasonable, actual results could differ, and we may be exposed to losses or gains that could be material. To the extent we prevail in matters for which a liability has been established or are required to pay amounts in excess of our established liability, our effective income tax rate in a given financial statement period could be materially affected. An unfavorable tax settlement generally would require use of our cash and may result in an increase in our effective income tax rate in the period of resolution. A favorable tax settlement may reduce our effective income tax rate in the period of resolution. See Note 11, Income Taxes, of the Notes to Consolidated Financial Statements, included in Item 8, Financial Statements and Supplementary Data, of this Annual Report on Form 10-K for additional information.

Service Revenue

Description

We sell membership plans that include access to benefits such as technical support, delivery and installation, price discounts on certain products and services, product protection plans and anti-virus software. We allocate the transaction price to all performance obligations identified in the contract based on their relative fair value. For performance obligations provided over the term of the contract, we typically recognize revenue on a usage basis, an input method of measuring progress over the related contract term. This method involves the estimation of expected usage patterns, primarily derived from historical information.

Judgments and uncertainties involved in the estimate

There is judgment in (1) measuring the relative standalone selling price for bundled performance obligations; and (2) assessing the appropriate recognition and methodology for each performance obligation, and for those based on usage, estimating the expected pattern of consumption across a large portfolio of customers. When insufficient reliable and relevant history is available to estimate usage, we generally recognize revenue ratably over the life of the contract until such history has accumulated.

Effect if actual results differ from assumptions

A 10% change in the amount of services membership deferred revenue as of January 28, 2023, would have affected net earnings by approximately $40 million in fiscal 2023. The amount of services membership deferred revenue has increased over the last three fiscal years, primarily driven by the national launch of our Best Buy Totaltech membership offering, which resulted in higher membership sales and the initial deferral of more revenue than under the previous Total Tech Support offer.

New Accounting Pronouncements

We do not expect any recently issued accounting pronouncements to have a material effect on our financial statements.