calculate financial ratios and interpret against company history and industry benchmark

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ListOfAllRatios

Liquidity, or short-term solvency ratios
Current ratio	CA/CL
Quick ratio	(CA-INV)/CL
Cash ratio	Cash/CL
Leverage, or long-term solvency ratios
Total debt ratio	TL/TA
Debt/equity ratio	D/E
Equity multiplier	A/E = 1 + D/E
Times interest earned ratio	EBIT/Interest
Cash coverage ratio	EBDIT/Interest or EBITDA/Interest
Asset turnover, or utilization ratios
Total asset turnover	Sales/Assets
Capital intensity	Assets/Sales
Inventory Turnover	COGS/INV
Days’ sales in inventory	365/Inventory Turnover
Receivables turnover	Sale/AR
Days’ sales in receivables	365/Receivables turnover
AP Turnover	COGS/AP
Days until pay	365/Profitability ratios
Operating Cycle in Days	365/Inventory Turnover + 365/Receivables turnover
Cash Cycle in Days	Operating Cycle in Days - 365/Profitability ratios
Profitability ratios
Profit margin	NI/Sales
Return on assets	NI/Assets = NI/Sales*Sales/Assets
Return on equity	NI/Equity = NI/SalesSales/AssetsAssets/Equity
Du Pont Identity	(Operating Efficiency = Profit Margin)(Asset Use Efficiency = Total Asset Turnover)(Financial Leverage = Equity Multiplier)
Market value ratios
EPS =	NI/Shares outstanding
Dividends per share =	Div/Shares outstanding
Price-earnings ratio	(MV per share)/EPS
Market-to-book ratio	(MV per share)/(Book value per share)
Growth Ratios
b	(add to RE)/NI
Internal Growth Rate	(ROAb)/(1-ROAb)
Sustainable Growth Rate	(ROEb)/(1-ROEb)

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ratio

TIME WARNER INC							2014	2013	2012	2011	BENCHMARK
CONSOLIDATED BALANCE SHEET					Current Ratio	CA/CL	1.48	1.49	1.35	1.51	0.71
(in millions)					Quick Ratio	(CA-INV)/CL	1.27	1.30	1.15	1.29
	2014	2013	2012	2011	Cash Ratio	Cash/CL	0.37	0.22	0.29	0.39
Assets
Current assests
Cash and equivalents	3,210	1,816	2,841	3,476
Account Receivable	7,005	7,305	7,385	6,922
Inventory	1,776	1,648	2,036	1,890
Deferred income taxes	181	369	474	663
Prepaid expenses and other current assets	721	559	528	481
Current assests of discontinued operations	0	834	0	0
Total Current Assets	12,893	12,531	13,264	13,432
Noncurrent inventories	6779	7016	6675	6594
Investments	2336	2009	1966	1820
Property, plan and equipment, net	2678	3291	3942	3963
Intangible assets subject to amortization, net	1225	1338	2108	2232
Intangible assets not subject to amortization	7034	7043	7642	7805
Goodwill	27587	27401	30446	30029
Other assets	2563	2458	2046	1926
Noncurrent asses of discontinued operations	0	4,912	0	0
Total Assets	63,095	67,999	68,089	67,801
LIABILITIES AND EQUITY
Current Liabilities
Accounts Payable and accrued liabilities	7,052	6,754	8,039	7,815
Deferred revenue	504	542	1,011	1,084
Debt due within one year	1,168	66	749	23
Current Liabilities of discontinued operations	0	1,026	0	0
Total Current Liabilities	8,724	8,388	9,799	8,922
Long Term Debt	21,389	20,061	19,122	19,501
Deferred income taxes	1,797	2,287	2,127	2,541
Deferred revenue	349	351	523	549
Other noncurrent liabilities	5,606	6,324	6,721	6,334
Noncurrent liabilities of discontinued operations	0	684	0	0
Total Liabilities	37,865	38,095	38,292	37,847
Equity
Common stock	17	17	17	17
Additional pai-in capital	149,549	153,410	154,577	156,114
Treasury stock	(41,563)	(37,630)	(35,077)	(33,651)
Accumulated other comprehensive loss, net	(841)	(852)	(989)	(852)
Accumulated deficit	(81,932)	(85,041)	(88,732)	(91,671)
Total Time Warner Inc shareholders' equity	25,230	29,904	29,796	29,957
Noncontrolling interests	0	0	1	-3
Total Equity	25,230	29,904	29,797	29,954
Total liabilities and equity	63,095	67,999	68,089	67,801

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WhyFS

Why Work With Financial Statements?

Financial statements convey information from within the firm controlled by managers to outside the firm (owners, investors, bankers, suppliers, customers, other constituents)

Internal managers also use the information internally to guide the firm to a profitable future

Financial managers would like to have market value information, but often times this is not possible so financial managers rely on financial statements

“Accounting numbers are just pale reflections of economic reality, but they frequently are the best available information”

Internal uses

Performance evaluation – compensation and comparison between divisions

Planning for the future – guide in estimating future cash flows

External uses

Creditors

Suppliers

Customers

Stockholders

Stock Brokers

Investment bankers

Research Analysts

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ProblemsFS

Problems with Financial Statement Analysis

It’s accounting!

Not market value

Some conglomerates do not have parallel peers or industries

International and National firms may use different accounting standards and procedures than others

Making financial statements difficult to compare

Analysts often calculate ratios in different manners

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WhyCommonSize

Why Common Size

Standardized statements make it easier to compare financial information:

As the company grows, comparing one year to the next

For comparing different companies of different sizes, particularly within the same industry

For comparing companies when the statements are in different currencies

Standardized statements use % instead of dollars

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CommonSizeHow (an)

Common-Size Balance Sheet. Compute all accounts as a percent of total assets.				Common-Size Income Statement. Compute all line items as a percent of sales.				Assumptions
								Name	RAD Corp
RAD Corp				RAD Corp		RAD Corp		Year 1	12/31/04
Balance Sheet				Income Statement		Income Statement		Year 2	12/31/05
As of 12/31/2005				For The Year Ended 12/31/2005		For The Year Ended 12/31/2005		Statements	Balance Sheet
Cash	6,489	A/P	340,220	Revenues	3,991,997	Revenues	100.00%		Income Statement
A/R	1,052,606	N/P	86,631	Cost of Goods Sold	1,738,125	Cost of Goods Sold	43.54%	Outstanding Shares	166735
Inventory	295,255	Other CL	1,098,602	Expenses	1,269,479	Expenses	31.80%	Dividends paid	143392
Other CA	199,375	Total CL	1,525,453	Depreciation	308,355	Depreciation	7.72%
Total CA	1,553,725	LT Debt	871,851	EBIT	676,038	EBIT	16.93%
Net FA	2,535,072	Total Liability	2,397,304	Interest Expense	42,013	Interest Expense	1.05%
		C/S	1,691,493	Taxable Income	634,025	Taxable Income	15.88%
Total Assets	4,088,797	Total Liab. & Equity	4,088,797	Taxes	272,210	Taxes	6.82%
				Net Income	361,815	Net Income	9.06%
RAD Corp				EPS	$2.17	EPS	$2.17
Balance Sheet				Dividends per share	$0.86	Dividends per share	$0.86
As of 12/31/2005
Cash	0.16%	A/P	8.32%
A/R	25.74%	N/P	2.12%
Inventory	7.22%	Other CL	26.87%
Other CA	4.88%	Total CL	37.31%
Total CA	38.00%	LT Debt	21.32%
Net FA	62.00%	Total Liability	58.63%
		C/S	41.37%
Total Assets	100.00%	Total Liab. & Equity	100.00%

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CommonSizeHow

Common-Size Balance Sheet. Compute all accounts as a percent of total assets.

Common-Size Income Statement. Compute all line items as a percent of sales.

Assumptions

Name

RAD Corp

Year 1

12/31/04

Balance Sheet

Income Statement

Year 2

12/31/05

As of 12/31/2005

For The Year Ended 12/31/2005

Statements

Balance Sheet

Cash

6,489

A/P

340,220

Revenues

3,991,997

Revenues

Income Statement

A/R

1,052,606

N/P

86,631

Cost of Goods Sold

1,738,125

Cost of Goods Sold

Outstanding Shares

166735

Inventory

295,255

Other CL

1,098,602

Expenses

1,269,479

Expenses

Dividends paid

143392

Other CA

199,375

Total CL

1,525,453

Depreciation

308,355

Depreciation

Total CA

1,553,725

LT Debt

871,851

EBIT

676,038

EBIT

Net FA

2,535,072

Total Liability

2,397,304

Interest Expense

42,013

Interest Expense

C/S

1,691,493

Taxable Income

634,025

Taxable Income

Total Assets

4,088,797

Total Liab. & Equity

4,088,797

Taxes

272,210

Taxes

Net Income

361,815

Net Income

RAD Corp

EPS

$2.17

EPS

$2.17

Balance Sheet

Dividends per share

$0.86

Dividends per share

$0.86

As of 12/31/2005

Cash

A/P

A/R

N/P

Inventory

Other CL

Other CA

Total CL

Total CA

LT Debt

Net FA

Total Liability

C/S

Total Assets

Total Liab. & Equity

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WFMI SEC Financials

http://finance.yahoo.com/q?s=wfmi	http://biz.yahoo.com/f/g/g.html
Whole Foods Market, Inc.
Consolidated Balance Sheets
(In thousands)
September 24, 2006 and September 25, 2005
		2006				2005
Assets
Current assets:
Cash and cash equivalents		$	2,252			$	308,524
Short-term investments – available-for-sale securities			193,847				—
Restricted cash			60,065				36,922
Trade accounts receivable			82,137				66,682
Merchandise inventories			203,727				174,848
Prepaid expenses and other current assets			33,804				45,965
Deferred income taxes			48,149				39,588

Total current assets			623,981				672,529
Property and equipment, net of accumulated depreciation and amortization			1,236,133				1,054,605
Goodwill			113,494				112,476
Intangible assets, net of accumulated amortization			34,767				21,990
Deferred income taxes			29,412				22,452
Other assets			5,209				5,244

Total assets		$	2,042,996			$	1,889,296

		2006				2005
Liabilities and Shareholders’ Equity
Current liabilities:
Current installments of long-term debt and capital lease obligations		$	49			$	5,932
Trade accounts payable			121,857				103,348
Accrued payroll, bonus and other benefits due team members			153,014				126,981
Dividends payable			—				17,208
Other current liabilities			234,850				164,914

Total current liabilities			509,770				418,383
Long-term debt and capital lease obligations, less current installments			8,606				12,932
Deferred rent liability			120,421				91,775
Other long-term liabilities			56				530

Total liabilities			638,853				523,620

Shareholders’ equity:
Common stock, no par value, 300,000 shares authorized;			1,147,872				874,972
142,198 and 136,017 shares issued, 139,607 and 135,908 shares
outstanding in 2006 and 2005, respectively
Common stock in treasury, at cost			(99,964	)			—
Accumulated other comprehensive income			6,975				4,405
Retained earnings			349,260				486,299

Total shareholders’ equity			1,404,143				1,365,676

Commitments and contingencies

Total liabilities and shareholders’ equity		$	2,042,996			$	1,889,296

The accompanying notes are an integral part of these consolidated financial statements.

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Table of Contents
Whole Foods Market, Inc.
Consolidated Statements of Operations
(In thousands, except per share amounts)
Fiscal years ended September 24, 2006, September 25, 2005 and September 26, 2004
		2006				2005				2004
Sales		$	5,607,376			$	4,701,289			$	3,864,950
Cost of goods sold and occupancy costs			3,647,734				3,052,184				2,523,816

Gross profit			1,959,642				1,649,105				1,341,134
Direct store expenses			1,421,968				1,223,473				986,040
General and administrative expenses			181,244				158,864				119,800
Pre-opening and relocation costs			37,421				37,035				18,648

Operating income			319,009				229,733				216,646
Other income (expense):
Interest expense			(32	)			(2,223	)			(7,249	)
Investment and other income			20,736				9,623				6,456

Income before income taxes			339,713				237,133				215,853
Provision for income taxes			135,885				100,782				86,341

Net income		$	203,828			$	136,351			$	129,512

Basic earnings per share		$	1.46			$	1.05			$	1.06

Weighted average shares outstanding			139,328				130,090				122,648

Diluted earnings per share		$	1.41			$	0.99			$	0.99

Weighted average shares outstanding, diluted basis			145,082				139,950				135,454

Dividends declared per share		$	2.45			$	0.47			$	0.3

The accompanying notes are an integral part of these consolidated financial statements.

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Table of Contents
Whole Foods Market, Inc.
Consolidated Statements of Shareholders’ Equity and Comprehensive Income
(In thousands)
Fiscal years ended September 24, 2006, September 25, 2005 and September 26, 2004
		Shares			Common			Common				Accumulated				Retained			Total
		Outstanding			Stock			Stock in				Other				Earnings			Shareholders’
								Treasury				Comprehensive							Equity
												Income (Loss)
Balances at September 28, 2003		120,140			$	423,297		$	—			$	1,624			$	320,055		$	744,976

Net income		—				—			—				—				129,512			129,512
Foreign currency translation adjustments		—				—			—				856				—			856
Reclassification adjustments for losses included in net income		—				—			—				88				—			88
Change in unrealized gain (loss) on investments, net of income taxes		—				—			—				(515	)			—			(515	)

Comprehensive income		—				—			—				429				129,512			129,941
Dividends ($0.30 per share)		—				—			—				—				(37,089	)		(37,089	)
Issuance of common stock pursuant to team member stock plans		4,184				59,518			—				—				—			59,518
Issuance of common stock in connection with acquisition		478				16,375			—				—				—			16,375
Tax benefit related to exercise of team member stock options		—				35,583			—				—				—			35,583
Other		12				334			—				—				—			334

Balances at September 26, 2004		124,814				535,107			—				2,053				412,478			949,638

Net income		—				—			—				—				136,351			136,351
Foreign currency translation adjustments		—				—			—				1,893				—			1,893
Reclassification adjustments for losses included in net income		—				—			—				1,063				—			1,063
Change in unrealized gain (loss) on investments, net of income taxes		—				—			—				(604	)			—			(604	)

Comprehensive income		—				—			—				2,352				136,351			138,703
Dividends ($0.47 per share)		—				—			—				—				(62,530	)		(62,530	)
Issuance of common stock pursuant to team member stock plans		5,042				110,293			—				—				—			110,293
Tax benefit related to exercise of team member stock options		—				62,643			—				—				—			62,643
Share-based compensation		—				19,135			—				—				—			19,135
Conversion of subordinated debentures		6,052				147,794			—				—				—			147,794

Balances at September 25, 2005		135,908				874,972			—				4,405				486,299			1,365,676

Net income		—				—			—				—				203,828			203,828
Foreign currency translation adjustments		—				—			—				2,494				—			2,494
Change in unrealized gain (loss) on investments, net of income taxes		—				—			—				76				—			76

Comprehensive income		—				—			—				2,570				203,828			206,398
Dividends ($2.45 per share)		—				—			—				—				(340,867	)		(340,867	)
Issuance of common stock pursuant to team member stock plans		5,510				199,450			—				—				—			199,450
Purchase of treasury stock		(2,005	)			—			(99,964	)			—				—			(99,964	)
Excess tax benefit related to exercise of team member stock options		—				59,096			—				—				—			59,096
Share-based compensation		—				9,432			—				—				—			9,432
Conversion of subordinated debentures		194				4,922			—				—				—			4,922

Balances at September 24, 2006		139,607			$	1,147,872		$	(99,964	)		$	6,975			$	349,260		$	1,404,143

The accompanying notes are an integral part of these consolidated financial statements.

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Table of Contents
Whole Foods Market, Inc.
Consolidated Statements of Cash Flows
(In thousands)
Fiscal years ended September 24, 2006, September 25, 2005 and September 26, 2004
		2006				2005				2004
Cash flows from operating activities
Net income		$	203,828			$	136,351			$	129,512
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization			156,223				133,759				115,157
Loss on disposal of fixed assets			6,291				15,886				5,769
Share-based compensation			9,432				19,135				—
Deferred income tax expense (benefit)			(15,521	)			(27,873	)			(682	)
Tax benefit related to exercise of team member stock options			—				62,643				35,583
Excess tax benefit related to exercise of team member stock options			(52,008	)			—				—
Interest accretion on long-term debt			460				4,120				7,551
Deferred rent			26,607				16,080				11,109
Other			693				1,317				(1,133	)
Net change in current assets and liabilities:
Trade accounts receivable			(17,720	)			(2,027	)			(19,158	)
Merchandise inventories			(32,200	)			(21,486	)			(27,868	)
Prepaid expenses and other current assets			(7,849	)			(4,151	)			(2,940	)
Trade accounts payable			18,509				12,597				12,515
Accrued payroll, bonus and other benefits due team member			26,033				26,445				29,646
Other accrued expenses			129,886				38,023				35,279

Net cash provided by operating activities			452,664				410,819				330,340

Cash flows from investing activities
Development costs of new store locations			(208,588	)			(207,792	)			(156,728	)
Other property, plant and equipment expenditures			(131,614	)			(116,318	)			(109,739	)
Proceeds from hurricane insurance			3,308				—				—
Acquisition of intangible assets			(16,332	)			(1,500	)			—
Change in notes receivable			—				13,500				(13,500	)
Purchase of available-for-sale securities			(555,095	)			—				—
Sale of available-for-sale securities			362,209				—				—
Increase in restricted cash			(23,143	)			(10,132	)			(26,790	)
Payment for purchase of acquired entities, net of cash acquired			—				—				(18,873	)
Other investing activities			—				—				1,332

Net cash used in investing activities			(569,255	)			(322,242	)			(324,298	)

Cash flows from financing activities
Dividends paid			(358,075	)			(54,683	)			(27,728	)
Issuance of common stock			222,030				85,816				59,518
Purchase of treasury stock			(99,964	)			—				—
Excess tax benefit related to exercise of team member stock options			52,008				—				—
Payments on long-term debt and capital lease obligations			(5,680	)			(5,933	)			(8,864	)

Net cash provided by (used in) financing activities			(189,681	)			25,200				22,926

Net change in cash and cash equivalents			(306,272	)			113,777				28,968
Cash and cash equivalents at beginning of year			308,524				194,747				165,779

Cash and cash equivalents at end of year		$	2,252			$	308,524			$	194,747

Supplemental disclosures of cash flow information:
Interest paid		$	607			$	1,063			$	2,127
Federal and state income taxes paid		$	70,220			$	74,706			$	60,372
Non-cash transactions:
Common stock issued in connection with acquisition		$	—			$	—			$	16,375
Conversion of convertible debentures into common stock, net of fees		$	4,922			$	147,794			$	293
Whole Foods Market, Inc.
Notes to Consolidated Financial Statements
Fiscal years ended September 24, 2006, September 25, 2005 and September 26, 2004
(1) Description of Business
Whole Foods Market, Inc. and its consolidated subsidiaries (collectively “Whole Foods Market,” “Company,” or “We”) own and operate the largest chain of natural and organic foods supermarkets. Our Company mission is to promote vitality and well-being for all individuals by supplying the highest quality, most wholesome foods available. Through our growth, we have had a large and positive impact on the natural and organic foods movement throughout the United States, helping lead the industry to nationwide acceptance over the last 25 years. We opened our first store in Texas in 1980 and, as of September 24, 2006, have expanded our operations both by opening new stores and acquiring existing stores from third parties to 186 stores: 177 stores in 31 U.S. states and the District of Columbia; three stores in Canada; and six stores in the United Kingdom.
(2) Summary of Significant Accounting Policies
Definition of Fiscal Year
We report our results of operations on a 52- or 53-week fiscal year ending on the last Sunday in September. Fiscal years 2006, 2005 and 2004 were 52-week years.
Principles of Consolidation
The accompanying consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles. All significant majority-owned subsidiaries are consolidated on a line-by-line basis, and all significant intercompany accounts and transactions are eliminated upon consolidation.
Cash and Cash Equivalents
We consider all highly liquid investments with an original maturity of 90 days or less to be cash equivalents.
Investments
We classify as available-for-sale our cash equivalent investments and our short-term and long-term investments in debt and equity securities that have readily determinable fair values. Available-for-sale investments are recorded at fair value. Unrealized holding gains and losses, net of the related tax effect, on available-for-sale investments are excluded from earnings and are reported as a separate component of shareholders’ equity until realized. A decline in the fair value of any available-for-sale security below cost that is deemed to be other-than-temporary or for a period greater than two fiscal quarters results in a reduction in carrying amount to fair value. The impairment is charged to earnings and a new cost basis of the security is established. Cost basis is established and maintained utilizing the specific identification method.
Restricted Cash
Restricted cash primarily relates to cash held as collateral to support projected workers’ compensation obligations.
Inventories
We value our inventories at the lower of cost or market. Cost was determined using the last-in, first-out (“LIFO”) method for approximately 94% of inventories in fiscal years 2006 and 2005. Under the LIFO method, the cost assigned to items sold is based on the cost of the most recent items purchased. As a result, the costs of the first items purchased remain in inventory and are used to value ending inventory. The excess of estimated current costs over LIFO carrying value, or LIFO reserve, was approximately $13.2 million and $10.7 million at September 24, 2006 and September 25, 2005, respectively. Costs for remaining inventories are determined by the first-in, first-out (“FIFO”) method.
Cost was determined using the retail method for approximately 54% of inventories in fiscal years 2006 and 2005. Under the retail method, the valuation of inventories at cost and the resulting gross margins are determined by applying a cost-to-retail ratio for various groupings of similar items to the retail value of inventories. Inherent in the retail inventory method calculations are certain management judgments and estimates, including shrinkage, which could impact the ending inventory valuation at cost as well as the resulting gross margins. Cost was determined using the item cost method for approximately 46% of inventories in fiscal years 2006 and 2005. This method involves counting each item in inventory, assigning costs to each of these items based on the actual purchase costs (net of vendor allowances) of each item and recording the actual cost of items sold. The item-cost method of accounting allows for more accurate reporting of periodic inventory balances and enables management to more precisely manage inventory and purchasing levels when compared to the retail method of accounting.

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Table of Contents
Our largest supplier, United Natural Foods, Inc., accounted for approximately 22%, 22% and 20% of our total purchases in fiscal years 2006, 2005 and 2004, respectively.
Property and Equipment
Property and equipment is stated at cost, net of accumulated depreciation and amortization. We provide depreciation of equipment over the estimated useful lives (generally three to 15 years) using the straight-line method. We provide amortization of leasehold improvements on the straight-line method over the shorter of the estimated useful lives of the improvements or the terms of the related leases. Terms of leases used in the determination of estimated useful lives may include renewal periods at the Company’s option if exercise of the option is determined to be reasonably assured at the inception of the lease. We provide depreciation of buildings over the estimated useful lives (generally 20 to 30 years) using the straight-line method. Costs related to a projected site determined to be unsatisfactory and general site selection costs that cannot be identified with a specific store location are charged to operations currently. The Company recognizes a liability for the fair value of a conditional asset retirement obligation when the obligation is incurred. Repair and maintenance costs are expensed as incurred. Interest costs on significant projects constructed or developed for the Company’s own use are capitalized as a separate component of the asset. Upon retirement or disposal of assets, the cost and related accumulated depreciation are removed from the balance sheet and any gain or loss is reflected in earnings.
Operating Leases
The Company leases stores, distribution centers, bakehouses and administrative facilities under operating leases. Store lease agreements generally include rent holidays, rent escalation clauses and contingent rent provisions for percentage of sales in excess of specified levels. Most of our lease agreements include renewal periods at the Company’s option. We recognize rent holiday periods and scheduled rent increases on a straight-line basis over the lease term beginning with the date the Company takes possession of the leased space for construction and other purposes. We record tenant improvement allowances and rent holidays as deferred rent liabilities and amortize the deferred rent over the terms of the lease to rent. We record rent liabilities for contingent percentage of sales lease provisions when we determine that it is probable that the specified levels will be reached during the fiscal year.
Goodwill
Goodwill consists of the excess of cost of acquired enterprises over the sum of the amounts assigned to identifiable assets acquired less liabilities assumed. Goodwill is reviewed for impairment annually, or more frequently if impairment indicators arise, on a reporting unit level. We allocate goodwill to one reporting unit for goodwill impairment testing. We determine fair value utilizing both a market value method and discounted projected future cash flows compared to our carrying value for the purpose of identifying impairment. Our annual impairment review requires extensive use of accounting judgment and financial estimates. Application of alternative assumptions and definitions, such as reviewing goodwill for impairment at a different organizational level, could produce significantly different results.
Intangible Assets
Intangible assets include acquired leasehold rights, liquor licenses, license agreements, non-competition agreements and debt issuance costs. Indefinite-lived intangible assets are reviewed for impairment annually, or more frequently if impairment indicators arise. We amortize definite-lived intangible assets on a straight-line basis over the life of the related agreement, currently one to 48 years for contract-based intangible assets and one to five years for marketing-related and other identifiable intangible assets.
Impairment of Long-Lived Assets and Long-Lived Assets to be Disposed of
We evaluate long-lived assets and identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets to be held and used is measured by a comparison of the carrying amount of an asset to future undiscounted cash flows expected to be generated by the asset. If such assets are considered to be impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the assets exceeds the fair value of the assets. Assets to be disposed of are reported at the lower of the carrying amount or fair value less costs to sell. When the Company commits to relocate a location, a charge to write down the related assets to their estimated net recoverable value is included in the “Pre-opening and relocation costs” line item in the Consolidated Statements of Operations.
Fair Value of Financial Instruments
The carrying amounts of cash and cash equivalents, trade accounts receivable, trade accounts payable, accrued payroll, bonuses and team member benefits, and other accrued expenses approximate fair value because of the short maturity of those instruments. Investments are stated at fair value with unrealized gains and losses included as a component of shareholders’ equity until realized.

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The fair value of convertible subordinated debentures is estimated using quoted market prices. The fair value of senior unsecured notes is estimated by discounting the future cash flows at the rates currently available to us for similar debt instruments of comparable maturities. Carrying amounts and estimated fair values of our financial instruments other than those for which carrying amounts approximate fair values as noted above are as follows (in thousands):
		2006						2005
		Carrying			Estimated Fair			Carrying			Estimated Fair
		Amount			Value			Amount			Value
Convertible subordinated debentures		$	8,320		$	19,298		$	12,850		$	34,635
Senior unsecured notes			—			—			5,714			5,828
Insurance and Self-Insurance Reserves
The Company uses a combination of insurance and self-insurance plans to provide for the potential liabilities for workers’ compensation, general liability, property insurance, director and officers’ liability insurance, vehicle liability and employee health care benefits. Liabilities associated with the risks that are retained by the Company are estimated, in part, by considering historical claims experience, demographic factors, severity factors and other actuarial assumptions. While we believe that our assumptions are appropriate, the estimated accruals for these liabilities could be significantly affected if future occurrences and claims differ from these assumptions and historical trends.
Revenue Recognition
We recognize revenue for sales of our products at the point of sale. Discounts provided to customers at the point of sale are recognized as a reduction in sales as the products are sold.
Cost of Goods Sold and Occupancy Costs
Cost of goods sold includes cost of inventory sold during the period, net of discounts and allowances, contribution from non-retail distribution and food preparation operations, shipping and handling costs and occupancy costs. The Company receives various rebates from third party vendors in the form of quantity discounts and payments under cooperative advertising agreements. Quantity discounts and co-operative advertising discounts in excess of identifiable advertising costs are recognized as a reduction of cost of goods sold when the related merchandise is sold.
Advertising
Advertising and marketing expense for fiscal years 2006, 2005 and 2004 was approximately $24.0 million, $20.1 million and $17.4 million, respectively. These amounts are shown net of vendor allowances received for co-operative advertising of approximately $1.2 million, $1.2 million and $1.0 million in fiscal years 2006, 2005 and 2004, respectively. Advertising costs are charged to expense as incurred and are included in the “Direct store expenses” line item in the Consolidated Statements of Operations.
Pre-opening and Relocation Costs
Pre-opening costs include rent expense incurred during construction of new stores and costs related to new store openings including costs associated with hiring and training personnel, smallwares, supplies and other miscellaneous costs. Rent expense is generally incurred approximately nine months prior to a store’s opening date. Other pre-opening costs are incurred primarily in the 30 days prior to a new store opening. Pre-opening costs are expensed as incurred. Relocation costs, which consist of moving costs, remaining lease payments, accelerated depreciation costs, asset impairment costs, other costs associated with replaced facilities and other related expenses, are expensed as incurred.
Share-Based Compensation
Our Company maintains several share-based incentive plans. We grant options to purchase common stock under our 1992 Stock Option Plans, as amended. Under these plans, options are granted at an option price equal to the market value of the stock at the grant date and are generally exercisable ratably over a four-year period beginning one year from grant date and have a five-year term. The grant date is established once the Company’s Board of Directors approves the grant and all key terms have been determined. The exercise prices of our stock option grants are the closing price on the grant date. Stock option grant terms and conditions are communicated to team members within a relatively short period of time. Our Board of Directors generally approves one primary stock option grant annually with a grant date that occurs during a trading window. Our Company offers a team member stock purchase plan to all full-time team members with a minimum of 400 hours of

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service. Under this plan, participating team members may purchase our common stock each calendar quarter through payroll deductions. Participants in the stock purchase plan may elect to purchase unrestricted shares at 100 percent of market value or restricted shares at 85 percent of market value on the purchase date.
Prior to the effective date of revised Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” the Company applied Accounting Principles Board Opinion No. 25 (“APB No. 25”), “Accounting for Stock Issued to Employees” and related interpretations for our stock option grants. APB No. 25 provides that the compensation expense relative to our team member stock options is measured based on the intrinsic value of the stock option at date of grant.
Effective the beginning of the first quarter of fiscal year 2006, the Company adopted the provisions of SFAS No. 123R using the modified prospective transition method. Under this method, prior periods were not restated. The Company’s methods used to determine share-based compensation, which includes the utilization of the Black-Scholes option pricing model, requires extensive use of accounting judgment and financial estimates, including estimates of the expected term team members will retain their vested stock options before exercising them, the estimated volatility of the Company’s common stock price over the expected term, and the number of options that will be forfeited prior to the completion of their vesting requirements. The related share-based compensation expense is recognized on a straight-line basis over the vesting period. Application of alternative assumptions could produce significantly different estimates of the fair value of share-based compensation and consequently, the related amounts recognized in the Consolidated Statements of Operations. The provisions of SFAS No. 123R apply to new stock options and stock options outstanding, but not yet vested, on the effective date.
SFAS No. 123R requires the Company to value unvested stock options granted prior to its adoption of SFAS No. 123 under the fair value method and expense these amounts in the income statement over the stock option’s remaining vesting period. In the fourth quarter of fiscal year 2005, the Company accelerated the vesting of all outstanding stock options, except options held by the members of the executive team and certain options held by team members in the United Kingdom, in order to prevent past option grants from having an impact on future results. The Company intends to keep its broad-based stock option program in place, but also intends to limit the number of shares granted in any one year so that annual earnings per share dilution from equity-based compensation expense will not exceed 10%.
Prior to the adoption of SFAS No. 123R, the Company presented the tax savings resulting from tax deductions resulting from the exercise of stock options as an operating cash flow, in accordance with Emerging Issues Task Force (“EITF”) Issue No. 00-15, “Classification in the Statement of Cash Flows of the Income Tax Benefit Received by a Company upon Exercise of a Nonqualified Employee Stock Option.” SFAS No. 123R requires the Company to reflect gross tax savings resulting from tax deductions in excess of expense reflected in its financial statements, including pro forma amounts, as a financing cash flow.
In November 2005, the FASB issued Staff Position No. FAS 123R-3, “Transition Election Related to Accounting for the Tax Effects of the Share-Based Payment Awards” (“FSP FAS 123R-3”). The Company has elected to adopt the transition guidance for the additional paid-in-capital pool (“APIC pool”) pool in paragraph 81 of SFAS No. 123R. The prescribed transition method is a detailed method to establish the beginning balance of the APIC pool related to the tax effects of share-based compensation, and to determine the subsequent impact on the APIC pool and Consolidated Statement of Cash Flows of the tax effects of share-based compensation awards that are outstanding upon adoption of SFAS No. 123R.
Income Taxes
We recognize deferred income tax assets and liabilities by applying statutory tax rates in effect at the balance sheet date to differences between the book basis and the tax basis of assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to reverse. Deferred tax assets and liabilities are adjusted to reflect changes in tax laws or rates in the period that includes the enactment date. Significant accounting judgment is required in determining the provision for income taxes and related accruals, deferred tax assets and liabilities. In the ordinary course of business, there are transactions and calculations where the ultimate tax outcome is uncertain. In addition, we are subject to periodic audits and examinations by the IRS and other state and local taxing authorities. Although we believe that our estimates are reasonable, actual results could differ from these estimates.
Earnings per Share
Basic earnings per share is based on the weighted average number of common shares outstanding during the fiscal period. Diluted earnings per share is based on the weighted average number of common shares outstanding plus, where applicable, the additional common shares that would have been outstanding as a result of the conversion of dilutive options and convertible debt.

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Comprehensive Income
Comprehensive income consists of net income, foreign currency translation adjustments, and unrealized gains and losses on marketable securities, net of income taxes. Comprehensive income is reflected in the Consolidated Statements of Shareholders’ Equity and Comprehensive Income. At September 24, 2006, accumulated other comprehensive income consisted of foreign currency translation adjustment gains of approximately $6.9 million and unrealized gains on marketable securities of approximately $0.1 million. At September 25, 2005, accumulated other comprehensive income consisted of foreign currency translation adjustment gains of approximately $4.4 million.
Foreign Currency Translation
The Company’s Canadian and United Kingdom operations use their local currency as their functional currency. Assets and liabilities are translated at exchange rates in effect at the balance sheet date. Income and expense accounts are translated at the average monthly exchange rates during the year. Resulting translation adjustments are recorded as a separate component of accumulated other comprehensive income.
Segment Information
We operate in one reportable segment, natural foods supermarkets. We currently have three stores in Canada and six stores in the United Kingdom. All of our remaining operations are domestic.
Use of Estimates
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and revenues and expenses during the period reported. Actual results could differ from those estimates. We use estimates when accounting for depreciation and amortization, allowance for doubtful accounts, inventory valuation, long-term investments, team member benefit plans, team member health insurance plans, workers’ compensation liabilities, share-based compensation, store closure reserves, income taxes and contingencies.
Reclassifications
Where appropriate, we have reclassified prior years’ financial statements to conform to current year presentation.
Recent Accounting Pronouncements
In September 2006, the Securities and Exchange Commission issued Staff Accounting Bulletin No.108 (“SAB No. 108”), “Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in the Current Year Financial Statements.” SAB No. 108 addresses how the effects of prior-year uncorrected misstatements should be considered when quantifying misstatements in current-year financial statements. SAB No. 108 requires an entity to quantify misstatements using a balance sheet and income statement approach and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors. The requirements of SAB No. 108 are effective for fiscal years ending after November 15, 2006. We are currently evaluating the effect, if any, that the adoption of SAB No. 108 will have on our consolidated financial statements.
In September 2006, the FASB issued SFAS No. 157, “Fair Value Measures.” SFAS No. 157 defines fair value, establishes a framework for measuring fair value, and requires additional disclosures about fair value measurements. SFAS No. 157 applies to fair value measurements that are already required or permitted by other accounting standards, except for measurements of share-based payments and measurements that are similar to, but not intended to be, fair value and does not change existing guidance as to whether or not an instrument is carried at fair value. The provisions of SFAS No. 157 are effective for the specified fair value measures for financial statements issued for fiscal years beginning after November 15, 2007. We are currently evaluating the impact, if any, that the adoption of SFAS No. 157 will have on our consolidated financial statements.
In July 2006, the FASB issued Interpretation 48 (“FIN 48”), “Accounting for Uncertainty in Income Taxes,” an interpretation of SFAS No. 109, “Accounting for Income Taxes.” FIN 48 clarifies the accounting for uncertainty in income taxes recognized in an enterprise’s financial statements in accordance with SFAS No. 109. The interpretation applies to all tax positions accounted for in accordance with Statement 109 and requires a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken, or expected to be taken, in an income tax return. Subsequent recognition, derecognition, and measurement is based on management’s best judgment given the facts, circumstances and information available at the reporting date. FIN 48 is effective for fiscal years beginning after December 15, 2006. Early adoption is permitted as of the beginning of an enterprise’s fiscal year, provided the enterprise has not yet issued financial statements, including financial statements for any interim period, for that fiscal year. We are currently evaluating the effect, if any, that the adoption of FIN 48 will have on our consolidated financial statements.

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In March 2006, the Emerging Issues Task Force (“EITF”) reached a consensus on EITF Issue No. 06-3, “How Taxes Collected from Customers and Remitted to Governmental Authorities Should Be Presented in the Income Statement (that is, Gross versus Net Presentation). Taxes within the scope of EITF Issue No. 06-3 include any taxes assessed by a governmental authority that are directly imposed on a revenue-producing transaction between a seller and a customer and may include, but are not limited to, sales taxes, use taxes, value-added taxes, and some excise taxes. The EITF concluded that the presentation of these taxes on either a gross (included in revenues and costs) or a net (excluded from revenues) basis is an accounting policy decision that should be disclosed. For any such taxes that are reported on a gross basis, a company should disclose the amounts of those taxes in interim and annual financial statements. The Company’s policy is to exclude all such taxes from revenue. The provisions of EITF 06-3 are effective for interim and annual reporting periods beginning after December 15, 2006. The adoption of EITF 06-3 will not have any effect on our consolidated financial statements.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections, a Replacement of Accounting Principles Board Opinion No. 20 and FASB Statement No. 3.” SFAS No. 154 requires retrospective application to prior periods’ financial statements for changes in accounting principles, unless it is impracticable to determine either the period-specific effects or the cumulative effect of the change. SFAS No. 154 also requires that retrospective application of a change in accounting principle be limited to the direct effects of the change. Indirect effects of a change in accounting principle, such as a change in non-discretionary profit-sharing payments resulting from an accounting change, should be recognized in the period of the accounting change. SFAS No. 154 also requires that a change in depreciation, amortization, or depletion method for long-lived, non-financial assets be accounted for as a change in accounting estimate affected by a change in accounting principle. The provisions of SFAS No. 154 are effective for accounting changes and corrections of errors made in fiscal years beginning after December 15, 2005. Early adoption is permitted for accounting changes and corrections of errors made in fiscal years beginning after the date this Statement was issued. The Company is required to adopt the provisions of SFAS No. 154, as applicable, beginning in fiscal year 2007. We do not expect the adoption of SFAS No. 154 will have a significant effect on our future consolidated financial statements.
(3) Natural Disaster Costs
The Company has two stores in the New Orleans area which were damaged by and closed due to Hurricane Katrina during the fourth quarter of fiscal year 2005, and accordingly the Company recorded expenses totaling approximately $16.5 million for related estimated net losses. The main components of the $16.5 million expense were estimated impaired assets totaling approximately $12.2 million, estimated inventory losses totaling approximately $2.5 million, salaries and relocation allowances for displaced Team Members and other costs totaling approximately $3.4 million, and a $1.0 million special donation from the Company to the American Red Cross, net of accrued estimated insurance proceeds totaling approximately $2.6 million. In fiscal year 2005, approximately $13.4 million of net natural disaster costs is included in “Direct store expenses” in the Consolidated Statements of Operations, approximately $1.0 million is included in “General and administrative expenses,” and approximately $2.1 million is included in “Cost of goods sold and occupancy costs.” In fiscal year 2006, the Company recognized approximately $7.2 million in pre-tax credits for insurance proceeds and other adjustments related to previously estimated Hurricane Katrina losses, of which approximately $4.2 million is included in “Direct store expenses,” approximately $0.9 million is included in “Cost of goods sold and occupancy costs,” and approximately $2.1 million is included in “Investment and other income.”
(4) Property and Equipment
Balances of major classes of property and equipment are as follows (in thousands):
		2006			2005
Land		$	39,993		$	34,396
Buildings and leasehold improvements			955,130			784,000
Fixtures and equipment			779,050			692,403
Construction in progress and equipment not yet in service			168,105			133,061

			1,942,278			1,643,860
Less accumulated depreciation and amortization			706,145			589,255

		$	1,236,133		$	1,054,605

Depreciation and amortization expense related to property and equipment totaled approximately $152.4 million, $129.8 million and $111.2 million for fiscal years 2006, 2005 and 2004, respectively. Property and equipment included accumulated

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accelerated depreciation and other asset impairments totaling approximately $13.1 million and $5.9 million at September 24, 2006 and September 25, 2005, respectively. Property and equipment includes approximately $0.9 million, $3.0 million and $2.1 million of interest capitalized during fiscal years 2006, 2005 and 2004, respectively. Development costs of new store locations totaled approximately $208.6 million, 207.8 million and $156.7 million in fiscal years 2006, 2005 and 2004, respectively. As of November 2, 2006, we had signed leases for 88 stores under development.
(5) Business Combinations
Fresh & Wild Holdings Limited
On January 31, 2004, we acquired all of the outstanding stock of Fresh & Wild Holdings Limited (“Fresh & Wild”) for a total of approximately $20 million in cash and approximately $16 million in Company common stock, totaling 477,470 shares. The acquisition of Fresh & Wild, which owned and operated seven natural and organic food stores in London and Bristol, England, provided a platform for expansion of the Whole Foods Market brand in the United Kingdom. This transaction was accounted for using the purchase method and, accordingly, the purchase price has been allocated to tangible and identifiable intangible assets acquired based on their estimated fair values at the date of acquisition. Total costs in excess of tangible and intangible assets acquired of approximately $30.5 million have been recorded as goodwill. Fresh & Wild results of operations are included in our consolidated income statements for the period beginning February 1, 2004 through September 26, 2004 and all subsequent periods. John Mackey and Walter Robb, executive officers of the Company, each owned approximately 0.2% of the outstanding stock of Fresh & Wild and received proceeds totaling approximately $54,000 and $78,000, respectively, in consideration for their ownership interest.
Select Fish LLC
On October 27, 2003, we acquired certain assets of Select Fish LLC (“Select Fish”) in exchange for approximately $3 million in cash plus the assumption of certain liabilities. All assets acquired relate to a seafood processing and distribution facility located in Seattle, Washington. This transaction was accounted for using the purchase method. Accordingly the purchase price was allocated to tangible and identifiable intangible assets acquired based on their estimated fair values at the date of the acquisition. Total costs in excess of tangible and intangible assets acquired of approximately $1.1 million have been recorded as goodwill. Select Fish results of operations are included in our consolidated income statements beginning October 27, 2003.
-6	Goodwill and Other Intangible Assets
Goodwill and indefinite-lived intangible assets are reviewed for impairment annually, or more frequently if impairment indicators arise. We allocate goodwill to one reporting unit for goodwill impairment testing. During fiscal year 2006, we acquired goodwill totaling approximately $1.1 million, primarily related to the acquisition of one small store in Portland, Maine. We acquired indefinite-lived intangible assets totaling approximately $50,000 and $0.7 million during fiscal years 2006 and 2005, respectively, consisting primarily of liquor licenses. There was no impairment of goodwill or indefinite-lived intangible assets during fiscal years 2006, 2005 or 2004.
Definite-lived intangible assets are amortized over the useful life of the related agreement. We acquired definite-lived intangible assets totaling approximately $15.7 million and $1.5 million during fiscal years 2006 and 2005, respectively, consisting primarily of acquired leasehold rights. Amortization associated with intangible assets totaled approximately $2.5 million, $2.8 million, and 3.0 million during fiscal years 2006, 2005 and 2004, respectively. The components of intangible assets were as follows (in thousands):
		2006							2005
		Gross carrying			Accumulated				Gross carrying			Accumulated
		amount			amortization				amount			amortization
Indefinite-lived contract-based		$	774		$	—			$	723		$	—
Definite-lived contract-based			45,579			(11,833	)			32,597			(11,827	)
Definite-lived marketing-related and other			2,242			(1,995	)			2,921			(2,425	)

		$	48,595		$	(13,828	)		$	36,241		$	(14,252	)

Amortization associated with the net carrying amount of intangible assets is estimated to be approximately $2.4 million in fiscal year 2007, $2.3 million in fiscal year 2008, $2.3 million in fiscal year 2009, $2.2 million in fiscal year 2010 and $2.2 million in fiscal year 2011.

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(7) Long-Term Debt
We have long-term debt and obligations under capital leases as follows (in thousands):
		2006			2005
Obligations under capital lease agreements for equipment, due in monthly installments through 2012		$	335		$	300
Senior unsecured notes			—			5,714
Convertible debentures, including accreted interest			8,320			12,850

Total Long-term debt			8,655			18,864
Less current installments			49			5,932

Long-term debt, less current installments		$	8,606		$	12,932

On October 1, 2004, we amended our credit facility to extend the maturity of our $100 million revolving line of credit to October 1, 2009. The credit agreement contains certain affirmative covenants including maintenance of certain financial ratios and certain negative covenants including limitations on additional indebtedness as defined in the agreement. At September 24, 2006 and September 25, 2005, we were in compliance with the applicable debt covenants. All outstanding amounts borrowed under this agreement bear interest at our option of either the defined base rate or the LIBOR rate plus a premium. Commitment fees of 0.15% of the undrawn amount are payable under this agreement. At September 24, 2006 and September 25, 2005 no amounts were drawn under the agreement. The amount available to the Company under the agreement was effectively reduced to $88.4 million by outstanding letters of credit totaling approximately $11.6 million at September 25, 2005. On November 7, 2005, we amended our credit facility to delete negative covenants related to the repurchase of Company stock and payment of dividends.
We have outstanding zero coupon convertible subordinated debentures which had a carrying amount of approximately $8.3 million and $12.9 million at September 24, 2006 and September 25, 2005, respectively. The debentures have an effective yield to maturity of 5 percent and a scheduled maturity date of March 2, 2018. The debentures are convertible at the option of the holder, at any time on or prior to maturity, unless previously redeemed or otherwise purchased. The debentures may be redeemed at the option of the holder on March 2, 2008 or March 2, 2013 at the issue price plus accrued original discount to the date of redemption. Subject to certain limitations, at our option, we may elect to pay this purchase price in cash, shares of common stock or any combination thereof. The debentures may also be redeemed in cash at the option of the holder if there is a change in control at the issue price plus accrued original discount to the date of redemption. The Company may redeem the debentures for cash, in whole or in part, at redemption prices equal to the issue price plus accrued original discount to the date of redemption. The debentures are subordinated in the right of payment to all existing and future senior indebtedness. The debentures have a conversion rate of 21.280 shares of Company common stock per $1,000 principal amount at maturity, or approximately 311,000 shares and 505,000 shares at September 24, 2006 and September 25, 2005, respectively. Approximately $5.0 million and $150.1 million of the carrying amount of the debentures were voluntarily converted by holders to shares of Company common stock during fiscal years 2006 and 2005, respectively.
We also had outstanding senior unsecured notes that bear interest at 7.29% payable quarterly with a carrying amount of approximately $5.7 million at September 25, 2005. The Company made the final principal payment totaling approximately $5.7 million to retire its senior notes on May 16, 2006.
(8) Leases
The Company is committed under certain capital leases for rental of equipment and certain operating leases for rental of facilities and equipment. These leases expire or become subject to renewal clauses at various dates from 2006 to 2038. Amortization of equipment under capital lease is included with depreciation expense.

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Rental expense charged to operations under operating leases for fiscal years 2006, 2005 and 2004 totaled approximately $153.1 million, $124.8 million and $99.9 million, respectively. Minimum rental commitments required by all non-cancelable leases are approximately as follows (in thousands):
		Capital			Operating
2007		$	58		$	162,827
2008			93			227,490
2009			89			247,284
2010			74			246,028
2011			39			243,331
Future fiscal years			25			3,636,926

			378		$	4,763,886

Less amounts representing interest			43

Net present value of capital lease obligations			335
Less current installments			49

Long-term capital lease obligations, less current installments		$	286

During fiscal years 2006, 2005 and 2004, we paid contingent rentals totaling approximately $9.6 million, $7.6 million and $4.8 million, respectively. No asset retirement obligations have been incurred associated with operating leases. Sublease rental income totaled approximately $1.6 million, $1.3 million and $1.4 million during fiscal years 2006, 2005 and 2004, respectively. John Mackey and Glenda Chamberlain, executive officers of the Company, own approximately 51% and 2%, respectively, of BookPeople, Inc., a retailer of books and periodicals that is unaffiliated with the Company, which leases retail space in Austin, Texas from the Company. The lease provides for an aggregate annual minimum rent of approximately $0.4 million which the Company received in rental income in fiscal years 2006, 2005 and 2004.
(9) Income Taxes
Components of income tax expense are as follows (in thousands):
		2006				2005				2004
Current federal income tax		$	120,774			$	106,087			$	70,750
Current state income tax			30,632				22,568				16,272

Total current tax			151,406				128,655				87,022

Deferred federal income tax			(13,350	)			(22,462	)			284
Deferred state income tax			(2,171	)			(5,411	)			(965	)

Total deferred income tax			(15,521	)			(27,873	)			(681	)

Total income tax expense		$	135,885			$	100,782			$	86,341

Actual income tax expense differed from the amount computed by applying statutory corporate income tax rates to income before income taxes as follows (in thousands):
		2006				2005				2004
Federal income tax based on statutory rates		$	118,900			$	82,997			$	75,548
Increase (reduction) in income taxes resulting from:
Change in valuation allowance			(31	)			1,639				2,310
Tax exempt interest			(1,352	)			—				—
Share-based compensation			(462	)			3,310				—
Deductible state income taxes			(9,962	)			(6,005	)			(5,357	)
Other, net			331				1,684				(1,467	)

Total federal income taxes			107,424				83,625				71,034
State income taxes			28,461				17,157				15,307

Total income tax expense		$	135,885			$	100,782			$	86,341


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Current income taxes payable as of September 24, 2006 and September 25, 2005 totaled approximately $27.2 million and $5.2 million, respectively. The tax effects of temporary differences that give rise to significant portions of the deferred tax assets and deferred tax liabilities are as follows (in thousands):
		2006				2005
Deferred tax assets:
Compensation-related costs		$	43,303			$	34,009
Insurance-related costs			16,889				14,380
Inventories			—				2,879
Lease and other termination accruals			18				359
Rent differential			41,717				31,434
Net domestic and international operating loss carryforwards			10,461				16,606
Capital loss carryforwards			2,810				7,231

Gross deferred tax assets			115,198				106,898
Valuation allowance			(13,271	)			(17,364	)

			101,927				89,534

Deferred tax liabilities:
Financial basis of fixed assets in excess of tax basis			(21,858	)			(24,673	)
Inventories			(313	)			—
Capitalized costs expensed for tax purposes			(1,290	)			(1,841	)
Other			(905	)			(980	)

			(24,366	)			(27,494	)

Net deferred tax asset		$	77,561			$	62,040

Deferred taxes have been classified on the consolidated balance sheets as follows:
		2006				2005
Current assets		$	48,149			$	39,588
Noncurrent assets			29,412				22,452

Net deferred tax asset		$	77,561			$	62,040

As of September 24, 2006, we had international operating loss carryforwards totaling approximately $32.5 million, of which approximately $11.8 million will begin to expire in fiscal year 2008 and approximately $20.7 million has an indefinite life. During fiscal year 2006, approximately $31,000 of the valuation allowance related to the utilization of certain operating and capital loss carryforwards was released. Additionally, the valuation allowance decreased by approximately $4.1 million due to the expiration of capital loss carryforwards for which no benefit was realized. We have provided a valuation allowance of approximately $13.3 million for deferred tax assets associated with international operating loss carryforwards and domestic capital loss carryforwards for which management has determined it is more likely than not that the deferred tax asset will not be realized. Management believes that it is more likely than not that we will fully realize the remaining domestic deferred tax assets in the form of future tax deductions based on the nature of these deductible temporary differences and a history of profitable operations.
(10) Investments
We had short-term cash equivalent investments totaling approximately $10.1 million and $325.7 million at September 24, 2006 and September 25, 2005, respectively.
As of September 24, 2006, we also had short-term available-for-sale securities, generally consisting of state and local government obligations totaling approximately $193.8 million. Gross unrealized gains on the securities totals approximately $77,000 as of September 24, 2006.

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(11) Shareholders’ Equity
Dividends
The Company’s Board of Directors approved the following dividends during fiscal years 2006 and 2005 (in thousands, except per share amounts):
Date of Declaration		Dividend			Date of Record		Date of Payment		Total
		per Share							Amount
Fiscal year 2006:
November 9, 2005		$	0.15		January 13, 2006		January 23, 2006		$	20,918
November 9, 2005			2		13-Jan-06		23-Jan-06			277,904
March 6, 2006			0.15		14-Apr-06		24-Apr-06			21,004
June 13, 2006			0.15		14-Jul-06		24-Jul-06			21,186
Fiscal year 2005:
November 10, 2004		$	0.1		7-Jan-05		17-Jan-05		$	12,088
April 5, 2005			0.13		15-Apr-05		25-Apr-05			16,345
June 7, 2005			0.13		15-Jul-05		25-Jul-05			16,834
September 14, 2005			0.13		October 14, 2005		October 24, 2005			17,063
On September 27, 2006, the Company’s Board of Directors approved a quarterly dividend of $0.15 per share that was paid on October 23, 2006 to shareholders of record on October 13, 2006. On November 2, 2006, the Company’s Board of Directors approved a 20% increase in the Company’s quarterly dividend to $0.18 per share payable on January 22, 2007 to shareholders of record on January 12, 2007. The Company will pay future dividends at the discretion of the Board of Directors. The continuation of these payments, the amount of such dividends, and the form in which the dividends are paid (cash or stock) depend on many factors, including the results of operations and the financial condition of the Company. Subject to these qualifications, the Company currently expects to pay dividends on a quarterly basis.
On November 9, 2005, the Company’s Board of Directors approved a two-for-one stock split to be distributed on December 27, 2005 to shareholders of record at the close of business on December 12, 2005. The stock split was effected in the form of a stock dividend. Shareholders received one additional share of Whole Foods Market common stock for each share owned. All share and per share amounts in these financial statements have been adjusted to reflect the effect of the stock split. All shares reserved for issuance pursuant to the Company’s stock option and stock purchase plans were automatically increased by the same proportion. In addition, shares subject to outstanding options or other rights to acquire the Company’s stock and the exercise price for such shares were adjusted proportionately.
Treasury Stock
On November 8, 2005, the Company’s Board of Directors approved a stock repurchase program of up to $200 million over the next four years. During the fourth quarter of fiscal year 2006, the Company repurchased on the open market approximately 2.0 million shares of Company common stock that were held in treasury at September 24, 2006. The average price per share paid was $49.85, for a total of approximately $100 million. At September 25, 2005, we had no shares of Company common stock in treasury.
On November 6, 2006, the Company’s Board of Directors approved a $100 million increase in the Company’s stock repurchase program, bringing the total remaining authorization to $200 million over the next three years. The specific timing and repurchase amounts will vary based on market conditions, securities law limitations and other factors and will be made using the Company’s available cash resources and line of credit availability. The repurchase program may be suspended or discontinued at any time without prior notice.
(12) Earnings per Share
The computation of basic earnings per share is based on the number of weighted average common shares outstanding during the period. The computation of diluted earnings per share includes the dilutive effect of common stock equivalents consisting of common shares deemed outstanding from the assumed exercise of stock options and the assumed conversion of zero coupon convertible subordinated debentures.

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A reconciliation of the numerators and denominators of the basic and diluted earnings per share calculations follows (in thousands, except per share amounts):
		2006			2005			2004
Net income (numerator for basic earnings per share)		$	203,828		$	136,351		$	129,512
Interest on 5% zero coupon convertible subordinated debentures, net of income taxes			283			2,539			4,697

Adjusted net income (numerator for diluted earnings per share)		$	204,111		$	138,890		$	134,209

Weighted average common shares outstanding (denominator for basic earnings per share)			139,328			130,090			122,648

Potential common shares outstanding:
Assumed conversion of 5% zero coupon convertible subordinated debentures			363			3,414			6,562
Assumed exercise of stock options			5,391			6,446			6,244

Weighted average common shares outstanding and potential additional common shares outstanding (denominator for diluted earnings per share)			145,082			139,950			135,454

Basic earnings per share		$	1.46		$	1.05		$	1.06

Diluted earnings per share		$	1.41		$	0.99		$	0.99

The computation of diluted earnings per share does not include options to purchase approximately 4.3 million, 158,000 shares and 6,000 shares of common stock at the end of fiscal years 2006, 2005 and 2004, respectively, due to their antidilutive effect.
(13) Share-Based Compensation
Total share-based compensation expense recognized during fiscal year 2006 and fiscal year 2005 was approximately $9.4 million and $19.9 million, respectively. Of these totals, approximately $3.6 million and $10.1 million was included in “Direct store expenses”, $5.5 million and $8.6 million was included in “General and administrative expenses”, and $0.3 million and $1.2 million was included in “Cost of goods sold and occupancy costs” in the Consolidated Statements of Operations in fiscal year 2006 and fiscal year 2005, respectively. The related total tax benefit was approximately $2.7 million and $4.5 million in fiscal year 2006 and fiscal year 2005, respectively. Our Company maintains several share-based incentive plans.
Stock Option Plan
We grant options to purchase common stock under our 1992 Stock Option Plans, as amended. Under these plans, options are granted at an option price equal to the market value of the stock at the grant date and are generally exercisable ratably over a four-year period beginning one year from grant date. Options granted in fiscal year 2006 expire five years from the date of grant and options granted in fiscal years 2005 and 2004 expire seven years from date of grant. Certain options granted during fiscal year 2005 were granted fully vested. Our Company has, in connection with certain of our business combinations, assumed the stock option plans of the acquired companies. All options outstanding under our Company’s previous plans and plans assumed in business combinations continue to be governed by the terms and conditions of those grants. The market value of the stock is determined as the closing stock price at the grant date. At September 24, 2006, September 25, 2005 and September 26, 2004 approximately 6.5 million, 7.7 million and 11.2 million shares of our common stock, respectively, were available for future stock option grants.

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The following table summarizes option activity (in thousands, except per share amounts):
		Number			Weighted			Weighted		Aggregate
		of Options			Average			Average		Intrinsic
		Outstanding			Exercise Price			Remaining		Value
								Contractual Life
Outstanding options September 28, 2003		15,728			$	17.53
Options granted		5,240				39.54
Options exercised		(4,154	)			14.13
Options expired		(674	)			23.9

Outstanding options at September 26, 2004		16,140			$	25.69
Options granted		12,112				59.82
Options exercised		(4,996	)			21.64
Options expired		(711	)			37.33

Outstanding options at September 25, 2005		22,545			$	44.58
Options granted		1,444				69
Options exercised		(5,466	)			36
Options expired		(202	)			56.57
Options forfeited		(46	)			64.52

Outstanding options at September 24, 2006		18,275			$	48.82		4.74		$	243,726

Vested/expected to vest at September 24, 2006		18,031			$	48.55		4.75		$	243,691

Exercisable options at September 24, 2006		16,551			$	47.11		4.75		$	239,831

The weighted average fair values of options granted during fiscal years 2006, 2005 and 2004 were $17.04, $15.19 and $14.69, respectively. The aggregate intrinsic value of stock options at exercise, represented in the table above, was approximately $180.0 million during fiscal year 2006. Total gross unrecognized share-based compensation expense related to nonvested stock options was approximately $25.2 million as of the end of fiscal year 2006, related to approximately 1.5 million shares. We anticipate this expense to be recognized over a weighted average period of approximately two years.
A summary of options outstanding and exercisable at September 24, 2006 follows (share amounts in thousands):
							Options Outstanding					Options Exercisable
Range of					Number		Weighted Average		Weighted			Number		Weighted
Exercise Prices							Remaining		Average					Average
From		To			Outstanding		Life (in Years)		Exercise Price			Exercisable		Exercise Price
$10.47		$	20.48		1,554		1.19		$	11.38		1,554		$	11.38
21.76			38.31		2,721		3.17			26.16		2,683			26.13
39.61			39.61		2,632		4.61			39.61		2,596			39.61
41.05			54.17		4,753		5.57			53.56		4,588			53.77
54.75			66.81		5,206		5.97			66.69		5,130			66.74
68.96			73.14		1,409		4.62			69		—			n/a
Total					18,275		4.74		$	48.82		16,551		$	47.11
Share-based compensation expense related to vesting stock options recognized during fiscal year 2006 totaled approximately $4.6 million.
During fiscal year 2005, the Company accelerated the vesting of all outstanding stock options, except options held by the members of the executive team and certain options held by team members in the United Kingdom, in order to prevent past option grants from having an impact on future results. The Company recognized a share-based compensation charge totaling approximately $17.4 million related to this acceleration, which was determined by measuring the intrinsic value on the date of the acceleration for all options that would have expired in the future unexercisable had the acceleration not occurred. The calculation of this charge required that management make estimates and assumptions concerning future team member turnover. In the fourth quarter of fiscal year 2006 the Company recognized an additional $3.0 million share-based compensation charge related to this acceleration to adjust for actual experience. Additional adjustments in future periods may be necessary as actual results could differ from these estimates and assumptions.

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The Company also recognized share-based compensation totaling approximately $1.2 million and $2.5 million for modifications of terms of certain stock option grants and other compensation based on the intrinsic value of the Company’s common stock during fiscal years 2006 and 2005, respectively.
The fair value of stock option grants has been estimated at the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions:
		2006			2005			2004
Expected dividend yield		1.26	%		0.84	%		0.76	%
Risk-free interest rate		5.04	%		4.14	%		4.72	%
Expected volatility		29.4	%		48.3	%		49.48	%
Expected life, in years		3.22			2.1			3.3
Risk-free interest rate is based on the US treasury yield curve for a three and a half-year term and the seven-year zero coupon treasury bill rate on the dates of the annual grant in fiscal year 2006 and fiscal year 2005, respectively. Expected volatility is calculated using a ratio of implied volatility based on comparable Long-Term Equity Anticipation Securities (“LEAPS”) and four-year historical volatility for fiscal year 2006. The Company determined the use of implied volatility versus historical volatility represents a more accurate calculation of option fair value. In fiscal year 2005, expected volatility was calculated using the daily historical volatility over the last seven years. Expected life is calculated in two tranches based on weighted average percentage of unexpired options and exercise-after-vesting information over the last five years, in fiscal year 2006. During fiscal year 2005, expected life was calculated in five salary tranches based on weighted average exercise-after-vesting information over the last seven years. The assumptions used to calculate the fair value of options granted are evaluated and revised, as necessary, to reflect market conditions and experience.
Prior to the effective date of revised Statement of Financial Accounting Standards (“SFAS”) No. 123R, “Share-Based Payment,” the Company applied Accounting Principles Board Opinion No. 25 (“APB No. 25”), “Accounting for Stock Issued to Employees” and related interpretations for our stock option grants. APB No. 25 provides that the compensation expense relative to our team member stock options is measured based on the intrinsic value of the stock option at date of grant.
In accordance with SFAS No. 123R, the Company adopted the provisions of SFAS No. 123R in the first quarter of fiscal year 2006 using the modified prospective approach. Under this method, prior periods are not restated. As a result of adoption, the Company’s income before income taxes and net income for fiscal year 2006, are $6.4 million and $3.8 million lower, respectively, than if we had continued to account for share-based compensation under APB No. 25. Basic and diluted earnings per share for fiscal year 2006 are $0.03 lower than if we had continued to account for share-based compensation under APB No. 25. Had we previously recognized compensation costs as prescribed by SFAS No. 123, previously reported net income, basic earnings per share and diluted earnings per share would have changed to the pro forma amounts shown below (in thousands, except per share amounts):
		2005				2004
Reported net income		$	136,351			$	129,512
Share-based compensation expense, net of income taxes			15,309				—
Pro forma expense, net of income taxes			(179,616	)			(23,888	)

Pro forma net income (loss)		$	(27,956	)		$	105,624

Basic earnings per share:
Reported		$	1.05			$	1.06
Share-based compensation expense			0.12				—
Pro forma adjustment			(1.38	)			(0.20	)

Pro forma basic earnings (loss) per share		$	(0.21	)		$	0.86

Diluted earnings per share:
Reported		$	0.99			$	0.99
Share-based compensation expense			0.12				—
Pro forma adjustment			(1.31	)			(0.17	)

Pro forma diluted earnings (loss) per share		$	(0.20	)		$	0.82

Pro forma disclosures for fiscal year 2006 are not presented because the amounts are recognized in the Consolidated Statement of Operations.

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Team Member Stock Purchase Plan
Our Company also offers a team member stock purchase plan to all full-time team members with a minimum of 400 hours of service. Under this plan, participating team members may purchase our common stock each fiscal quarter through payroll deductions. Participants in the stock purchase plan may elect to purchase unrestricted shares at 100 percent of market value or restricted shares at 85 percent of market value on the purchase date. Participants are required to hold restricted shares for two years before selling them. In fiscal year 2006, we recognized approximately $0.6 million of share-based compensation expense related to team member stock purchase plan discounts. We issued approximately 51,000, 40,000 and 32,000 shares under this plan in fiscal years 2006, 2005 and 2004, respectively. At September 24, 2006, September 25, 2005 and September 26, 2004 approximately 369,000, 420,000, and 460,000 shares of our common stock, respectively, were available for future issuance.
(14) Team Member 401(k) Plan
Our Company offers a team member 401(k) plan to all team members with a minimum of 1,000 services hours in one year. In fiscal years 2006 and 2005, the Company made a matching contribution to the plan of approximately $2.3 million in cash. The Company did not make a matching contribution to the plan in fiscal year 2004.
(15) Quarterly Results (unaudited)
The Company’s first quarter consists of 16 weeks, and the second, third and fourth quarters consist of 12 weeks. Because the first quarter is longer than the remaining quarters, it typically represents a larger share of our annual sales from existing stores. Quarter to quarter comparisons of results of operations have been and may be materially impacted by the timing of new store openings. The Company believes that the following information reflects all normal recurring adjustments necessary for a fair presentation of the information for the periods presented. The operating results for any quarter are not necessarily indicative of results for any future period.
The Company accelerated the vesting of all outstanding stock options on September 22, 2005 in order to prevent past option grants from having an impact on future results. The Company incurred a share-based compensation charge totaling approximately $18.2 million in the fourth quarter of fiscal year 2005, primarily a non-cash charge related to this accelerated vesting of options. The Company’s effective tax rate for the fourth quarter and fiscal year 2005 was higher than its historical rate primarily due to the non-deductible portion of the expense recognized for the accelerated vesting of stock options. In the fourth quarter of fiscal year 2006, the Company recorded additional $3.0 million non-cash share-based compensation charge to adjust the estimate related to accelerated vesting for actual experience.
The Company has two stores in the New Orleans area which were damaged by and closed due to Hurricane Katrina during the fourth quarter of fiscal year 2005, and accordingly the Company recorded expenses totaling approximately $16.5 million for related estimated net losses.

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The following tables set forth selected quarterly unaudited consolidated statements of operations information for the fiscal years ended September 24, 2006 and September 25, 2005 (in thousands except per share amounts):
		First				Second				Third				Fourth
		Quarter				Quarter				Quarter				Quarter
Fiscal Year 2006
Sales		$	1,666,953			$	1,311,520			$	1,337,886			$	1,291,017
Cost of goods sold and occupancy costs			1,092,018				848,020				866,260				841,436

Gross profit			574,935				463,500				471,626				449,581
Direct store expenses			424,438				330,470				335,555				331,505
General and administrative expenses			50,889				43,421				43,955				42,979
Pre-opening and relocation costs			8,491				7,324				7,860				13,746

Operating income			91,117				82,285				84,256				61,351
Other income (expense)
Interest expense			(3	)			—				(8	)			(21	)
Investment and other income			6,082				4,068				5,581				5,005

Income before income taxes			97,196				86,353				89,829				66,335
Provision for income taxes			38,878				34,542				35,931				26,534

Net income		$	58,318			$	51,811			$	53,898			$	39,801

Basic earnings per share		$	0.42			$	0.37			$	0.38			$	0.29

Diluted earnings per share		$	0.4			$	0.36			$	0.37			$	0.28

Dividends declared per share		$	2.15			$	0.15			$	0.15			$	—

		First				Second				Third				Fourth
		Quarter				Quarter				Quarter				Quarter
Fiscal Year 2005
Sales		$	1,368,328			$	1,085,158			$	1,132,736			$	1,115,067
Cost of goods sold and occupancy costs			895,486				697,686				733,931				725,081

Gross profit			472,842				387,472				398,805				389,986
Direct store expenses			348,380				276,313				285,804				312,976
General and administrative expenses			40,401				34,773				39,618				44,072
Pre-opening and relocation costs			6,599				10,265				8,777				11,394

Operating income			77,462				66,121				64,606				21,544
Other income (expense)
Interest expense			(1,708	)			(342	)			(163	)			(10	)
Investment and other income			1,194				2,113				2,868				3,448

Income before income taxes			76,948				67,892				67,311				24,982
Provision for income taxes			30,778				27,158				26,924				15,922

Net income		$	46,170			$	40,734			$	40,387			$	9,060

Basic earnings per share		$	0.37			$	0.31			$	0.31			$	0.07

Diluted earnings per share		$	0.34			$	0.29			$	0.29			$	0.06

Dividends declared per share		$	0.1			$	0.13			$	0.13			$	0.13

(15) Commitments and Contingencies
The Company uses a combination of insurance and self-insurance plans to provide for the potential liabilities for workers’ compensation, general liability, property insurance, director and officers’ liability insurance, vehicle liability and employee health care benefits. Liabilities associated with the risks that are retained by the Company are estimated, in part, by considering historical claims experience, demographic factors, severity factors and other actuarial assumptions. While we believe that our assumptions are appropriate, the estimated accruals for these liabilities could be significantly affected if future occurrences and claims differ from these assumptions and historical trends.
From time to time we are a party to legal proceedings including matters involving personnel and employment issues, personal injury, intellectual property and other proceedings arising in the ordinary course of business which have not resulted in any material losses to date. Although not currently anticipated by management, our results could be materially impacted by the decisions and expenses related to pending or future proceedings.
The Company has entered into Retention Agreements with certain executive officers of the Company or its subsidiaries which provide for certain benefits upon an involuntary termination of employment other than for cause after a “Triggering Event.” A Triggering Event includes a merger of the Company with and into an unaffiliated corporation if the Company is not the surviving corporation or the sale of all or substantially all of the Company’s assets. The benefits to be received by the executive officer whose employment is terminated after a Triggering Event occurs include receipt of his or her annual salary through the one-year period following the date of the termination of employment and the immediate vesting of any outstanding stock options granted to such executive officer.

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Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure.
None.
Item 9A. Controls and Procedures.
Evaluation of Disclosure Controls and Procedures
The Company’s management, with the participation of the Company’s Chief Executive Officer and Chief Financial Officer, has evaluated the effectiveness of the Company’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the “Exchange Act”)) as of the end of the period covered by this report. Based on such evaluation, the Company’s Chief Executive Officer and Chief Financial Officer have concluded that, as of the end of such period, the Company’s disclosure controls and procedures are effective in recording, processing, summarizing and reporting, on a timely basis, information required to be disclosed by the Company in the reports that it files or submits under the Exchange Act.
Changes in Internal Control over Financial Reporting
There have been no changes in the Company’s internal control over financial reporting (as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act) during the most recent fiscal quarter that have materially affected, or are reasonably likely to materially affect, the Company’s internal control over financial reporting.
Management’s Report on Internal Control over Financial Reporting
The Company’s management is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) under the Exchange Act. Under the supervision and with the participation of the Company’s management, including our principal executive officer and principal financial officer, the Company conducted an evaluation of the effectiveness of its internal control over financial reporting based on criteria established in the framework in Internal Control – Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission. Based on this evaluation, the Company’s management concluded that its internal control over financial reporting was effective as of September 24, 2006.
The Company’s independent registered public accounting firm, Ernst & Young LLP, audited management’s assessment of internal control over financial reporting and also independently assessed the effectiveness of our internal control over financial reporting. Ernst & Young LLP has issued their attestation report which is included in Part II, Item 8 of this Report on Form 10-K.
Item 9B. Other Information.
Not applicable.

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PART III
Item 10. Directors and Executive Officers of the Registrant.
The information required by this item about our Company’s Executive Officers is included in Part I, “Item 1. Business” of this Report on Form 10-K under the caption “Executive Officers of the Registrant.” All other information required by this item is incorporated herein by reference from the registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders to be held March 5, 2007 to be filed with the Commission pursuant to Regulation 14A.
The Company has adopted a Code of Conduct and Ethics for Team Members and Directors pursuant to section 406 of the Sarbanes-Oxley Act. A copy of our Code of Conduct and Ethics is publicly available on our Company website at http://www.wholefoodsmarket.com/investor/corporategovernance/codeofconduct.pdf. The information contained on our Web site is not incorporated by reference into this Report on Form 10-K.
Item 11. Executive Compensation.
The information required by this item is incorporated herein by reference from the registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
The information required by this item about our Company’s securities authorized for issuance under equity compensation plans as of September 24, 2006 is included in Part I, “Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities” of this Report on Form 10-K. All other information required by this item is incorporated herein by reference from the registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders.
Item 13. Certain Relationships and Related Transactions.
The information required by this item is incorporated herein by reference from the registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders.
Item 14. Principal Accounting Fees and Services.
The information required by this item is incorporated herein by reference from the registrant’s definitive Proxy Statement for the Annual Meeting of Shareholders.

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Ratios

	Ratio Analysis
***	Ratios also allow for better comparison through time, between companies that of different sizes or have different currencies
	Ratios are used both internally and externally
***	Ratios are computed differently by different people
	The ones we see in this book are only one of many possible ways to compute them!
	Hints About Financial Ratios
	In calculating any ratio, we mean the ratio of one thing to something else
	When we write the ratio as a fraction, we put the of part in the numerator and the to part in the denominator
	Example:
	Current ratio: find the ratio of current assets to current liabilities
	(Current Assets)/(Current Liabilities) = $45,000/$30,000 = 1.5
	If you keep the unit of measure (dollars) in both the numerator and denominator, the answer will hint at what the ratio means
***	(Current Assets)/(Current Liabilities) = $45,000/$30,000 = $1.50/$1.00
	In this case the ratio indicates that for every $1.00 of current liabilities, there is $1.50 worth of current assets to use to pay off the current liabilities
	In general, this trick can be used with all ratios
	Who uses them? Why we might be interested?
	Stock analysts
	Should I buy/sell this stock?
	Auditors
	Are the financial statements free from material misstatement?
	Internal Managers
	How is the firm doing?
	Investors
	Should I sell/buy this stock?
	Banks
	Will the borrower be able to pay back the loan?
	Basically: almost everyone
	Questions To Ask When You Use Ratios:
	How is it computed?!
	Not everyone agrees about how to calculate a given ratio
	What is it intended to measure and why might we be interested?
	What is the unit of measure?
	What might a high or low value be telling us?
	How might such values be misleading?
	Accounting behind the numbers…?
	Does a low CA/CL mean trouble for a large firm?
	How could the measure be improved?

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LiquidityR

Liquidity Ratios

Liquidity = How quickly an asset can be converted to cash

Bankers, Auditors, Managers, Employees, Investors, and everyone else needs to know if they have cash in the short-term

Current Ratio = CA/CL

Measure of short term liquidity

Example: $2/$1 = $2 CA for every $1 of CL

If you were to sell all CA and pay off all CL, you would have $2 for every $1 of CL

Above 1, in general is good

Less than 1, in general is not so good

High ==> could mean firm saving up cash to make acquisition, or it could mean that they do not see profitable fixed assets to purchase

Low ==> could mean that they may have a hard time paying short-term debt

CA/CL is often used in debt contracts as indicator of short term liquidity

If you incur long-term debt, CA↑/CL, (CA/CL) ↑

If you pay off short-term creditors: 5/2 = 2.5 → (5-1)/(2-1) = 4/1 = 4

Firms may do these things before the report their numbers at the end of the period

An apparent low CA/CL may not be bad for a company with a large reserve of untapped borrowing power

Firm buys inventory with $, CA/CL stays same

Firm sells inventory for more than they have it on the books for, (CA/CL) ↑

Quick Ratio = (CA-INV)/CL = (Quick Assets)/CL

Measure of immediate short-term liquidity

Why take out inventory?

Inventory may not be at market value

May be hard to sell

May be obsolete

Using cash to buy inventory reduces the Quick Ratio

People who are interested in whether firm can pay bills or purchase assets in the short term may use this ratio:

Creditors, internal managers, investors

Cash Ratio = Cash/CL

Do we even need to define this?

Summary:

Current Ratio = CA/CL

Quick Ratio = (CA-INV)/CL

Cash Ratio = Cash/CL

What does it mean when these ratios are greater than 1? A: More CA than CL

What does it mean when these ratios are less than 1? A: More CL than CA

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LeverageR (1)

Leverage, Or Long-term Solvency Ratios

Capital Structure = Relationship Between Debt & Equity

A = L + E

10 = 2 + 8

Solvency = “the position of having enough money to cover expenses and debts”

Banks, Investors look at these ratios

Variables:

Equity = TE = E

Liability = Debt = TL = D

Assets = TA = A

Total Debt Ratio

Total Debt Ratio = TL/TA = (TA–TE)/TA

Amount of debt for every $1 of assets

How much of every $1 of assets is financed with debt

Debt/Equity Ratio

Debt/Equity Ratio = TL/TE = D/E

Amount of debt for every $1 of equity

Equity Multiplier = Leverage = TA/TE = (1+D/E)

For every $1 of equity how many dollars of assets are there

Shows us the amount of leverage

Times Interest Earned Ratio =EBIT/Interest

How many times over interest can be paid

Who might be interested in this ratio? A: Creditors.

Cash Coverage Ratio = (EBIT+Depr.)/Interest =EBDIT/Interest

One possible measure of cash flow to meet financial obligations

If the company has a great deal of non-cash deprecation expense, then it makes sense to use this one

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LeverageR (2)

TL/TA

TL/TE

TA/TE

Same Capital Structure

0.20

2/10

then ==>

2/(10-2)

2/8

0.25

then ==>

10/8

1.25

Same Capital Structure

0.25

2.5/10

then ==>

2.5/(10-2.5)

2.5/7.5

0.33

then ==>

10/7.5

1.3333333333

Same Capital Structure

0.50

5/10

then ==>

5/(10-5)

then ==>

Same Capital Structure

0.80

8/10

then ==>

8/(10-8)

then ==>

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EfficencyR

Turnover or Efficiency Ratios	COGS	$5,000.00	Sales	$10,000.00	COGS	$5,600.00
Measures how efficently we manage our Inventory, Receivables, Assets, and Cash Cycle	INV.	$1,000.00	AR	$1,000.00	AP	$800.00
	COGS/INV.	5	Sales/AR	10	COGS/AP	7
Inventory Turnover =COGS/Inv.		365		365		365
Alternative = COGS/((Beg.Inv.+EndInv.)/2)	Days to sell	73	Days to collect	36.5	Days to pay	52
How many times we run inventory down to zero and then immediately restock
How many times did we buy and sell our inventory during the year	Operating Cycle = Days to sell + Days to collect = = 73 + 36.5 + 109.5
"As long as we are not running out of stock and foregoing sales, the higher the ratio, the more efficient we are at managing inventory"	Cash Cycle = Operating Cycle - Payables Period = 109.5 - Days to pay = 57.5
Example: COGS/Inv.=5,000/1,000 = 5
Days’ Sales In Inventory = 365/Inv. Turn	Operating cycle = days inventory sits + days to collect after selling
How long inventory sits before it is sold	Cash cycle = operating cycle – payables period
Example:
If Inv. Turn = 5
Days’ Sales In Inventory = 365days/5 = 73 days
Receivables Turnover = Sales/AR
Alternative = (Credit_Sales)/((Beg.AR+EndAR)/2)
How fast we collect our receivable
# of times we collect and reloan the $ per year
Example: 10,000/1,000 = 10
Days’ Sales In Receivables = 365/(Days’ Sales In Receivables)
Average time it takes to collect the AR
Example: 365days/10 = 36.5 days
Payables Turnover = COGS/AP
Example:
COGS/AP = 5,600/800 = 7
365 days/7 = 52 days to pay bill
Total Asset Turnover = Sales/TA
Alternative = (Total_Operating_Revenue)/((Beg.TA+EndTA)/2)
Measure of asset use efficiency
How many sales do we generate from $1 of assets
The higher, the better, or the more efficient
Sales/TA goes up, more efficient use of assets!
If a firm has newer assets that have not been depreciated, book value for assets may be high and may temporarily lower the ratio
Not unusual for TAT < 1, especially if a firm has a large amount of fixed assets
If firm has many old assets (fully depreciated), the Asset Turnover will be high, but not necessarily a good sign because it might have to use a lot of cash to buy new assets).
Capital Intensity = TA/Sales
For every $1 of sales how many $ of assets did it take to generate that $1

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ProfitabilityR

Profitability Ratios

Are we getting a good return?

Profit Margin = NI/Sales

For every $1 of sales, what is the profit?

Example: $60/$400 = .15

High PM corresponds to low expense ratios relative to sales

High PM:

Internal managers could be managing cost efficiently

Product/service could be superior to others and could thus demand a high price

Low Profit Margin may be fine if volume is high (SUCH AS Grocery Stores)

Return On Assets = NI/TA = ROA (also known as ROI (ROInvestment))

Profit per $1 of asset

ROA = NI/Sales*Sales/TA

ROA = Profit Margin*Asset Turnover = Operating Efficiency*Asset Use Efficiency

Return On Equity = ROE = NI/Equity

Return to shareholders

What is the profit per $1 of equity?

The key:

When there is no debt, ROE = ROA

When there is debt this should happen: ROE > ROA

Why? Because the assets must earn a return for both the creditors and owners

The more debt there is, the higher (ROE – ROA) must be!

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ROAandROE (1)

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Du Pont (1)

ROE	=	Profitability	x	Efficiency	x	Leverage
ROE	=	Operating efficiency		Asset Efficiency		Financial leverage
ROE	=	Profit Margin	x	Asset Turnover	x	Equity Multiplier
NI/Equity	=	NI/Sales	x	Sales/Assets	x	Assets/Equity
ROE	=	Profits generated from $1 of sales, are expenses being kept low?	x	Sales generated by $1 of assets, efficient utilization of assets?	x	For every $1 of owner investment, how many $ of assets were purchased?
ROE	=	NI/Assets	x	Assets/Equity
ROE	=	ROA	x	Equity Multiplier
ROE	=	ROA	x	(1 + D/E)
ROE	=	ROA	x	(1/(1-D/TA))
				"Leverage up" ROE by increasing the amount of debt

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ROA

ROE

Du Pont (2)

Assumptions
Year 1	1998
NI	200
Sales	6,000
Assets	2,000
Equity	1,000
NI/Equity =	20.00%
ROE =	20.00%
Year 2	1999
NI	200
Sales	5,600
Assets	2,400
Equity	1,400
NI/Equity =	14.29%
ROE =	14.29%
		1998 ROE = NI/Equity = $200/$1,000 = 20.00%
		1999 ROE = NI/Equity = $200/$1,400 = 14.29%
			ROE	=	Profitability	x	Efficiency	x	Leverage
			ROE	=	Profit Margin	x	Asset Turnover	x	Equity Multiplier
			NI/Equity	=	NI/Sales	x	Sales/Assets	x	Assets/Equity
			1998 ROE =20.00%	=	$200/$6,000	x	$6,000/$2,000	x	$2,000/$1,000
			20.00%	=	3.33%	x	3.00	x	2.00
			1999 ROE =14.29%	=	$200/$5,600	x	$5,600/$2,400	x	$2,400/$1,400
			14.29%	=	3.57%	x	2.33	x	1.71
			ROE went down, not because of a decrease in profitability of sales, but:
			Assets are used less efficiently to generate sales!
			Firm is less effective at leveraging stockholders' investment in the firm.
			In 1998 the financial managers were able to turn each $1 of invested funds into $2.00 of assets.
			In 1999 the financial managers only managed to turn $1 of equity into $1.71 of assets.

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MarketValueR

Market Value Ratios (For publicly traded companies)

Price-Earnings Ratio = (Market Price per Share)/EPS)

Note: EPS = NI/(# Shares Outstanding)

$ paid for $1 of earnings

“Surrogate for growth”

Market-To-Book Ratio (also known as Tobin's Q)

Note: Book Value per Share = TE/(# Shares Outstanding)

(Market Value per Share)/(Book Value per Share)

>1, stock market believes that firm is worth more than the book value of equity

<1, stock market believes that firm is worth less than the book value of equity

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GrowthR (1)

Firm Growth

In the long run if firm wants to increase Net Income, they must increase Sales, which in turn means they must buy more Assets

Assets cost $

The $ come from E, D, or Retained Earnings

Remember: Net Income gets divided up:

Paid out as dividends

Dividends/NI = Dividend payout rate = DPR

Kept as retained earnings

(Retained earnings)/NI = plowback rate = b

The internal growth rate tells us how much the firm can grow assets using retained earnings as the only source of financing

They won’t go issue new equity or debt

D/A will go down over time

Firm gets funds to buy assets from retained earnings

The sustainable growth rate tells us how much the firm can grow by using internally generated funds and issuing debt to maintain a constant debt ratio (issues no new equity)

Firm gets funds to buy assets from retained earnings and debt

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GrowthR (2)

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InternalSustainable Growth

Assumptions:		Q Corp			Q Corp			ROA*b	0.07517
Name	Q Corp	Balance Sheet ($ in millions)			Income Statement t ($ in millions)			(1-ROA*b)	0.92483
Year 1	12/31/02	As of December 31, 2002 and December 31, 2002			For The Year Ended December 31, 2002			ROAb/(1-ROAb)	0.08128
Year 2	12/31/03		2002	2003	Sales		$2,354	ROE*b	0.10558
Statements:	Balance Sheet ($ in millions)	Assets			COGS		1387	(1-ROE*b)	0.89442
Income Statement	Income Statement t ($ in millions)	Current assets			Depreciation		$276	ROEb/(1-ROEb)	0.11805
Tax rate	34%	Cash	$127	$141	EBIT		$691	ROA = $377/$3,760 =	0.1002287234
		Accounts receivable	208	231	Interest Paid		$120	ROE = $377/$2,677 =	0.1407769892
		Inventory	436	465	Taxable income		$571	Div. Payout Rate (DPR) = $94/$377 =	1/4
		Total current assets	$771	$837	Taxes (34%)		$194	b = $283/$377 =	3/4
		Fixed assets			Net Income		$377	SUM =	1
		Net plant and equipment	2774	2923	Dividends	$94		Internal Growth Rate = ROAb/(1-ROAb) =	0.08128
		Total assets	$3,545	$3,760	Addition to RE	$283		Sustainable Growth Rate = ROEb/(1-ROEb) =	0.11805
		Liabilities and Owners' Equity
		Current liabilities						ROA = $377/$3,760 =
		Accounts payable	355	387				ROE = $377/$2,677 =
		Notes payable	274	239
		Total current liabilities	$629	$626				Div. Payout Rate (DPR) = $94/$377 =
		Long-term debt	531	457				b = $283/$377 =
		Total liabilities	$1,160	$1,083				SUM =
		Owners' equity
		Common stock and paid-in surplus	543	593				Internal Growth Rate = ROAb/(1-ROAb) =
		Retained earnings	1842	2084				Sustainable Growth Rate = ROEb/(1-ROEb) =
		Total owners' equity	$2,385	$2,677
		Total liabilities and owners' equity	$3,545	$3,760

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Benchmarks

Choosing a Benchmark

Time trend:

Over time, have things changed?

Management by exception:

Directing attention to deviations

Peer group:

Firms that compete in the same markets

Have similar assets

Operate in similar ways

Standard Industrial Classification code = SIC page 69

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ROA*b

Internal Growth Rate

1 - ROA*b

ROA*bInternal Growth Rate 1 - ROA*b

ROE*b

Sustainable Growth Rate

1-ROE*b

ROE*bSustainable Growth Rate 1-ROE*b

calculate financial ratios and interpret against company history and industry benchmark

ListOfAllRatios

ratio

More Information ==>

WhyFS

ProblemsFS

WhyCommonSize

CommonSizeHow (an)

CommonSizeHow

WFMI SEC Financials

Ratios

LiquidityR

LeverageR (1)

LeverageR (2)

EfficencyR

ProfitabilityR

ROAandROE (1)

Du Pont (1)

Du Pont (2)

MarketValueR

GrowthR (1)

GrowthR (2)

InternalSustainable Growth

Benchmarks

MBD00FBC904.unknown

MBD00FBE11E.unknown