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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
x QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended June 30, 2017
OR
o TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission File Number 000-55409
qvclogoa08.jpg
QVC, Inc.
(Exact name of Registrant as specified in its charter)
State of Delaware
(State or other jurisdiction of
incorporation or organization)
23-2414041
(I.R.S. Employer Identification Number)
 
 
1200 Wilson Drive
West Chester, Pennsylvania
(Address of principal executive offices)
19380
(Zip Code)
Registrant's telephone number, including area code: (484) 701-1000
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required to file such reports) and (2) has been subject to such filing requirements for the past 90 days. Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes x No o
Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company" and "emerging growth company" in Rule 12b-2 of the Exchange Act.
Large accelerated filer o
Accelerated filer o
Non-accelerated filer x
Smaller reporting company o
Emerging growth company o
(do not check if smaller reporting company)
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. o
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
None of the voting stock of the registrant is held by a non-affiliate of the registrant. There is no publicly traded market for any class of voting stock of the registrant. There is one holder of record of the registrant's equity, Liberty QVC Holding, LLC, an indirect wholly-owned subsidiary of Liberty Interactive Corporation.
 



QVC, Inc.
2017 QUARTERLY REPORT ON FORM 10-Q


Table of Contents


 
Part I
Page
 
 
 
Item 1.
 
 
 
 
 
 
Item 2.
Item 3.
Item 4.
 
 
 
 
Part II
 
Item 1A.
Item 6.
 
 

Table of Contents



Item 1. Financial Statements
QVC, Inc.
Condensed Consolidated Balance Sheets
(unaudited)
 
June 30,

December 31,

(in millions, except share amounts)
2017

2016

Assets
 
 
Current assets:
 
 
Cash and cash equivalents
$
306

284

Restricted cash
11

10

Accounts receivable, less allowance for doubtful accounts of $89 at June 30, 2017 and $97 at December 31, 2016
839

1,246

Inventories
1,071

950

Prepaid expenses and other current assets
63

46

Total current assets
2,290

2,536

Property and equipment, net of accumulated depreciation of $1,109 at June 30, 2017 and $1,004 at December 31, 2016
1,002

1,031

Television distribution rights, net
111

183

Goodwill
5,046

4,995

Other intangible assets, net
2,637

2,738

Other noncurrent assets
60

62

Total assets
$
11,146

11,545

Liabilities and equity


Current liabilities:


Current portion of debt and capital lease obligations
$
16

14

Accounts payable-trade
618

678

Accrued liabilities
639

769

Total current liabilities
1,273

1,461

Long-term portion of debt and capital lease obligations
4,975

5,275

Deferred income taxes
743

778

Other long-term liabilities
136

136

Total liabilities
7,127

7,650

Equity:


QVC, Inc. stockholder's equity:


Common stock, $0.01 par value, 1 authorized share
—

—

Additional paid-in capital
6,862

6,851

Accumulated deficit
(2,800
)
(2,832
)
Accumulated other comprehensive loss
(146
)
(224
)
Total QVC, Inc. stockholder's equity
3,916

3,795

Noncontrolling interest
103

100

Total equity
4,019

3,895

Total liabilities and equity
$
11,146

11,545


See accompanying notes to condensed consolidated financial statements.

I-1
Table of Contents


QVC, Inc.
Condensed Consolidated Statements of Operations
(unaudited)
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

Net revenue
$
1,979

2,063

3,944

4,076

Cost of goods sold
1,230

1,285

2,473

2,565

Gross profit
749

778

1,471

1,511

Operating expenses:
 
 




Operating
137

146

274

288

Selling, general and administrative, including stock-based compensation
152

179

309

361

Depreciation
37

31

78

65

Amortization
117

115

233

229


443

471

894

943

Operating income
306

307

577

568

Other (expense) income:
 
 
 
 
Equity in losses of investee
(1
)
(1
)
(3
)
(2
)
Interest expense, net
(56
)
(54
)
(111
)
(107
)
Foreign currency (loss) gain
(8
)
20

(10
)
22


(65
)
(35
)
(124
)
(87
)
Income before income taxes
241

272

453

481

Income tax expense
(90
)
(104
)
(167
)
(180
)
Net income
151

168

286

301

Less net income attributable to the noncontrolling interest
(10
)
(11
)
(21
)
(19
)
Net income attributable to QVC, Inc. stockholder
$
141

157

265

282


See accompanying notes to condensed consolidated financial statements.

I-2
Table of Contents


QVC, Inc.
Condensed Consolidated Statements of Comprehensive Income
(unaudited)
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

Net income
$
151

168

286

301

Foreign currency translation adjustments, net of tax
55

5

82

39

Total comprehensive income
206

173

368

340

Comprehensive income attributable to noncontrolling interest
(8
)
(20
)
(25
)
(35
)
Comprehensive income attributable to QVC, Inc. stockholder
$
198

153

343

305


See accompanying notes to condensed consolidated financial statements.

I-3
Table of Contents


QVC, Inc.
Condensed Consolidated Statements of Cash Flows
(unaudited)
 
Six months ended June 30,
 
(in millions)
2017

2016

Operating activities:
 
 
Net income
$
286

301

Adjustments to reconcile net income to net cash provided by operating activities:




Equity in losses of investee
3

2

Deferred income taxes
(54
)
(37
)
Foreign currency loss (gain)
10

(22
)
Depreciation
78

65

Amortization
233

229

Change in fair value of financial instruments and noncash interest
3

3

Stock-based compensation
14

16

Change in other long-term liabilities
(1
)
(1
)
Effects of changes in working capital items
91

51

Net cash provided by operating activities
663

607

Investing activities:
 
 
Capital expenditures
(44
)
(98
)
Expenditures for television distribution rights
(29
)
(6
)
Changes in other noncurrent assets
(1
)
(2
)
Other investing activities
—

2

Net cash used in investing activities
(74
)
(104
)
Financing activities:
 
 
Principal payments of debt and capital lease obligations
(1,406
)
(923
)
Principal borrowings of debt from senior secured credit facility
1,094

778

Payment of debt origination fees
—

(2
)
Dividends paid to Liberty Interactive Corporation
(233
)
(323
)
Dividends paid to noncontrolling interest
(22
)
(21
)
Other financing activities
(9
)
(8
)
Net cash used in financing activities
(576
)
(499
)
Effect of foreign exchange rate changes on cash and cash equivalents
9

4

Net increase in cash and cash equivalents
22

8

Cash and cash equivalents, beginning of period
284

327

Cash and cash equivalents, end of period
$
306

335

Effects of changes in working capital items:
 
 
Decrease in accounts receivable
$
415

526

Increase in inventories
(105
)
(91
)
Increase in prepaid expenses and other current assets
(14
)
(19
)
Decrease in accounts payable-trade
(80
)
(129
)
Decrease in accrued liabilities and other
(125
)
(236
)
Effects of changes in working capital items
$
91

51


See accompanying notes to condensed consolidated financial statements.

I-4
Table of Contents


QVC, Inc.
Condensed Consolidated Statement of Equity
(unaudited)
 
Common stock
Additional paid-in capital

Accumulated deficit

Accumulated other
comprehensive loss

Noncontrolling interest

Total equity

(in millions, except share data)
Shares

Amount

Balance, December 31, 2016
1

$
—

6,851

(2,832
)
(224
)
100

3,895

Net income
—

—

—

265

—

21

286

Foreign currency translation adjustments, net of tax
—

—

—

—

78

4

82

Dividends paid to Liberty Interactive Corporation and noncontrolling interest and other
—

—

—

(233
)
—

(22
)
(255
)
Impact of tax liability allocation and indemnification agreement with Liberty Interactive Corporation
—

—

6

—

—

—

6

Withholding taxes on net share settlements of stock-based compensation
—

—

(9
)
—

—

—

(9
)
Stock-based compensation
—

—

14

—

—

—

14

Balance, June 30, 2017
1

$
—

6,862

(2,800
)
(146
)
103

4,019


See accompanying notes to condensed consolidated financial statements.

I-5
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements
(unaudited)


(1) Basis of Presentation
QVC, Inc. and its consolidated subsidiaries ("QVC" or the "Company") is a retailer of a wide range of consumer products, which are marketed and sold primarily by merchandise-focused televised shopping programs, the Internet and mobile applications.
In the United States ("U.S."), QVC's televised shopping programs, including live and recorded content, are broadcast across multiple channels nationally on a full-time basis, including QVC, QVC2 (f/k/a QVC Plus) and the recently launched Beauty iQ. The Company's U.S. programming is also available on QVC.com, QVC's U.S. website; mobile applications via streaming video; over-the-air broadcasters; and over-the-top content platforms (Roku, Apple TV, etc.).
QVC believes that the Company's digital platforms complement the Company's televised shopping programs by allowing consumers to purchase a wide assortment of goods offered on QVC's televised programs, as well as other products that are available only on the Company's digital platforms. The Company views e-commerce as a natural extension of the Company's business, allowing the Company to stream live video and offer on-demand video segments of items recently presented live on QVC's televised programs. The Company's digital platforms allow shoppers to browse, research, compare and perform targeted searches for products, control the order-entry process and conveniently access their QVC account.
QVC's international televised shopping programs, including live and recorded content, are distributed to households outside of the U.S., primarily in Germany, Austria, Japan, the United Kingdom ("U.K."), the Republic of Ireland, Italy and France. In some of the countries where QVC operates, QVC's televised shopping programs are broadcast across multiple QVC channels: QVC Beauty & Style and QVC Plus in Germany and QVC Beauty, QVC Extra, QVC Style and QVC +1 in the U.K. The programming created for most of these markets is also available via streaming video on QVC's digital platforms. QVC's international business employs product sourcing teams who select products tailored to the interests of each local market.
The Company's Japanese operations ("QVC-Japan") are conducted through a joint venture with Mitsui & Co., LTD ("Mitsui") for a television and multimedia retailing service in Japan. QVC-Japan is owned 60% by the Company and 40% by Mitsui. The Company and Mitsui share in all profits and losses based on their respective ownership interests. During the six months ended June 30, 2017 and 2016, QVC-Japan paid dividends to Mitsui of $22 million and $21 million, respectively.
The Company also has a joint venture with CNR Media Group, formerly known as China Broadcasting Corporation, a limited liability company owned by China National Radio (''CNR''). The Company owns a 49% interest in a CNR subsidiary, CNR Home Shopping Co., Ltd. (''CNRS''). CNRS operates a retail business in China through a shopping television channel with an associated website. This joint venture is accounted for as an equity method investment recorded as equity in losses of investee in the condensed consolidated statements of operations.
The Company is an indirect wholly-owned subsidiary of Liberty Interactive Corporation ("Liberty"), which owns interests in a broad range of digital commerce businesses, and is attributed to Liberty's QVC Group. The QVC Group common stock (Nasdaq: QVCA and QVCB) tracks the assets and liabilities of the QVC Group. The QVC Group tracks the Company, zulily, llc and Liberty's 38% equity interest in HSN, Inc. ("HSN"), one of the Company's two closest televised shopping competitors, cash and certain liabilities. On July 6, 2017, Liberty announced plans to acquire the remaining interest in HSN, Inc., which would make it a wholly-owned subsidiary of Liberty following the closing. On April 4, 2017, Liberty entered into an agreement with General Communications, Inc. ("GCI"), an Alaska corporation, and Liberty Interactive LLC, a Delaware limited liability company and a direct wholly-owned subsidiary of Liberty, whereby Liberty will acquire GCI through a reorganization in which certain assets and liabilities attributed to Liberty’s Ventures Group will be contributed to GCI in exchange for a controlling interest in GCI. Liberty will then effect a tax-free separation of its controlling interest in the combined company, leaving QVC Group common stock as the only outstanding common stock of Liberty. Neither the proposed transactions involving GCI nor the acquisition of HSN is conditioned on the completion of the other, and no assurance can be given as to which of these transactions will be completed first. The QVC Group does not represent a separate legal entity; rather, it represents those businesses, assets and liabilities that are attributed to that group.


I-6
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

On October 1, 2015, Liberty acquired all of the outstanding shares of zulily, inc. ("zulily") (now known as zulily, llc). zulily is an online retailer offering customers a fun and entertaining shopping experience with a fresh selection of new product styles launched each day for a limited time period. zulily is attributed to the QVC Group and the Company believes that its business is complementary to the Company. zulily is not part of the results of operations or financial position of QVC presented in these condensed consolidated financial statements. During each of the six months ended June 30, 2017 and 2016, QVC and zulily engaged in multiple transactions relating to sales, sourcing of merchandise, marketing initiatives, business advisory services and software development. The gross value of these transactions totaled approximately $5 million and $7 million, respectively, which did not have a material impact on QVC's financial position, results of operations, or liquidity.
On June 23, 2016, QVC amended and restated its senior secured credit facility (the "Third Amended and Restated Credit Agreement") increasing the revolving credit facility from $2.25 billion to $2.65 billion as explained further in note 6. The Third Amended and Restated Credit Agreement includes a $400 million tranche that may be borrowed by QVC or zulily. Under the terms of the Third Amended and Restated Credit Agreement, QVC and zulily are jointly and severally liable for all amounts borrowed on the $400 million tranche. In accordance with the accounting guidance for obligations resulting from joint and several liability arrangements, QVC will record a liability for amounts it has borrowed under the credit facility plus any additional amount it expects to repay on behalf of zulily. As of June 30, 2017, there was $320 million borrowed by zulily on the $400 million tranche of the Third Amended and Restated Credit Agreement, none of which the Company expects to repay on behalf of zulily.
The condensed consolidated financial statements include the accounts of QVC, Inc. and its majority-owned subsidiaries. All significant intercompany accounts and transactions were eliminated in consolidation.
The accompanying (a) condensed consolidated balance sheet as of December 31, 2016, which has been derived from audited financial statements, and (b) the interim unaudited condensed consolidated financial statements have been prepared in accordance with U.S. generally accepted accounting principles ("U.S. GAAP") for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X as promulgated by the Securities and Exchange Commission. Accordingly, they do not include all of the information and footnotes required by U.S. GAAP for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the results for such periods have been included. The results of operations for any interim period are not necessarily indicative of results for the full year. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes thereto contained in QVC's Annual Report on Form 10-K for the year ended December 31, 2016.
The preparation of financial statements in conformity with U.S. GAAP requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Estimates include, but are not limited to, sales returns, uncollectible receivables, inventory obsolescence, depreciable lives of fixed assets, internally-developed software, valuation of acquired intangible assets and goodwill, income taxes and stock‑based compensation.


I-7
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

On May 28, 2014, the Financial Accounting Standards Board (the "FASB") issued Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. This new guidance also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. In March 2016, the FASB issued ASU No. 2016-08, Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which clarifies principal versus agent considerations, in April 2016, the FASB issued ASU No. 2016-10, Identifying Performance Obligations and Licensing, which clarifies the identification of performance obligations and the implementation guidance for licensing, and in May 2016, the FASB issued ASU No. 2016-12, Narrow-Scope Improvements and Practical Expedients, which clarifies assessing collectibility, presentation of sales taxes, noncash consideration, and completed contracts and contract modifications at transition. The updated guidance will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective and permits the use of either a full retrospective or modified retrospective transition method. This guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, and early adoption is permitted only for fiscal years beginning after December 15, 2016. The Company has reviewed the applicable ASU and has selected the modified retrospective transition method. At the current time, the Company has not quantified the effects of this pronouncement, but it is working through the relevant aspects to evaluate the quantitative effects of the new guidance. However, the Company expects to elect the practical expedient to not adjust the promised amount of consideration for the effects of a significant financing component when its payment terms are less than one year. The Company plans to be able to quantify the effects of these ASUs no later than the fourth quarter of 2017. The Company is currently assessing the presentation and financial disclosures to evaluate the impact of the amended guidance on the Company's existing revenue recognition policies and procedures. The Company will continue to provide updates as to the progress of the Company's evaluation in its quarterly reports during 2017.
In July 2015, the FASB issued ASU No. 2015-11, Simplifying the Measurement of Inventory, which changes the measurement principle for inventory from the lower of cost or market to lower of cost and net realizable value. The new principle is part of the FASB’s simplification initiative and applies to entities that measure inventory using a method other than last-in, first-out (LIFO) or the retail inventory method. The Company has adopted this guidance as of January 1, 2017, and there was no significant effect of the standard on its financial reporting.
In January 2016, the FASB issued ASU No. 2016-01, Financial Statements - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, which requires equity investments with readily determinable fair values (except those accounted for under the equity method of accounting or those that result in consolidation) to be measured at fair value with changes in fair value recognized in net income and simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. The new standard is effective for the Company for fiscal years and interim periods beginning after December 15, 2017. The adoption of this standard is not expected to have a material impact on the Company’s ongoing financial reporting.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which revises the accounting treatment related to lessee accounting. Under the new guidance, lessees will be required to recognize a lease liability and a right-of-use asset for all leases. The new lease guidance also simplifies the accounting for sale and leaseback transactions primarily because lessees must recognize lease assets and lease liabilities. The amendments in this ASU are effective for the Company beginning on January 1, 2019 and should be applied through a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. Early adoption is permitted. The Company has not yet determined what the effects of adopting this ASU will be on its ongoing financial reporting.
In March 2016, the FASB issued ASU No. 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting ("ASU 2016-09"), which simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The Company adopted this guidance in the third quarter of 2016. In accordance with the new guidance, excess tax benefits and tax deficiencies are recognized as income tax benefit or expense rather than as additional paid-in capital. The Company has elected to recognize forfeitures as they occur rather than continue to estimate expected forfeitures. In addition, pursuant to the new guidance, excess tax benefits are classified as an operating activity on the condensed consolidated statements of cash flows. The recognition of excess tax benefits and deficiencies are applied prospectively from January 1, 2016. See the "Reclassifications" section below for additional detail of the adoption of this guidance.


I-8
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which addresses eight specific cash flow issues to reduce the diversity in practice for appropriate classification on the statement of cash flows. The amendments in this ASU are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory, which requires an entity to recognize at the transaction date the income tax consequences of intercompany asset transfers other than inventory. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, with early adoption permitted. The Company is currently evaluating the effect that the updated standard will have on its condensed consolidated financial statements and related disclosures.
In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, which requires entities to show the changes in the total of cash, cash equivalents, restricted cash and restricted cash equivalents in the statement of cash flows. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which simplifies the measurement for impairment by calculating the difference between the carrying amount and the fair value of the reporting unit. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019, with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In May 2017, the FASB issued ASU No. 2017-09, Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting, to provide clarity to which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. The amendments in this update are effective for all entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
Reclassifications
Certain prior period amounts have been reclassified to conform with current period presentation. In relation to the adoption of ASU 2016-09 in the third quarter of 2016, the Company has reclassified excess tax benefits from stock-based compensation previously recorded in additional paid-in capital of $2 million and $6 million as a tax benefit on the condensed consolidated statement of operations for the three and six months ended June 30, 2016, respectively.
(2) Television Distribution Rights, Net
Television distribution rights consisted of the following:
(in millions)
June 30, 2017

December 31, 2016

Television distribution rights
$
2,332

2,279

Less accumulated amortization
(2,221
)
(2,096
)
Television distribution rights, net
$
111

183

The Company recorded amortization expense of $52 million and $49 million for the three months ended June 30, 2017 and 2016, respectively, related to television distribution rights. For the six months ended June 30, 2017 and 2016, amortization expense for television distribution rights was $102 million and $96 million, respectively.


I-9
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

As of June 30, 2017, related amortization expense for each of the next five years ended December 31 was as follows (in millions):
Remainder of 2017
$
46

2018
34

2019
15

2020
10

2021
4

The decrease in future amortization expense in 2018 is primarily due to the end of affiliation agreement terms for contracts in place at the time of Liberty's acquisition of QVC in 2003.
(3) Goodwill
The changes in the carrying amount of goodwill for the six months ended June 30, 2017 were as follows:
(in millions)
QVC-U.S.

QVC-Germany

QVC-Japan

QVC-U.K.

QVC-Italy

Total

Balance as of December 31, 2016
$
4,190

267

258

161

119

4,995

Exchange rate fluctuations
—

23

10

8

10

51

Balance as of June 30, 2017
$
4,190

290

268

169

129

5,046

(4) Other Intangible Assets, Net
Other intangible assets consisted of the following:
 
June 30, 2017
 
December 31, 2016
 
(in millions)
Gross
cost

Accumulated
amortization

Other intangible assets, net

Gross
cost

Accumulated
amortization

Other intangible assets, net

Purchased and internally developed software
$
680

(515
)
165

646

(466
)
180

Affiliate and customer relationships
2,409

(2,371
)
38

2,397

(2,274
)
123

Debt origination fees
8

(2
)
6

8

(1
)
7

Trademarks (indefinite life)
2,428

—

2,428

2,428

—

2,428


$
5,525

(2,888
)
2,637

5,479

(2,741
)
2,738

The Company recorded amortization expense of $65 million and $66 million for the three months ended June 30, 2017 and 2016, respectively, related to other intangible assets. For the six months ended June 30, 2017 and 2016, amortization expense for other intangible assets was $131 million and $133 million, respectively.
As of June 30, 2017, the related amortization and interest expense for each of the next five years ended December 31 was as follows (in millions):
Remainder of 2017
$
78

2018
78

2019
41

2020
11

2021
1

The decrease in future amortization expense in 2018 is primarily due to the end of the useful lives of the affiliate and customer relationships in place at the time of Liberty's acquisition of QVC in 2003.


I-10
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

(5) Accrued Liabilities
Accrued liabilities consisted of the following:
(in millions)
June 30, 2017

December 31, 2016

Accounts payable non-trade
$
167

215

Accrued compensation and benefits
95

92

Income taxes
85

120

Deferred revenue
73

69

Allowance for sales returns
65

93

Accrued interest
58

58

Sales and other taxes
39

62

Other
57

60

 
$
639

769

(6) Long-Term Debt and Capital Lease Obligations
Long-term debt and capital lease obligations consisted of the following:
(in millions)
June 30, 2017

December 31, 2016

3.125% Senior Secured Notes due 2019, net of original issue discount
$
399

399

5.125% Senior Secured Notes due 2022
500

500

4.375% Senior Secured Notes due 2023, net of original issue discount
750

750

4.85% Senior Secured Notes due 2024, net of original issue discount
600

600

4.45% Senior Secured Notes due 2025, net of original issue discount
599

599

5.45% Senior Secured Notes due 2034, net of original issue discount
399

399

5.95% Senior Secured Notes due 2043, net of original issue discount
300

300

Senior secured credit facility
1,291

1,596

Capital lease obligations
75

69

Build to suit lease obligation
103

105

Less debt issuance costs, net
(25
)
(28
)
Total debt and capital lease obligations
4,991

5,289

Less current portion
(16
)
(14
)
Long-term portion of debt and capital lease obligations
$
4,975

5,275

Senior Secured Notes
All of QVC's senior secured notes are secured by the capital stock of QVC and certain of its subsidiaries and have equal priority to the senior secured credit facility. The interest on all of QVC's senior secured notes is payable semi-annually.


I-11
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

Senior Secured Credit Facility
On June 23, 2016, QVC entered into a Third Amended and Restated Credit Agreement with zulily as borrowers (collectively, the “Borrowers”), which is a multi-currency facility that provides for a $2.65 billion revolving credit facility with a $300 million sub-limit for standby letters of credit and $1.5 billion of uncommitted incremental revolving loan commitments or incremental term loans. The Third Amended and Restated Credit Agreement includes a $400 million tranche that may be borrowed by the Company or zulily with an additional $50 million sub-limit for standby letters of credit (see notes 1 and 13). The remaining $2.25 billion and any incremental loans may be borrowed only by the Company. Borrowings that are alternate base rate loans will bear interest at a per annum rate equal to the base rate plus a margin that varies between 0.25% and 0.75% depending on the Borrowers’ combined ratio of Consolidated Total Debt to Consolidated EBITDA for the most recent four fiscal quarter periods (the “Combined Consolidated Leverage Ratio”). Borrowings that are London Interbank Offered Rate ("LIBOR") loans will bear interest at a per annum rate equal to the applicable LIBOR rate plus a margin that varies between 1.25% and 1.75% depending on the Borrowers’ Combined Consolidated Leverage Ratio. Because the calculation of the Combined Consolidated Leverage Ratio was revised to include zulily, the effective interest rate margins, on the date that the Third Amended and Restated Credit Agreement was entered into, decreased from the interest rate margins under the previous bank credit facility. Each loan may be prepaid at any time and from time to time without penalty other than customary breakage costs. No mandatory prepayments will be required other than when borrowings and letter of credit usage exceed availability; provided that, if zulily ceases to be controlled by Liberty, all of its loans must be repaid and its letters of credit cash collateralized. The facility matures on June 23, 2021, except that $140 million of the $2.25 billion commitment available to QVC matures on March 9, 2020. Any amounts prepaid on the revolving facility may be reborrowed. Payment of loans may be accelerated following certain customary events of default.

QVC had $1.03 billion, including the remaining portion of the $400 million tranche that zulily may also borrow on, available under the terms of the Third Amended and Restated Credit Agreement at June 30, 2017. The interest rate on the Third Amended and Restated Credit Agreement was 2.7% at June 30, 2017.
The purpose of the amendment was to, among other things, extend the maturity of the Company's senior secured credit facility, provide zulily the opportunity to borrow on the senior secured credit facility (see note 1), and lower the interest rate on borrowings. The payment and performance of the Borrowers’ obligations under the Third Amended and Restated Credit Agreement are guaranteed by each of QVC’s Material Domestic Subsidiaries (as defined in the Third Amended and Restated Credit Agreement). Further, the borrowings under the Third Amended and Restated Credit Agreement are secured, pari passu with QVC’s existing notes, by a pledge of all of the capital stock of QVC. The payment and performance of the Borrowers’ obligations with respect to the $400 million tranche available to both QVC and zulily are also guaranteed by each of zulily’s Material Domestic Subsidiaries (as defined in the Third Amended and Restated Credit Agreement), if any, and are secured by a pledge of all of zulily’s equity interests.

The Third Amended and Restated Credit Agreement contains certain affirmative and negative covenants, including certain restrictions on the Company and zulily and each of their respective restricted subsidiaries (subject to certain exceptions) with respect to, among other things: incurring additional indebtedness; creating liens on property or assets; making certain loans or investments; selling or disposing of assets; paying certain dividends and other restricted payments; dissolving, consolidating or merging; entering into certain transactions with affiliates; entering into sale or leaseback transactions; restricting subsidiary distributions; and limiting the Company’s consolidated leverage ratio and the Borrowers’ Combined Consolidated Leverage Ratio.
Interest Rate Swap Arrangements
During the year ended December 31, 2016, QVC entered into a three-year interest rate swap arrangement with a notional amount of $125 million to mitigate the interest rate risk associated with interest payments related to its variable rate debt. The swap arrangement does not qualify as a cash flow hedge under U.S. GAAP. Accordingly, changes in the fair value of the swap are reflected in gain on financial instruments in the accompanying condensed consolidated statements of operations. At June 30, 2017, the fair value of the swap instrument was in a net asset position of approximately $2 million which was included in other noncurrent assets.


I-12
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

Other Debt Related Information
QVC was in compliance with all of its debt covenants at June 30, 2017.
During the quarter, there were no significant changes to QVC's debt credit ratings.
The weighted average rate applicable to all of the outstanding debt (excluding capital and build to suit leases) prior to amortization of bond discounts and related debt issuance costs was 4.2% as of June 30, 2017.
(7) Leases
Future minimum payments under noncancelable operating leases and capital transponder leases with initial terms of one year or more and the lease related to the Company's California distribution center (build to suit lease) at June 30, 2017 consisted of the following:
(in millions)
Capital Leases

Operating leases

Build to suit lease

Remainder of 2017
$
7

10

3

2018
16

18

6

2019
16

13

6

2020
12

10

6

2021
11

8

6

Thereafter
18

68

67

Total
$
80

127

94

The Company has entered into fourteen separate capital lease agreements with transponder and transmitter network suppliers to transmit its signals in the U.S., Germany and France at an aggregate monthly cost of $1 million. Depreciation expense related to the capital leases was $3 million and $2 million for the three months ended June 30, 2017 and 2016, respectively. For the six months ended June 30, 2017 and 2016, depreciation expense related to the capital leases was $6 million and $5 million, respectively. Total future minimum capital lease payments of $80 million include $5 million of imputed interest. The transponder service agreements for our U.S. transponders expire between 2019 and 2023. The transponder and transmitter network service agreements for our international transponders expire between 2019 and 2027.
Expenses for operating leases, principally for data processing equipment, facilities, satellite uplink service agreements and the California distribution center land, amounted to $6 million and $5 million for the three months ended June 30, 2017 and 2016, respectively. For both the six months ended June 30, 2017 and 2016, expenses for operating leases were $12 million.
On July 2, 2015, QVC entered into a lease (the “Lease”) for a California distribution center. Pursuant to the Lease, the landlord built an approximately one million square foot rental building in Ontario, California (the “Premises”), and thereafter leased the Premises to QVC as its new California distribution center for an initial term of 15 years. Under the Lease, QVC is required to pay an initial base rent of approximately $6 million per year, increasing to approximately $8 million per year by the final year of the initial term, as well as all real estate taxes and other building operating costs. QVC also has an option to extend the term of the Lease for up to two consecutive terms of 10 years each.
QVC has the right to purchase the Premises and related land from the landlord by entering into an amended and restated agreement at any time during the twenty-fifth or twenty-sixth months of the Lease's initial term, which will occur in June and July of 2018, with a $10 million initial payment and annual payments of $12 million over a term of 13 years.
The Company concluded that it was the deemed owner (for accounting purposes only) of the Premises during the construction period under build to suit lease accounting. Building construction began in July of 2015. During the construction period, the Company recorded estimated project construction costs incurred by the landlord as a projects in progress asset and a corresponding long-term liability in Property and equipment, net and Other long-term liabilities, respectively, on its consolidated balance sheet. In addition, the Company paid for normal tenant improvements and certain structural improvements and recorded these amounts as part of the projects in progress asset. Upon completion of construction, the long-term liability was reclassified to debt.


I-13
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

On August 29, 2016, the California distribution center officially opened. The Company evaluated whether the Lease met the criteria for "sale-leaseback" treatment under U.S. GAAP and concluded that it did not. Therefore, the Company treats the Lease as a financing obligation and lease payments are attributed to: (1) a reduction of the principal financing obligation; (2) imputed interest expense; and (3) land lease expense representing an imputed cost to lease the underlying land of the Premises. In addition, the building asset is being depreciated over its estimated useful life of 20 years. Although the Company did not begin making monthly lease payments pursuant to the Lease until February 2017, the portion of the lease obligations allocated to the land has been treated for accounting purposes as an operating lease that commenced in 2015. If the Company does not exercise its right to purchase the Premises and related land, the Company will derecognize both the net book values of the asset and the financing obligation at the conclusion of the lease term.
(8) Income Taxes
The Company calculates its interim income tax provision by applying its best estimate of the annual expected effective tax rate to its ordinary year-to-date income or loss. The tax or benefit related to significant unusual or extraordinary items that will be separately reported or reported net of their related tax effect are individually computed and recognized in the interim period in which those items occur.
The computation of the annual estimated effective tax rate at each interim period requires certain estimates and significant judgment including, but not limited to, the expected operating income for the year, projections of the proportion of income earned and taxed in foreign jurisdictions, permanent and temporary differences as a result of differences between amounts measured and recognized in accordance with tax laws and financial accounting standards, and the likelihood of recovering deferred tax assets. The accounting estimates used to compute the provision for income taxes may change as new events occur, additional information is obtained or as the tax environment changes. To the extent that the estimated annual effective tax rate changes during a quarter, the effect of the change on the prior quarters is included in the tax expense for the current quarter.
For the three months ended June 30, 2017, the Company recorded a tax provision of $90 million, which represented an effective tax rate of 37.3%. For the six months ended June 30, 2017 the Company recorded a tax provision of $167 million, which represented an effective tax rate of 36.9%. These rates differ from the U.S. federal income tax rate of 35.0% due primarily to state tax expense.
QVC is party to ongoing discussions with the Internal Revenue Service under the Compliance Assurance Process audit program. The Company files Federal tax returns on a consolidated basis with its parent company, Liberty. The Company, or one of its subsidiaries, files income tax returns in various states and foreign jurisdictions. As of June 30, 2017, tax returns of the Company, or one of its subsidiaries, were under examination in Germany for 2012 through 2014 and the U.K. for 2015. In addition, as of June 30, 2017, tax returns of the Company, or one of its subsidiaries, were under examination in California, New York State, and Pennsylvania.
The Company is a party to a Tax Liability Allocation and Indemnification Agreement (the “Tax Agreement”) with Liberty. The Tax Agreement establishes the methodology for the calculation and payment of income taxes in connection with the consolidation of the Company with Liberty for income tax purposes. Generally, the Tax Agreement provides that the Company will pay Liberty an amount equal to the tax liability, if any, that it would have if it were to file as a consolidated group separate and apart from Liberty, with exceptions for the treatment and timing of certain items, including but not limited to deferred intercompany transactions, credits, and net operating and capital losses. To the extent that the separate company tax expense is different from the payment terms of the Tax Agreement, the difference is recorded as either a dividend or capital contribution.
The amounts of the tax-related balances due to Liberty at June 30, 2017 and December 31, 2016 were $30 million and $75 million, respectively, and were included in accrued liabilities in the accompanying condensed consolidated balance sheets.


I-14
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

(9) Commitments and Contingencies
The Company has contingent liabilities related to legal and tax proceedings and other matters arising in the ordinary course of business. Although it is reasonably possible the Company may incur losses upon conclusion of such matters, an estimate of any loss or range of loss cannot be made. In the opinion of management, it is expected that the amounts, if any, which may be required to satisfy such contingencies will not be material in relation to the accompanying condensed consolidated financial statements.
Network and information systems, including the Internet and telecommunication systems, third party delivery services and other technologies are critical to our business activities. Substantially all our customer orders, fulfillment and delivery services are dependent upon the use of network and information systems, including the use of third party telecommunication and delivery service providers. If information systems including the Internet or telecommunication services are disrupted, or if the third party delivery services experience a disruption in their transportation delivery services, we could face a significant disruption in fulfilling our customer orders and shipment of our products. We have active disaster recovery programs in place to help mitigate risks associated with these critical business activities.
(10) Financial Instruments and Fair Value Measurements
For assets and liabilities required to be reported or disclosed at fair value, U.S. GAAP provides a hierarchy that prioritizes inputs to valuation techniques used to measure fair value into three broad levels. Level 1 inputs are quoted market prices in active markets for identical assets or liabilities that the reporting entity has the ability to access at the measurement date. Level 2 inputs, other than quoted market prices included within Level 1, are observable for the asset or liability, either directly or indirectly. Level 3 inputs are unobservable inputs for the asset or liability.
The Company's assets and liabilities measured or disclosed at fair value were as follows:


Fair value measurements at June 30, 2017 using
 
(in millions)
Total

Quoted prices
in active
markets for
identical
assets
(Level 1)

Significant
other
observable
inputs
(Level 2)

Significant
unobservable
inputs
(Level 3)

Current assets:




Cash equivalents
$
134

134

—

—

Noncurrent assets:




Interest rate swap arrangements
2

—

2

—

Long-term liabilities:




Debt (note 6)
4,873

—

4,873

—



I-15
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)



Fair value measurements at December 31, 2016 using
 
(in millions)
Total

Quoted prices
in active
markets for
identical
assets
(Level 1)

Significant
other
observable
inputs
(Level 2)

Significant
unobservable
inputs
(Level 3)

Current assets:




Cash equivalents
$
113

113

—

—

Noncurrent assets:








Interest rate swap arrangements
2

—

2

—

Long-term liabilities:








Debt (note 6)
5,092

—

5,092

—

The majority of the Company's Level 2 financial liabilities are debt instruments with quoted market prices that are not considered to be traded on "active markets," as defined in U.S. GAAP. Accordingly, the financial instruments are reported in the foregoing tables as Level 2 fair value instruments.
During the year ended December 31, 2016, QVC entered into a three-year interest rate swap arrangement with a notional amount of $125 million to mitigate the interest rate risk associated with interest payments related to its variable rate debt. The swap arrangement did not qualify as a cash flow hedge under U.S. GAAP. Accordingly, changes in the fair value of the swap are reflected in gain on financial instruments in the accompanying condensed consolidated statements of operations. At June 30, 2017, the fair value of the swap instrument was in a net asset position of $2 million which is included in other noncurrent assets.
(11) Information about QVC's Operating Segments
The Company has identified two reportable operating segments: QVC-U.S. and QVC-International. Both operating segments are retailers of a wide range of consumer products, which are marketed and sold primarily by merchandise-focused televised-shopping programs as well as via the Internet and mobile applications in certain markets.
QVC's chief operating decision maker ("CODM") is QVC's Chief Executive Officer. QVC's CODM has ultimate responsibility for enterprise decisions. QVC's CODM determines, in particular, resource allocation for, and monitors performance of, the consolidated enterprise, QVC-U.S. and QVC-International. The segment managers have responsibility for operating decisions, allocating resources and assessing performance within their respective segments. QVC's CODM relies on internal management reporting that analyzes enterprise results and segment results to the Adjusted OIBDA level (see below).
The Company evaluates performance and makes decisions about allocating resources to its operating segments based on financial measures such as net revenue, Adjusted OIBDA, gross margin, average sales price per unit, number of units shipped and revenue or sales per subscriber equivalent. The Company defines Adjusted OIBDA as revenue less cost of goods sold, operating expenses, and selling, general and administrative expenses (excluding stock-based compensation). The Company believes this measure is an important indicator of the operational strength and performance of its segments, including the ability to service debt and fund capital expenditures. In addition, this measure allows management to view operating results and perform analytical comparisons and benchmarking among the Company's businesses and identify strategies to improve performance. This measure of performance excludes depreciation, amortization and stock-based compensation, that are included in the measurement of operating income pursuant to U.S. GAAP. Accordingly, Adjusted OIBDA should be considered in addition to, but not as a substitute for, operating income, net income, cash flow provided by operating activities and other measures of financial performance prepared in accordance with U.S. GAAP.


I-16
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

Performance measures
 
Three months ended June 30,
 
Six months ended June 30,
 
 
2017
 
2016
 
2017
 
2016
 
(in millions)
Net
revenue

Adjusted
OIBDA

Net
revenue

Adjusted
OIBDA

Net
revenue

Adjusted
OIBDA

Net
revenue

Adjusted
OIBDA

QVC-U.S.
$
1,367

361

1,428

363

2,737

697

2,835

689

QVC-International
612

107

635

100

1,207

205

1,241

189

Consolidated QVC
$
1,979

468

2,063

463

3,944

902

4,076

878

Net revenue amounts by product category are not available from our general purpose financial statements.
Other information
 
Three months ended June 30,
 
Six months ended June 30,
 
 
2017
 
2016
 
2017
 
2016
 
(in millions)
Depreciation

Amortization

Depreciation

Amortization

Depreciation

Amortization

Depreciation

Amortization

QVC-U.S.
$
22

105

16

103

46

210

33

205

QVC-International
15

12

15

12

32

23

32

24

Consolidated QVC
$
37

117

31

115

78

233

65

229


June 30, 2017
 
December 31, 2016
 
(in millions)
Total
assets

Capital
expenditures

Total
assets

Capital
expenditures

QVC-U.S.
$
9,136

34

9,595

152

QVC-International
2,010

10

1,950

27

Consolidated QVC
$
11,146

44

11,545

179

Long-lived assets, net of accumulated depreciation, by segment were as follows:
(in millions)
June 30, 2017

December 31, 2016

QVC-U.S.
$
558

594

QVC-International
444

437

Consolidated QVC
$
1,002

1,031

The following table provides a reconciliation of Adjusted OIBDA to income before income taxes:
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

Adjusted OIBDA
$
468

463

902

878

Stock-based compensation
(8
)
(10
)
(14
)
(16
)
Depreciation and amortization
(154
)
(146
)
(311
)
(294
)
Equity in losses of investee
(1
)
(1
)
(3
)
(2
)
Interest expense, net
(56
)
(54
)
(111
)
(107
)
Foreign currency (loss) gain
(8
)
20

(10
)
22

Income before income taxes
$
241

272

453

481



I-17
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

(12) Other Comprehensive (Loss) Income
The change in the component of accumulated other comprehensive loss, net of taxes ("AOCL"), is summarized as follows:
(in millions)
Foreign currency translation adjustments

AOCL

Balance at January 1, 2017
$
(224
)
(224
)
Other comprehensive income attributable to QVC, Inc. stockholder
78

78

Balance at June 30, 2017
(146
)
(146
)
 
 
 
Balance at January 1, 2016
$
(140
)
(140
)
Other comprehensive income attributable to QVC, Inc. stockholder
23

23

Balance at June 30, 2016
(117
)
(117
)
The component of other comprehensive income is reflected in QVC's condensed consolidated statements of comprehensive income, net of taxes. The following table summarizes the tax effects related to the component of other comprehensive income:
(in millions)
Before-tax amount

Tax benefit (expense)

Net-of-tax amount

Three months ended June 30, 2017
 
 
 
Foreign currency translation adjustments
$
54

1

55

Other comprehensive income
54

1

55

 
 
 
 
Three months ended June 30, 2016
 
 
 
Foreign currency translation adjustments
$
2

3

5

Other comprehensive income
2

3

5

 
 
 
 
Six months ended June 30, 2017:



Foreign currency translation adjustments
$
101

(19
)
82

Other comprehensive income
101

(19
)
82


 
 
 
Six months ended June 30, 2016:



Foreign currency translation adjustments
$
30

9

39

Other comprehensive income
30

9

39



I-18
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

(13) Subsequent Event
Subsequent to June 30, 2017, QVC declared and paid dividends to Liberty in the amount of $33 million.
As of August 1, 2017, zulily had $325 million outstanding on the shared tranche within the Third Amended and Restated Credit Agreement.
On July 6, 2017, Liberty announced that it had entered into an Agreement and Plan of Merger, dated as of July 5, 2017 (the “HSN Merger Agreement”), by and among Liberty, Liberty Horizon, Inc., a Delaware corporation and a direct, wholly owned subsidiary of Liberty (“Merger Sub”), and HSN. Pursuant to the terms of the HSN Merger Agreement, Merger Sub will merge with and into HSN, with HSN surviving as a wholly-owned subsidiary of Liberty (the “HSN Merger”). As a result of the HSN Merger, Liberty will acquire the approximately 62% of HSN it does not already own in an all-stock transaction. Liberty currently owns approximately 38% of HSN and, under the HSN Merger Agreement, will acquire the remaining stake, making HSN a wholly-owned subsidiary that will be attributed to the QVC Group.
The HSN Merger is expected to be completed by the fourth quarter of 2017. The completion of the acquisition is subject to certain customary conditions, including (i) the receipt of requisite regulatory approvals, including approval from the Federal Communications Commission and the expiration or termination of the applicable waiting period under the Hart-Scott-Rodino Antitrust Improvements Act and (ii) approval by a majority of the outstanding voting power of HSN shareholders. A voting agreement has been obtained from Liberty to vote its HSN shares in-favor of the transaction. Approval of the Liberty stockholders is not required, and is not being sought, for the HSN Merger.
(14) Guarantor/Non-guarantor Subsidiary Financial Information
The following information contains the condensed consolidating financial statements for the Company, the parent on a stand-alone basis (QVC, Inc.), the combined subsidiary guarantors (Affiliate Relations Holdings, Inc.; Affiliate Investment, Inc.; AMI 2, Inc.; ER Marks, Inc.; QVC Rocky Mount, Inc.; QVC San Antonio, LLC; QVC Global Holdings I, Inc.; and QVC Global Holdings II, Inc.) and the combined non-guarantor subsidiaries pursuant to Rule 3-10 of Regulation S-X.
In connection with the Third Amended and Restated Credit Agreement (see notes 1 and 6), QVC International Ltd is no longer a guarantor subsidiary, and is reflected with the combined non-guarantor subsidiaries.
These condensed consolidating financial statements have been prepared from the Company's financial information on the same basis of accounting as the Company's condensed consolidated financial statements. The principal elimination entries relate to investments in subsidiaries and intercompany balances and transactions, such as management fees, royalty revenue and expense, interest income and expense and gains on intercompany asset transfers. Goodwill and other intangible assets have been allocated to the subsidiaries based on management’s estimates. Certain costs have been partially allocated to all of the subsidiaries of the Company.
The subsidiary guarantors are 100% owned by the Company. All guarantees are full and unconditional and are joint and several. There are no significant restrictions on the ability of the Company to obtain funds from its U.S. subsidiaries, including the guarantors, by dividend or loan. The Company has not presented separate notes and other disclosures concerning the subsidiary guarantors as the Company has determined that such material information is available in the notes to the Company's condensed consolidated financial statements.


I-19
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Balance Sheets
June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Assets
Current assets:





Cash and cash equivalents
$
1

119

186

—

306

Restricted cash
8

—

3

—

11

Accounts receivable, net
581

—

258

—

839

Inventories
807

—

264

—

1,071

Prepaid expenses and other current assets
27

—

36

—

63

Total current assets
1,424

119

747

—

2,290

Property and equipment, net
289

60

653

—

1,002

Television distribution rights, net
—

106

5

—

111

Goodwill
4,190

—

856

—

5,046

Other intangible assets, net
570

2,048

19

—

2,637

Other noncurrent assets
15

—

45

—

60

Investments in subsidiaries
3,379

198

—

(3,577
)
—

Total assets
$
9,867

2,531

2,325

(3,577
)
11,146

Liabilities and equity
Current liabilities:





Current portion of debt and capital lease obligations
$
3

—

13

—

16

Accounts payable-trade
371

—

247

—

618

Accrued liabilities (1)
(88
)
231

496

—

639

Intercompany accounts payable (receivable)
627

(1,273
)
646

—

—

Total current liabilities
913

(1,042
)
1,402

—

1,273

Long-term portion of debt and capital lease obligations
4,828

—

147

—

4,975

Deferred income taxes
104

704

(65
)
—

743

Other long-term liabilities
106

—

30

—

136

Total liabilities
5,951

(338
)
1,514

—

7,127

Equity:





QVC, Inc. stockholder's equity
3,916

2,869

708

(3,577
)
3,916

Noncontrolling interest
—

—

103

—

103

Total equity
3,916

2,869

811

(3,577
)
4,019

Total liabilities and equity
$
9,867

2,531

2,325

(3,577
)
11,146

(1) The negative balance is due to the impact of allocated income tax position of respective underlying entities relative to total consolidated net income tax liability.


I-20
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Balance Sheets
December 31, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Assets
Current assets:





Cash and cash equivalents
$
2

97

185

—

284

Restricted cash
8

—

2

—

10

Accounts receivable, net
958

—

288

—

1,246

Inventories
726

—

224

—

950

Prepaid expenses and other current assets
22

—

24

—

46

Total current assets
1,716

97

723

—

2,536

Property and equipment, net
317

63

651

—

1,031

Television distribution rights, net
—

167

16

—

183

Goodwill
4,190

—

805

—

4,995

Other intangible assets, net
666

2,049

23

—

2,738

Other noncurrent assets
15

—

47

—

62

Investments in subsidiaries
3,389

1,030

—

(4,419
)
—

Total assets
$
10,293

3,406

2,265

(4,419
)
11,545

Liabilities and equity
Current liabilities:





Current portion of debt and capital lease obligations
$
3

—

11

—

14

Accounts payable-trade
425

—

253

—

678

Accrued liabilities
74

234

461

—

769

Intercompany accounts payable (receivable)
623

(246
)
(377
)
—

—

Total current liabilities
1,125

(12
)
348

—

1,461

Long-term portion of debt and capital lease obligations
5,132

—

143

—

5,275

Deferred income taxes
145

707

(74
)
—

778

Other long-term liabilities
96

—

40

—

136

Total liabilities
6,498

695

457

—

7,650

Equity:





QVC, Inc. stockholder's equity
3,795

2,711

1,708

(4,419
)
3,795

Noncontrolling interest
—

—

100

—

100

Total equity
3,795

2,711

1,808

(4,419
)
3,895

Total liabilities and equity
$
10,293

3,406

2,265

(4,419
)
11,545



I-21
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Operations
Three months ended June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net revenue
$
1,402

220

660

(303
)
1,979

Cost of goods sold
838

32

397

(37
)
1,230

Gross profit
564

188

263

(266
)
749

Operating expenses:





Operating
95

60

66

(84
)
137

Selling, general and administrative, including stock-based compensation
239

—

95

(182
)
152

Depreciation
16

2

19

—

37

Amortization
60

45

12

—

117


410

107

192

(266
)
443

Operating income
154

81

71

—

306

Other (expense) income:





Equity in losses of investee
—

—

(1
)
—

(1
)
Interest expense, net
(54
)
—

(2
)
—

(56
)
Foreign currency loss
(2
)
—

(6
)
—

(8
)
Intercompany interest (expense) income
(1
)
23

(22
)
—

—


(57
)
23

(31
)
—

(65
)
Income before income taxes
97

104

40

—

241

Income tax expense
(39
)
(32
)
(19
)
—

(90
)
Equity in earnings (losses) of subsidiaries, net of tax
93

(2
)
—

(91
)
—

Net income
151

70

21

(91
)
151

Less net income attributable to the noncontrolling interest
(10
)
—

(10
)
10

(10
)
Net income attributable to QVC, Inc. stockholder
$
141

70

11

(81
)
141



I-22
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Operations
Three months ended June 30, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net revenue
$
1,459

231

682

(309
)
2,063

Cost of goods sold
871

36

420

(42
)
1,285

Gross profit
588

195

262

(267
)
778

Operating expenses:
 
 
 
 
 
Operating
93

60

68

(75
)
146

Selling, general and administrative, including stock-based compensation
264

—

107

(192
)
179

Depreciation
13

2

16

—

31

Amortization
60

44

11

—

115


430

106

202

(267
)
471

Operating income
158

89

60

—

307

Other (expense) income:
 
 
 
 
 
Equity in losses of investee
—

—

(1
)
—

(1
)
Interest expense, net
(54
)
—

—

—

(54
)
Foreign currency gain
6

—

14

—

20

Intercompany interest (expense) income
(1
)
—

1

—

—


(49
)
—

14

—

(35
)
Income before income taxes
109

89

74

—

272

Income tax expense
(40
)
(33
)
(31
)
—

(104
)
Equity in earnings of subsidiaries, net of tax
99

50

—

(149
)
—

Net income
168

106

43

(149
)
168

Less net income attributable to the noncontrolling interest
(11
)
—

(11
)
11

(11
)
Net income attributable to QVC, Inc. stockholder
$
157

106

32

(138
)
157




I-23
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Operations
Six months ended June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net revenue
$
2,806

445

1,304

(611
)
3,944

Cost of goods sold
1,693

69

788

(77
)
2,473

Gross profit
1,113

376

516

(534
)
1,471

Operating expenses:





Operating
195

118

134

(173
)
274

Selling, general and administrative, including stock-based compensation
481

—

189

(361
)
309

Depreciation
33

4

41

—

78

Amortization
120

90

23

—

233

 
829

212

387

(534
)
894

Operating income
284

164

129

—

577

Other (expense) income:
 
 
 
 
 
Equity in losses of investee
—

—

(3
)
—

(3
)
Interest expense, net
(109
)
—

(2
)
—

(111
)
Foreign currency loss
(3
)
—

(7
)
—

(10
)
Intercompany interest (expense) income
(2
)
45

(43
)
—

—


(114
)
45

(55
)
—

(124
)
Income before income taxes
170

209

74

—

453

Income tax expense
(71
)
(62
)
(34
)
—

(167
)
Equity in earnings of subsidiaries, net of tax
187

15

—

(202
)
—

Net income
286

162

40

(202
)
286

Less net income attributable to the noncontrolling interest
(21
)
—

(21
)
21

(21
)
Net income attributable to QVC, Inc. stockholder
$
265

162

19

(181
)
265



I-24
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Operations
Six months ended June 30, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net revenue
$
2,903

464

1,347

(638
)
4,076

Cost of goods sold
1,747

78

829

(89
)
2,565

Gross profit
1,156

386

518

(549
)
1,511

Operating expenses:





Operating
202

119

140

(173
)
288

Selling, general and administrative, including stock-based compensation
527

—

210

(376
)
361

Depreciation
25

4

36

—

65

Amortization
120

84

25

—

229


874

207

411

(549
)
943

Operating income
282

179

107

—

568

Other (expense) income:





Equity in losses of investee
—

—

(2
)
—

(2
)
Interest expense, net
(107
)
—

—

—

(107
)
Foreign currency gain
9

—

13

—

22

Intercompany interest (expense) income
(1
)
1

—

—

—


(99
)
1

11

—

(87
)
Income before income taxes
183

180

118

—

481

Income tax expense
(64
)
(59
)
(57
)
—

(180
)
Equity in earnings of subsidiaries, net of tax
182

82

—

(264
)
—

Net income
301

203

61

(264
)
301

Less net income attributable to the noncontrolling interest
(19
)
—

(19
)
19

(19
)
Net income attributable to QVC, Inc. stockholder
$
282

203

42

(245
)
282




I-25
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)

Condensed Consolidating Statements of Comprehensive Income
Three months ended June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net income
$
151

70

21

(91
)
151

Foreign currency translation adjustments, net of tax
55

—

55

(55
)
55

Total comprehensive income
206

70

76

(146
)
206

Comprehensive income attributable to noncontrolling interest
(8
)
—

(8
)
8

(8
)
Comprehensive income attributable to QVC, Inc. stockholder
$
198

70

68

(138
)
198

Condensed Consolidating Statements of Comprehensive Income
Three months ended June 30, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net income
$
168

106

43

(149
)
168

Foreign currency translation adjustments, net of tax
5

—

5

(5
)
5

Total comprehensive income
173

106

48

(154
)
173

Comprehensive income attributable to noncontrolling interest
(20
)
—

(20
)
20

(20
)
Comprehensive income attributable to QVC, Inc. stockholder
$
153

106

28

(134
)
153

Condensed Consolidating Statements of Comprehensive Income
Six months ended June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net income
$
286

162

40

(202
)
286

Foreign currency translation adjustments, net of tax
82

—

82

(82
)
82

Total comprehensive income
368

162

122

(284
)
368

Comprehensive income attributable to noncontrolling interest
(25
)
—

(25
)
25

(25
)
Comprehensive income attributable to QVC, Inc. stockholder
$
343

162

97

(259
)
343







I-26
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Comprehensive Income
Six months ended June 30, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Net income
$
301

203

61

(264
)
301

Foreign currency translation adjustments, net of tax
39

—

39

(39
)
39

Total comprehensive income
340

203

100

(303
)
340

Comprehensive income attributable to noncontrolling interest
(35
)
—

(35
)
35

(35
)
Comprehensive income attributable to QVC, Inc. stockholder
$
305

203

65

(268
)
305



I-27
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Cash Flows
Six months ended June 30, 2017
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Operating activities:










Net cash provided by operating activities
$
318

235

110

—

663

Investing activities:
 
 
 
 
 
Capital expenditures
(29
)
—

(15
)
—

(44
)
Expenditures for television distribution rights
—

(29
)
—

—

(29
)
Changes in other noncurrent assets
(1
)
—

—

—

(1
)
Intercompany investing activities
270

(668
)
—

398

—

Net cash provided by (used in) investing activities
240

(697
)
(15
)
398

(74
)
Financing activities:
 
 
 
 
 
Principal payments of debt and capital lease obligations
(1,402
)
—

(4
)
—

(1,406
)
Principal borrowings of debt from senior secured credit facility
1,094

—

—

—

1,094

Dividends paid to Liberty
(233
)
—

—

—

(233
)
Dividends paid to noncontrolling interest
—

—

(22
)
—

(22
)
Other financing activities
(9
)
—

—

—

(9
)
Net short-term intercompany debt borrowings (repayments)
4

(1,027
)
1,023

—

—

Other intercompany financing activities
(13
)
1,511

(1,100
)
(398
)
—

Net cash (used in) provided by financing activities
(559
)
484

(103
)
(398
)
(576
)
Effect of foreign exchange rate changes on cash and cash equivalents
—

—

9

—

9

Net (decrease) increase in cash and cash equivalents
(1
)
22

1

—

22

Cash and cash equivalents, beginning of period
2

97

185

—

284

Cash and cash equivalents, end of period
$
1

119

186

—

306



I-28
Table of Contents
QVC, Inc.
Notes to Condensed Consolidated Financial Statements (continued)
(unaudited)


Condensed Consolidating Statements of Cash Flows
Six months ended June 30, 2016
 
(in millions)
Parent
issuer-
QVC, Inc.

Combined
subsidiary
guarantors

Combined
non-guarantor
subsidiaries

Eliminations

Consolidated-
QVC, Inc. and
subsidiaries

Operating activities:
 
 
 
 
 
Net cash provided by (used in) operating activities
$
428

182

(3
)
—

607

Investing activities:





Capital expenditures
(75
)
(3
)
(20
)
—

(98
)
Expenditures for television distribution rights
—

(6
)
—

—

(6
)
Changes in other noncurrent assets
1

—

(3
)
—

(2
)
Other investing activities
(6
)
—

8

—

2

Intercompany investing activities
316

127

—

(443
)
—

Net cash provided by (used in) investing activities
236

118

(15
)
(443
)
(104
)
Financing activities:





Principal payments of debt and capital lease obligations
(920
)
—

(3
)
—

(923
)
Principal borrowings of debt from senior secured credit facility
778

—

—

—

778

Payment of debt origination fees
(2
)
—

—

—

(2
)
Dividends paid to Liberty
(323
)
—

—

—

(323
)
Dividends paid to noncontrolling interest
—

—

(21
)
—

(21
)
Other financing activities
(8
)
—

—

—

(8
)
Net short-term intercompany debt (repayments) borrowings
(90
)
(1,473
)
1,563

—

—

Other intercompany financing activities
(96
)
1,198

(1,545
)
443

—

Net cash used in financing activities
(661
)
(275
)
(6
)
443

(499
)
Effect of foreign exchange rate changes on cash and cash equivalents
—

—

4

—

4

Net increase (decrease) in cash and cash equivalents
3

25

(20
)
—

8

Cash and cash equivalents, beginning of period
—

112

215

—

327

Cash and cash equivalents, end of period
$
3

137

195

—

335




I-29
Table of Contents


Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations
Certain statements in this Quarterly Report on Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, including statements regarding our business, product and marketing strategies; new service offerings; revenue growth and subscriber trends; the recoverability of our goodwill and other long-lived assets; our projected sources and uses of cash and the anticipated impact of certain contingent liabilities related to legal and tax proceedings and other matters arising in the ordinary course of business. Where, in any forward-looking statement, we express an expectation or belief as to future results or events, such expectation or belief is expressed in good faith and believed to have a reasonable basis, but there can be no assurance that the expectation or belief will result or be achieved or accomplished. The following include some but not all of the factors that could cause actual results or events to differ materially from those anticipated:
•
customer demand for our products and services and our ability to adapt to changes in demand;
•
competitor responses to our products and services;
•
increased digital TV penetration and the impact on channel positioning of our programs;
•
the levels of online traffic on our websites and our ability to convert visitors into consumers or contributors;
•
uncertainties inherent in the development and integration of new business lines and business strategies;
•
our future financial performance, including availability, terms and deployment of capital;
•
our ability to successfully integrate and recognize anticipated efficiencies and benefits from the businesses we acquire;
•
the ability of suppliers and vendors to deliver products, equipment, software and services;
•
the outcome of any pending or threatened litigation;
•
availability of qualified personnel;
•
changes in, or failure or inability to comply with, government regulations, including, without limitation, regulations of the Federal Communications Commission, and adverse outcomes from regulatory proceedings;
•
changes in the nature of key strategic relationships with partners, distributors, suppliers and vendors;
•
domestic and international economic and business conditions and industry trends;
•
changes in tariffs, trade policy and trade relations following the 2016 U.S. presidential election and the vote by the U.K. to exit from the European Union (“Brexit”);
•
consumer spending levels, including the availability and amount of individual consumer debt;
•
advertising spending levels;
•
changes in distribution and viewing of television programming, including the expanded deployment of personal video recorders, video on demand and Internet Protocol television and their impact on home shopping programming;
•
rapid technological changes;
•
failure to protect the security of personal information, subjecting us to potentially costly government enforcement actions and/or private litigation and reputational damage;
•
the regulatory and competitive environment of the industries in which we operate;
•
threatened terrorist attacks, political unrest in international markets and ongoing military action around the world;
•
fluctuations in foreign currency exchange rates; and


I-30
Table of Contents


•
Liberty Interactive Corporation’s ("Liberty") dependence on our cash flow for servicing its debt and for other purposes.
For additional risk factors, please see Part I, Item 1A of our Annual Report on Form 10-K for the year ended December 31, 2016 as well as Part II, Item 1A. Risk Factors of this Quarterly Report on Form 10-Q. These forward-looking statements and such risks, uncertainties and other factors speak only as of the date of this Quarterly Report on Form 10-Q, and we expressly disclaim any obligation or undertaking to disseminate any updates or revisions to any forward-looking statement contained herein, to reflect any change in our expectations with regard thereto, or any other change in events, conditions or circumstances on which any such statement is based.
The following discussion and analysis provides information concerning our results of operations and financial condition. This discussion should be read in conjunction with our accompanying condensed consolidated financial statements and the notes thereto and our Annual Report on Form 10-K for the year ended December 31, 2016.
Overview
QVC, Inc. (unless otherwise indicated or required by the context, the terms "we," "our," "us," the "Company" and "QVC" refer to QVC, Inc. and its consolidated subsidiaries) is a retailer of a wide range of consumer products, which are marketed and sold primarily by merchandise-focused televised shopping programs, the Internet and mobile applications.
In the United States ("U.S."), our televised shopping programs, including live and recorded content, are broadcast across multiple channels nationally on a full-time basis, including QVC, QVC2 (f/k/a QVC Plus) and the recently launched Beauty iQ. Our U.S. programming is also available on QVC.com, our U.S. website; mobile applications via streaming video; over-the-air broadcasters; and over-the-top content platforms (Roku, Apple TV, etc.).
We believe that our digital platforms complement our televised shopping programs by allowing consumers to purchase a wide assortment of goods offered on our televised programs, as well as other products that are available only on our digital platforms. We view e-commerce as a natural extension of our business, allowing us to stream live video and offer on-demand video segments of items recently presented live on our televised programs. Our digital platforms allow shoppers to browse, research, compare and perform targeted searches for products, control the order-entry process and conveniently access their QVC account.
Our international televised shopping programs, including live and recorded content, are distributed to households outside of the U.S., primarily in Germany, Austria, Japan, the United Kingdom ("U.K."), the Republic of Ireland, Italy and France. In some of the countries where we operate, our televised shopping programs are broadcast across multiple QVC channels: QVC Beauty & Style and QVC Plus in Germany and QVC Beauty, QVC Extra, QVC Style and QVC +1 in the U.K. The programming created for most of these markets is also available via streaming video on our digital platforms. Our international business employs product sourcing teams who select products tailored to the interests of each local market.
The Company's Japanese operations ("QVC-Japan") are conducted through a joint venture with Mitsui & Co., LTD ("Mitsui") for a television and multimedia retailing service in Japan. QVC-Japan is owned 60% by the Company and 40% by Mitsui. The Company and Mitsui share in all profits and losses based on their respective ownership interests. During the six months ended June 30, 2017 and 2016, QVC-Japan paid dividends to Mitsui of $22 million and $21 million, respectively.
The Company also has a joint venture with CNR Media Group, formerly known as China Broadcasting Corporation, a limited liability company owned by China National Radio (''CNR''). The Company owns a 49% interest in a CNR subsidiary, CNR Home Shopping Co., Ltd. (''CNRS''). CNRS operates a retail business in China through a shopping television channel with an associated website. This joint venture is accounted for as an equity method investment recorded as equity in losses of investee in the condensed consolidated statements of operations.


I-31
Table of Contents


The Company is an indirect wholly-owned subsidiary of Liberty, which owns interests in a broad range of digital commerce businesses, and is attributed to Liberty's QVC Group. The QVC Group common stock (Nasdaq: QVCA and QVCB) tracks the assets and liabilities of the QVC Group. The QVC Group tracks the Company, zulily, llc and Liberty's 38% equity interest in HSN, Inc. ("HSN"), one of the Company's two closest televised shopping competitors, cash and certain liabilities. On July 6, 2017, Liberty announced plans to acquire the remaining interest in HSN, Inc., which would make it a wholly-owned subsidiary of Liberty following the closing. On April 4, 2017, Liberty entered into an agreement with General Communications, Inc. ("GCI"), an Alaska corporation, and Liberty Interactive LLC, a Delaware limited liability company and a direct wholly-owned subsidiary of Liberty, whereby Liberty will acquire GCI through a reorganization in which certain assets and liabilities attributed to Liberty’s Ventures Group will be contributed to GCI in exchange for a controlling interest in GCI. Liberty will then effect a tax-free separation of its controlling interest in the combined company, leaving QVC Group common stock as the only outstanding common stock of Liberty. Neither the proposed transactions involving GCI nor the acquisition of HSN is conditioned on the completion of the other, and no assurance can be given as to which of these transactions will be completed first. The QVC Group does not represent a separate legal entity; rather, it represents those businesses, assets and liabilities that are attributed to that group.
On October 1, 2015, Liberty acquired all of the outstanding shares of zulily, inc. ("zulily") (now known as zulily, llc). zulily is an online retailer offering customers a fun and entertaining shopping experience with a fresh selection of new product styles launched each day for a limited time period. zulily is attributed to the QVC Group and the Company believes that its business is complementary to the Company. zulily is not part of the results of operations or financial position of QVC presented in the accompanying condensed consolidated financial statements. During each of the six months ended June 30, 2017 and 2016, QVC and zulily engaged in multiple transactions relating to sales, sourcing of merchandise, marketing initiatives, business advisory services and software development. The gross value of these transactions totaled approximately $5 million and $7 million, respectively, which did not have a material impact on QVC's financial position, results of operations, or liquidity.
On June 23, 2016, QVC amended and restated its senior secured credit facility (the "Third Amended and Restated Credit Agreement") increasing the revolving credit facility from $2.25 billion to $2.65 billion as explained further in note 6 to the Company's condensed consolidated financial statements. The Third Amended and Restated Credit Agreement includes a $400 million tranche that may be borrowed by QVC or zulily. Under the terms of the Third Amended and Restated Credit Agreement, QVC and zulily are jointly and severally liable for all amounts borrowed on the $400 million tranche. In accordance with the accounting guidance for obligations resulting from joint and several liability arrangements, QVC will record a liability for amounts it has borrowed under the credit facility plus any additional amount it expects to repay on behalf of zulily. As of June 30, 2017, there was $320 million borrowed by zulily on the $400 million tranche of the Third Amended and Restated Credit Agreement, none of which the Company expects to repay on behalf of zulily.
Strategies and challenges of business units
QVC's goal is to become the preeminent global multimedia shopping community for people who love to shop, and to offer a shopping experience that is as much about entertainment and enrichment as it is about buying. QVC's objective is to provide an integrated shopping experience that utilizes all forms of media including television, the Internet and mobile devices. QVC intends to employ several strategies to achieve these goals and objectives. Among these strategies are to (i) extend the breadth, relevance and exposure of the QVC brand; (ii) source products that represent unique quality and value; (iii) create engaging presentation content in televised programming, mobile and online; (iv) leverage customer loyalty and continue multi-platform expansion; and (v) create a compelling and differentiated customer experience.
QVC's future net revenue growth will primarily depend on sales growth from e-commerce and mobile platforms, additions of new customers from households already receiving QVC's television programming and increased spending from existing customers. QVC's future net revenue may also be affected by (i) the willingness of cable television and direct-to-home satellite system operators to continue carrying QVC's programming service; (ii) QVC's ability to maintain favorable channel positioning, which may become more difficult due to governmental action or from distributors converting analog customers to digital; (iii) changes in television viewing habits because of personal video recorders, video-on-demand and Internet video services; and (iv) general economic conditions.


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The prolonged economic uncertainty in various regions of the world in which our subsidiaries and affiliates operate could adversely affect demand for our products and services since a substantial portion of our revenue is derived from discretionary spending by individuals, which typically falls during times of economic instability. Global financial markets continue to experience disruptions, including increased volatility and diminished liquidity and credit availability. If economic and financial market conditions in the U.S. or other key markets, including Japan and Europe, remain uncertain, persist, or deteriorate further, our customers may respond by suspending, delaying, or reducing their discretionary spending. A suspension, delay or reduction in discretionary spending could adversely affect revenue. Accordingly, our ability to increase or maintain revenue and earnings could be adversely affected to the extent that relevant economic environments remain weak or decline. We currently are unable to predict the extent of any of these potential adverse effects.
On June 23, 2016, the U.K. held a referendum in which British citizens approved an exit from the European Union (the "E.U."), commonly referred to as “Brexit.” As a result of the referendum, the global markets and currencies have been adversely impacted, including a sharp decline in the value of the U.K. Pound Sterling as compared to the U.S. Dollar. Volatility in exchange rates is expected to continue in the short term as the U.K. negotiates its exit from the E.U. In the longer term, any impact from Brexit on us will depend, in part, on the outcome of tariff, trade, regulatory and other negotiations. Although it is unknown what the result of those negotiations will be, it is possible that new terms may adversely affect our operations and financial results. On March 29, 2017, the U.K. invoked Article 50 of the Treaty of Lisbon, which is the first step of the U.K.’s formal exit from the EU. This started the two-year window in which the U.K. and the European Commission can negotiate future terms for imports, exports, taxes, employment, immigration and other areas, ending in the exit of the U.K. from the E.U.
The current President of the U.S. has expressed apprehension towards existing trade agreements, such as the North American Free Trade Agreement and the Trans-Pacific Partnership, and suggested that the U.S. would renegotiate or withdraw from these agreements. He also raised the possibility of significantly increasing tariffs on goods imported into the United States, particularly from China and Mexico. On January 23, 2017, the President of the U.S. signed a presidential memorandum to withdraw the U.S. from the Trans-Pacific Partnership. This and the other proposed actions, if implemented, could adversely affect our business because we sell imported products.


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Results of Operations
QVC's operating results were as follows:
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

Net revenue
$
1,979

2,063

3,944

4,076

Costs of goods sold
1,230

1,285

2,473

2,565

Gross profit
749

778

1,471

1,511

Operating expenses:
 
 
 
 
Operating
137

146

274

288

Selling, general and administrative, excluding stock-based compensation
144

169

295

345

Adjusted OIBDA
468

463

902

878

Stock-based compensation
8

10

14

16

Depreciation
37

31

78

65

Amortization
117

115

233

229

Operating income
306

307

577

568

Other (expense) income:
 
 
 
 
Equity in losses of investee
(1
)
(1
)
(3
)
(2
)
Interest expense, net
(56
)
(54
)
(111
)
(107
)
Foreign currency (loss) gain
(8
)
20

(10
)
22


(65
)
(35
)
(124
)
(87
)
Income before income taxes
241

272

453

481

Income tax expense
(90
)
(104
)
(167
)
(180
)
Net income
151

168

286

301

Less net income attributable to the noncontrolling interest
(10
)
(11
)
(21
)
(19
)
Net income attributable to QVC, Inc. stockholder
$
141

157

265

282

Net revenue
Net revenue by segment was as follows:
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

QVC-U.S.
$
1,367

1,428

2,737

2,835

QVC-International
612

635

1,207

1,241

Consolidated QVC
$
1,979

2,063

3,944

4,076

QVC's consolidated net revenue decreased 4.1% and 3.2% for the three and six months ended June 30, 2017, respectively, as compared to the corresponding periods in the prior year. The three month decrease in net revenue of $84 million was primarily comprised of $43 million due to a 1.8% decrease in units sold, $31 million due to unfavorable foreign currency rates, $12 million due to a 0.5% decrease in average selling price per unit ("ASP"), $10 million due to a decrease in shipping and handling revenue, and a $8 million decrease in miscellaneous income. The decrease was offset by a decrease in estimated product returns of $20 million. The six month decrease in net revenue of $132 million was primarily comprised of $107 million due to a 2.3% decrease in ASP, $58 million due to unfavorable foreign currency rates, a decrease in shipping and handling revenue of $12 million, and a $8 million decrease in miscellaneous income. The decrease was partially offset by a $47 million decrease in estimated product returns and a $6 million increase due to a slight increase in units sold.


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During the three and six months ended June 30, 2017 and 2016, the changes in revenue and expenses were affected by changes in the exchange rates for the Japanese Yen, the Euro and the U.K. Pound Sterling. In the event the U.S. Dollar strengthens against these foreign currencies in the future, QVC's revenue and operating cash flow will be negatively affected. Our product margins may continue to be under pressure due to the devaluation of the U.K. Pound Sterling, which we will try to offset as much of this as possible through pricing and vendor negotiations, as Brexit develops as mentioned above.
In discussing our operating results, the term currency exchange rates refers to the currency exchange rates we use to convert the operating results for all countries where the functional currency is not the U.S. Dollar. We calculate the effect of changes in currency exchange rates as the difference between current period activity translated using the prior period's currency exchange rates. Throughout our discussion, we refer to the results of this calculation as the impact of currency exchange rate fluctuations. When we refer to constant currency operating results, this means operating results without the impact of the currency exchange rate fluctuations. The disclosure of constant currency amounts or results permits investors to understand better QVC’s underlying performance without the effects of currency exchange rate fluctuations.
The percentage (decrease) increase in net revenue for each of QVC's segments in U.S. Dollars and in constant currency was as follows:

Three months ended June 30, 2017
 
Six months ended June 30, 2017
 

U.S. Dollars

Foreign Currency Exchange Impact

Constant currency

U.S. Dollars

Foreign Currency Exchange Impact

Constant currency

QVC-U.S.
(4.3
)%
—
 %
(4.3
)%
(3.5
)%
—
 %
(3.5
)%
QVC-International
(3.6
)%
(5.1
)%
1.5
 %
(2.7
)%
(4.7
)%
2.0
 %
QVC-U.S. net revenue decline for the three and six months ended June 30, 2017 was primarily due to a 3.3% and 1.2% decrease in units shipped, 1.0% and 2.9% decreases in ASP, and decreases of $9 million and $13 million in net shipping and handling revenue, respectively. The decreases for the three and six months ended June 30, 2017 were partially offset by decreases in estimated product returns of $22 million and $49 million, respectively. QVC-U.S. experienced a system outage that had an estimated 1% negative impact to net revenue during the second quarter that resulted in shipment backlog into the third quarter. The decrease in net shipping and handling revenue was a result of a decrease in shipping and handling revenue per unit from promotional offers and lower sales. The decrease in estimated product returns was primarily due to an overall lower return rate and reduced sales. For the three months ended June 30, 2017, QVC-US experienced shipped sales declines in all categories except home, and for the six months ended June 30, 2017 QVC-US experienced shipped sales declines in all categories except apparel.
QVC-International net revenue growth in constant currency for the three months ended June 30, 2017 was primarily due to a 1.0% increase in ASP, mainly in the U.K., Germany and Italy, offset by a decrease in ASP in Japan. Additionally, there was a 0.7% increase in units shipped, mainly in Japan. Net revenue growth in constant currency for the six months ended June 30, 2017 was primarily due to a 2.4% increase in units shipped, mainly in Japan and Germany, offset by a 0.6% decrease in ASP, primarily in Japan. For the three and six months ended June 30, 2017, QVC-International experienced shipped sales growth in constant currency in beauty, accessories and apparel with declines in home, jewelry and electronics.
Gross profit
QVC's gross profit percentage was 37.8% and 37.3% for the three and six months ended June 30, 2017, respectively, compared to 37.7% and 37.1% for the three and six months ended June 30, 2016. For the three and six months ended June 30, 2017, the gross profit percentage increased primarily due to an increase in product margins, offset by increases in warehouse costs in the U.S. due in part to the addition of the California distribution center that opened in the third quarter of 2016.
Operating expenses
QVC's operating expenses are principally comprised of commissions, order processing and customer service expenses, credit card processing fees and telecommunications expenses. Operating expenses decreased $9 million or 6.2% and decreased $14 million or 4.9% for the three and six months ended June 30, 2017 as compared to the three and six months ended June 30, 2016, respectively.


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For the three and six months ended June 30, 2017, operating expenses decreased primarily due to decreases in customer service expense of $3 million and $7 million, decreases in commissions expense of $3 million and $2 million and $3 million and $5 million in favorable foreign currency exchange rates, respectively. The decreases in customer service expenses was primarily due to lower call volumes for the three and six months ended June 30, 2017 and the closure of the Port St. Lucie call center in March of 2016 for the six months ended June 30, 2017. The decreases in commission expenses were due to a decrease in U.S. sales for both periods offset by additional channel placement fees in the U.K.
Selling, general and administrative expenses (excluding stock-based compensation)
QVC's selling, general, and administrative expenses (excluding stock-based compensation) include personnel, information technology, provision for doubtful accounts, production costs, credit card income, marketing and advertising expenses. Such expenses decreased $25 million for the three months ended June 30, 2017, and decreased $50 million for the six months ended June 30, 2017, respectively, compared to the same period in the prior year. Such expenses decreased from 8.2% to 7.3% and 8.5% to 7.5%, as a percentage of net revenue, as compared to the three and six months ended June 30, 2016, respectively.
For the three months ended June 30, 2017, the decrease was primarily due to a decrease in bad debt expense of $19 million, $4 million from favorable foreign currency rates, a $4 million decrease in external services, a $2 million increase in credit card income and a $2 million decrease in various other expenses offset by increases of $3 million in both software expense and personnel costs. The decrease in bad debt expense was primarily related to lower default rates experienced from prior periods mostly related to the Easy-Pay program in the U.S. and lower sales in the period. The decrease in external services was primarily due to costs related to internal control enhancements, a decrease in outside legal services and the establishment of a global business service center incurred in the prior year. The increase in credit card income was due to the favorable economics of the QVC-branded credit card portfolio in the U.S. Software expense increased primarily due to increases in software licenses and maintenance. The increase in personnel costs was primarily due to an increase in bonus compensation mostly in the U.S. offset by decreases in salaries and wages.
For the six months ended June 30, 2017, the decrease was primarily due to a decrease in bad debt expense of $21 million, $8 million from favorable foreign currency rates, reduced personnel costs of $5 million, a $5 million increase in credit card income, a $4 million decrease in external services, a $3 million decrease in marketing expenses and a $9 million decrease in various other expenses offset by an increase of $5 million in software expense. The decrease in bad debt expense was primarily related to lower default rates experienced from prior periods mostly related to the Easy-Pay program in the U.S. and lower sales in the period. The decrease in personnel costs was primarily due to a decrease in wages and severance offset partially by higher bonus expenses. The increase in credit card income was due to the favorable economics of the QVC-branded credit card portfolio in the U.S. The decrease in external services was primarily due to costs related to internal control enhancements, a decrease in outside legal services and the establishment of a global business service center incurred in the prior year. The decrease in marketing expenses was primarily due to a decrease in promotional advertising with zulily. Software expense increased primarily due to increases in software licenses and maintenance.
Stock-based compensation
Stock-based compensation includes compensation related to options and restricted stock granted to certain officers and employees. QVC recorded $8 million and $10 million of stock-based compensation expense for the three months ended June 30, 2017 and 2016, respectively, and $14 million and $16 million of stock-based compensation expense for the six months ended June 30, 2017 and 2016, respectively.


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Depreciation and amortization
Depreciation and amortization consisted of the following:
 
Three months ended June 30,
 
Six months ended June 30,
 
(in millions)
2017

2016

2017

2016

Affiliate agreements
$
37

37

73

73

Customer relationships
43

42

84

85

Acquisition related amortization
80

79

157

158

Property and equipment
37

31

78

65

Software amortization
22

23

46

47

Channel placement amortization and related expenses
15

13

30

24

Total depreciation and amortization
$
154

146

311

294

For the three and six months ended June 30, 2017, depreciation and amortization increased primarily due to expense related to the addition of the California distribution center in the third quarter of 2016 and additional channel placement related to Beauty iQ in the U.S.
Equity in losses of investee
The losses were associated with our joint venture in China that is accounted for as an equity method investment.
Interest expense, net
For the three and six months ended June 30, 2017, consolidated interest expense, net increased $2 million or 3.7% and increased $4 million or 3.7%, respectively, as compared to the corresponding period in the prior year. For the three and six months ended June 30, 2017, interest expense, net increased primarily due to income related to the ineffective portion of a hedge of a net investment in the prior year.
Foreign currency (loss) gain
Certain loans between QVC and its subsidiaries are deemed to be short-term in nature, and accordingly, the translation of these loans is recorded in the accompanying condensed consolidated statements of operations. For the three and six months ended June 30, 2017, the change in foreign currency (loss) gain was also due to variances in interest and operating payables balances between QVC and its international subsidiaries denominated in the currency of the subsidiary and the effects of currency exchange rate changes on those balances.
Income taxes
Our effective tax rate was 37.3% and 36.9% for the three and six months ended June 30, 2017, respectively, and our effective tax rate for the three and six months ended June 30, 2016 was 38.2% and 37.4%, respectively. These rates differ from the U.S. federal income tax rate of 35.0% primarily due to state tax expense.
Adjusted Operating Income before Depreciation and Amortization (Adjusted OIBDA)
QVC defines Adjusted OIBDA as net revenue less cost of goods sold, operating expenses and selling, general and administrative expenses (excluding stock-based compensation). QVC's chief operating decision maker and management team use this measure of performance in conjunction with other measures to evaluate the businesses and make decisions about allocating resources among the businesses. QVC believes that this is an important indicator of the operational strength and performance of the businesses, including the ability to service debt and fund capital expenditures. In addition, this measure allows QVC to view operating results, perform analytical comparisons and perform benchmarking among its businesses and identify strategies to improve performance. This measure of performance excludes such costs as depreciation, amortization and stock-based compensation that are included in the measurement of operating income pursuant to U.S. generally accepted accounting principles ("U.S. GAAP"). Accordingly, Adjusted OIBDA should be considered in addition to, but not as a substitute for, operating income, net income, cash flow provided by operating activities and other measures of financial performance prepared in accordance with U.S. GAAP.


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The primary material limitations associated with the use of Adjusted OIBDA as compared to U.S. GAAP results are (i) it may not be comparable to similarly titled measures used by other companies in the industry, and (ii) it excludes financial information that some may consider important in evaluating QVC's performance. QVC compensates for these limitations by providing disclosure of the difference between Adjusted OIBDA and U.S. GAAP results, including providing a reconciliation of Adjusted OIBDA to U.S. GAAP results, to enable investors to perform their own analysis of QVC's operating results. See to note 11 to the accompanying condensed consolidated financial statements for a reconciliation of Adjusted OIBDA to income before income taxes.
Seasonality
QVC's business is seasonal due to a higher volume of sales in the fourth calendar quarter related to year-end holiday shopping. In recent years, QVC has earned, on average, between 22% and 24% of its revenue in each of the first three quarters of the year and between 30% and 32% of its revenue in the fourth quarter of the year.
Financial Position, Liquidity and Capital Resources
General
Historically, QVC's primary sources of cash have been cash provided by operating activities and borrowings. In general, QVC uses this cash to fund its operations, make capital purchases, make payments to Liberty, make interest payments and minimize QVC's outstanding senior secured credit facility balance.
As of June 30, 2017, substantially all of QVC's cash and cash equivalents were invested in AAA rated money market funds and time deposits with banks rated equal to or above A.
Senior Secured Notes
All of QVC's senior secured notes are secured by the capital stock of QVC and certain of its subsidiaries and have equal priority to QVC's senior secured credit facility. The interest on all of QVC's senior secured notes is payable semi-annually.
Senior Secured Credit Facility
On June 23, 2016, QVC entered into the Third Amended and Restated Credit Agreement with zulily as borrowers (collectively, the “Borrowers”), which is a multi-currency facility that provides for a $2.65 billion revolving credit facility with a $300 million sub-limit for standby letters of credit and $1.5 billion of uncommitted incremental revolving loan commitments or incremental term loans. The Third Amended and Restated Credit Agreement includes a $400 million tranche that may be borrowed by the Company or zulily with an additional $50 million sub-limit for standby letters of credit. The remaining $2.25 billion and any incremental loans may be borrowed only by the Company. Borrowings that are alternate base rate loans will bear interest at a per annum rate equal to the base rate plus a margin that varies between 0.25% and 0.75% depending on the Borrowers’ combined ratio of Consolidated Total Debt to Consolidated EBITDA for the most recent four fiscal quarter periods (the “Combined Consolidated Leverage Ratio”). Borrowings that are London Interbank Offered Rate ("LIBOR") loans will bear interest at a per annum rate equal to the applicable LIBOR rate plus a margin that varies between 1.25% and 1.75% depending on the Borrowers’ Combined Consolidated Leverage Ratio. Because the calculation of the Combined Consolidated Leverage Ratio was revised to include zulily, the effective interest rate margins, on the date that the Third Amended and Restated Credit Agreement was entered into, decreased from the interest rate margins under the previous bank credit facility. Each loan may be prepaid at any time and from time to time without penalty other than customary breakage costs. No mandatory prepayments will be required other than when borrowings and letter of credit usage exceed availability; provided that, if zulily ceases to be controlled by Liberty, all of its loans must be repaid and its letters of credit cash collateralized. The facility matures on June 23, 2021, except that $140 million of the $2.25 billion commitment available to QVC matures on March 9, 2020. Any amounts prepaid on the revolving facility may be reborrowed. Payment of loans may be accelerated following certain customary events of default.
QVC had $1.03 billion, including the remaining portion available under the $400 million tranche that zulily may also borrow on, available under the terms of the Third Amended and Restated Credit Agreement at June 30, 2017. The interest rate on the Third Amended and Restated Credit Agreement was 2.7% at June 30, 2017.


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The purpose of the amendment was to, among other things, extend the maturity of the Company's senior secured credit facility, provide zulily the opportunity to borrow on the senior secured credit facility (see notes 1 and 6 to the accompanying condensed consolidated financial statements), and lower the interest rate on borrowings. The payment and performance of the Borrowers’ obligations under the Third Amended and Restated Credit Agreement are guaranteed by each of QVC’s Material Domestic Subsidiaries (as defined in the Third Amended and Restated Credit Agreement). Further, the borrowings under the Third Amended and Restated Credit Agreement are secured, pari passu with QVC’s existing notes, by a pledge of all of the capital stock of QVC. The payment and performance of the Borrowers’ obligations with respect to the $400 million tranche available to both QVC and zulily are also guaranteed by each of zulily’s Material Domestic Subsidiaries (as defined in the Third Amended and Restated Credit Agreement), if any, and are secured by a pledge of all of zulily’s equity interests.
The Third Amended and Restated Credit Agreement contains certain affirmative and negative covenants, including certain restrictions on the Company and zulily and each of their respective restricted subsidiaries (subject to certain exceptions) with respect to, among other things: incurring additional indebtedness; creating liens on property or assets; making certain loans or investments; selling or disposing of assets; paying certain dividends and other restricted payments; dissolving, consolidating or merging; entering into certain transactions with affiliates; entering into sale or leaseback transactions; restricting subsidiary distributions; and limiting the Company’s consolidated leverage ratio and the Borrowers’ Combined Consolidated Leverage Ratio.
Other Debt Related Information
QVC was in compliance with all of its debt covenants at June 30, 2017.
During the quarter, there were no significant changes to QVC's debt credit ratings.
There are no restrictions under QVC's debt agreements on QVC's ability to pay dividends or make other restricted payments if QVC is not in default on its senior secured notes or senior secured credit facility, and as long as both QVC's consolidated leverage ratio, and a Combined Consolidated Leverage Ratio for both QVC and zulily, would be no greater than 3.5 to 1.0. As a result, Liberty will, in many instances, be permitted to rely on QVC's cash flow for servicing Liberty's debt and for other purposes, including repurchases of Liberty's common stock, or to fund acquisitions or other operational requirements of Liberty and its subsidiaries. These events may deplete QVC's equity or require QVC to borrow under the senior secured credit facility, increasing QVC's leverage and decreasing liquidity. QVC has made significant distributions to Liberty in the past.
Interest Rate Swap Arrangements
During the year ended December 31, 2016, QVC entered into a three-year interest rate swap arrangement with a notional amount of $125 million to mitigate the interest rate risk associated with interest payments related to its variable rate debt. The swap arrangement does not qualify as a cash flow hedge under U.S. GAAP. Accordingly, changes in the fair value of the swap are reflected in gain on financial instruments in the accompanying condensed consolidated statements of operations. At June 30, 2017, the fair value of the swap instrument was in a net asset position of approximately $2 million which was included in other noncurrent assets.
Additional Cash Flow Information
During the six months ended June 30, 2017, QVC's primary uses of cash were $1,406 million of principal payments on debt and capital lease obligations, $233 million of dividend payments to Liberty, $73 million of capital and television distribution rights expenditures and $22 million in dividend payments from QVC-Japan to Mitsui. These uses of cash were funded primarily with $1,094 million of principal borrowings from the senior secured credit facility and $663 million of cash provided by operating activities. As of June 30, 2017, QVC's cash and cash equivalents balance (excluding restricted cash) was $306 million.
During the six months ended June 30, 2016, QVC's primary uses of cash were $923 million of principal payments on debt and capital lease obligations, $323 million of dividends to Liberty, $104 million of capital and television distribution rights expenditures and $21 million in dividend payments from QVC-Japan to Mitsui. These uses of cash were funded primarily with $778 million of principal borrowings from the senior secured credit facility and $607 million of cash provided by operating activities. As of June 30, 2016, QVC's cash and cash equivalents balance (excluding restricted cash) was $335 million.


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The change in cash provided by operating activities for the six months ended June 30, 2017 compared to the previous year was primarily due to variances in accrued liabilities and accounts payable offset by variances in accounts receivable and inventories. The variances in accrued liabilities and accounts payable balances are primarily due to the timing of payments to vendors. The variance in accounts receivable is primarily due to decreases in the Easy-Pay receivable balance. The variance in inventories are primarily due to the level of increases in inventory balances.
As of June 30, 2017, $162 million of the $306 million in cash and cash equivalents was held by foreign subsidiaries. Cash in foreign subsidiaries is generally accessible, but certain tax consequences may reduce the net amount of cash we are able to utilize for U.S. purposes. QVC accrues taxes on the unremitted earnings of its international subsidiaries. Approximately 80% of this foreign cash balance was that of QVC-Japan. QVC owns 60% of QVC-Japan and shares all profits and losses with the 40% minority interest holder, Mitsui. We believe that we currently have appropriate legal structures in place to repatriate foreign cash as tax-efficiently as possible and meet the business needs of QVC.
Other
Capital expenditures spending in 2017 is expected to be between $165 and $175 million, including $44 million already expended.

Refer to the chart under the "Off-balance Sheet Arrangements and Aggregate Contractual Obligations" section below for additional information concerning the amount and timing of expected future payments under QVC's contractual obligations at June 30, 2017.
QVC has contingent liabilities related to legal and tax proceedings and other matters arising in the ordinary course of business. Although it is reasonably possible QVC may incur losses upon the conclusion of such matters, an estimate of any loss or range of loss cannot be made. In the opinion of management, it is expected that amounts, if any, that may be required to satisfy such contingencies will not be material in relation to the accompanying condensed consolidated financial statements.
Off-balance Sheet Arrangements and Aggregate Contractual Obligations
Information concerning the amount and timing of required payments, both accrued and off-balance sheet, under our contractual obligations at June 30, 2017 is summarized below:

Payments due by period
 
(in millions)
Remainder of 2017

2018

2019

2020

2021

Thereafter

Total

Long-term debt (1)
$
—

—

400

—

1,291

3,150

4,841

Interest payments (2)
102

204

197

192

172

908

1,775

Capital lease obligations (including imputed interest)
7

16

16

12

11

18

80

Operating lease obligations
10

18

13

10

8

68

127

Build to suit lease
3

6

6

6

6

67

94

(1) Amounts exclude capital lease obligations and the issue discounts on our 3.125%, 4.375%, 4.85%, 4.45%, 5.45% and 5.95% Senior Secured Notes. Additionally, the presentation assumes there is no amount outstanding on the $140 million commitment under our senior secured credit facility that matures on March 9, 2020.
(2) Amounts (i) are based on the terms of QVC's senior secured credit facility and senior secured notes, (ii) assumes the interest rates on the floating rate debt remain constant at the rates in effect as of June 30, 2017, (iii) assumes that our existing debt is repaid at maturity and (iv) excludes capital lease obligations.
Our purchase obligations did not materially change as of June 30, 2017.


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Recent Accounting Pronouncements
On May 28, 2014, the Financial Accounting Standards Board (the "FASB") issued Accounting Standards Update ("ASU") No. 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. This new guidance also requires additional disclosure about the nature, amount, timing and uncertainty of revenue and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized from costs incurred to obtain or fulfill a contract. In March 2016, the FASB issued ASU No. 2016-08, Principal versus Agent Considerations (Reporting Revenue Gross versus Net), which clarifies principal versus agent considerations, in April 2016, the FASB issued ASU No. 2016-10, Identifying Performance Obligations and Licensing, which clarifies the identification of performance obligations and the implementation guidance for licensing, and in May 2016, the FASB issued ASU No. 2016-12, Narrow-Scope Improvements and Practical Expedients, which clarifies assessing collectibility, presentation of sales taxes, noncash consideration, and completed contracts and contract modifications at transition. The updated guidance will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective and permits the use of either a full retrospective or modified retrospective transition method. This guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, and early adoption is permitted only for fiscal years beginning after December 15, 2016. The Company has reviewed the applicable ASU and has selected the modified retrospective transition method. At the current time, the Company has not quantified the effects of this pronouncement, but it is working through the relevant aspects to evaluate the quantitative effects of the new guidance. However, the Company expects to elect the practical expedient to not adjust the promised amount of consideration for the effects of a significant financing component when its payment terms are less than one year. The Company plans to be able to quantify the effects of these ASUs no later than the fourth quarter of 2017. The Company is currently assessing the presentation and financial disclosures to evaluate the impact of the amended guidance on the Company's existing revenue recognition policies and procedures. The Company will continue to provide updates as to the progress of the Company's evaluation in its quarterly reports during 2017.
In July 2015, the FASB issued ASU No. 2015-11, Simplifying the Measurement of Inventory, which changes the measurement principle for inventory from the lower of cost or market to lower of cost and net realizable value. The new principle is part of the FASB’s simplification initiative and applies to entities that measure inventory using a method other than last-in, first-out (LIFO) or the retail inventory method. The Company has adopted this guidance as of January 1, 2017, and there was no significant effect of the standard on its financial reporting.
In January 2016, the FASB issued ASU No. 2016-01, Financial Statements - Overall (Subtopic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities, which requires equity investments with readily determinable fair values (except those accounted for under the equity method of accounting or those that result in consolidation) to be measured at fair value with changes in fair value recognized in net income and simplifies the impairment assessment of equity investments without readily determinable fair values by requiring a qualitative assessment to identify impairment. The new standard is effective for the Company for fiscal years and interim periods beginning after December 15, 2017. The adoption of this standard is not expected to have a material impact on the Company’s ongoing financial reporting.
In February 2016, the FASB issued ASU No. 2016-02, Leases (Topic 842), which revises the accounting treatment related to lessee accounting. Under the new guidance, lessees will be required to recognize a lease liability and a right-of-use asset for all leases. The new lease guidance also simplifies the accounting for sale and leaseback transactions primarily because lessees must recognize lease assets and lease liabilities. The amendments in this ASU are effective for the Company beginning on January 1, 2019 and should be applied through a modified retrospective transition approach for leases existing at, or entered into after, the beginning of the earliest comparative period presented in the financial statements. Early adoption is permitted. The Company has not yet determined what the effects of adopting this ASU will be on its ongoing financial reporting.
In March 2016, the FASB issued ASU No. 2016-09, Compensation - Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting, which simplifies several aspects of the accounting for share-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flows. The Company adopted this guidance in the third quarter of 2016. In accordance with the new guidance, excess tax benefits and tax deficiencies are recognized as income tax benefit or expense rather than as additional paid-in capital. The Company has elected to recognize forfeitures as they occur rather than continue to estimate expected forfeitures. In addition, pursuant to the new guidance, excess tax benefits are classified as an operating activity on the condensed consolidated statements of cash flows. The recognition of excess tax benefits and deficiencies are applied prospectively from January 1, 2016. See the "Reclassifications" section in note 1 to the accompanying condensed consolidated financial statements.


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In August 2016, the FASB issued ASU No. 2016-15, Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments, which addresses eight specific cash flow issues to reduce the diversity in practice for appropriate classification on the statement of cash flows. The amendments in this ASU are effective for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In October 2016, the FASB issued ASU No. 2016-16, Income Taxes (Topic 740): Intra-Entity Transfers of Assets Other Than Inventory, which requires an entity to recognize at the transaction date the income tax consequences of intercompany asset transfers other than inventory. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, with early adoption permitted. The Company is currently evaluating the effect that the updated standard will have on its condensed consolidated financial statements and related disclosures.
In November 2016, the FASB issued ASU No. 2016-18, Statement of Cash Flows (Topic 230): Restricted Cash, which requires entities to show the changes in the total of cash, cash equivalents, restricted cash and restricted cash equivalents in the statement of cash flows. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017, with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In January 2017, the FASB issued ASU No. 2017-04, Intangibles - Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment, which simplifies the measurement for impairment by calculating the difference between the carrying amount and the fair value of the reporting unit. The guidance is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2019, with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.
In May 2017, the FASB issued ASU No. 2017-09, Compensation - Stock Compensation (Topic 718): Scope of Modification Accounting, to provide clarity to which changes to the terms or conditions of a share-based payment award require an entity to apply modification accounting in Topic 718. The amendments in this update are effective for all entities for annual periods, and interim periods within those annual periods, beginning after December 15, 2017 with early adoption permitted. The Company does not expect the adoption will have a material effect on its condensed consolidated financial statements.


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Item 3. Quantitative and Qualitative Disclosures about Market Risk
QVC is exposed to market risk in the normal course of business due to ongoing investing and financial activities and the conduct of operations by subsidiaries in different foreign countries. Market risk refers to the risk of loss arising from adverse changes in stock prices, interest rates and foreign currency exchange rates. The risk of loss can be assessed from the perspective of adverse changes in fair values, cash flows and future earnings. QVC has established procedures and internal processes governing the management of market risks and the use of financial instruments to manage exposure to such risks.
Interest rate risk
QVC is exposed to changes in interest rates primarily as a result of borrowing activities. Over the long-term, QVC manages the exposure to interest rates by maintaining what QVC believes is an appropriate mix of fixed and variable rate debt.
The table below summarizes the Company’s debt obligations, related interest rates and fair value of debt at June 30, 2017:
(in millions, except percentages)
Remainder of 2017

2018

2019

2020

2021

Thereafter

Total

Fair Value

Fixed rate debt (1)
$
—

—

400

—

—

3,150

3,550

3,582

Weighted average interest rate on fixed rate debt
—
%
—
%
3.1
%
—
%
—
%
4.9
%
4.7
%
N/A

Variable rate debt
$
—

—

—

—

1,291

—

1,291

1,291

Average interest rate on variable rate debt
—
%
—
%
—
%
—
%
2.7
%
—
%
2.7
%
N/A

(1) Amounts exclude capital lease and build to suit lease obligations and the issue discounts on our 3.125%, 4.375%, 4.85%, 4.45%, 5.45% and 5.95% Senior Secured Notes. Additionally, the presentation assumes there is no amount outstanding on the $140 million commitment under our senior secured credit facility that matures on March 9, 2020.
N/A - Not applicable.
During the year ended December 31, 2016, QVC entered into a three-year interest rate swap arrangement with a notional amount of $125 million to mitigate the interest rate risk associated with interest payments related to its variable rate debt. The swap arrangement does not qualify as a cash flow hedge under U.S. GAAP. Accordingly, changes in the fair value of the swap are reflected in gain on financial instruments in the accompanying condensed consolidated statements of operations. At June 30, 2017, the fair value of the swap instrument was in a net asset position of approximately $2 million which was included in other noncurrent assets. A 1% change in the one-month U.S. LIBOR rate (floating portion of the interest rate swap) would result in a change in the value of the swap instrument of less than $1 million.
Foreign currency exchange rate risk
QVC is exposed to foreign exchange rate fluctuations related to the monetary assets and liabilities and the financial results of its foreign subsidiaries. Assets and liabilities of foreign subsidiaries for which the functional currency is the local currency are translated into U.S. Dollars at period-end exchange rates, and the statements of operations are translated at the average exchange rate for the period. Exchange rate fluctuations on translating foreign currency financial statements into U.S. Dollars that result in unrealized gains or losses are referred to as translation adjustments. Cumulative translation adjustments are recorded in other comprehensive income as a separate component of stockholder's equity. Transactions denominated in currencies other than the functional currency are recorded based on exchange rates at the time such transactions arise. Subsequent changes in exchange rates result in transaction gains and losses, which are reflected in income as unrealized (based on period-end transactions) or realized upon settlement of the transactions. Cash flows from operations in foreign countries are translated at the average rate for the period. Accordingly, QVC may experience economic loss and a negative impact on earnings and equity with respect to its holdings solely as a result of foreign currency exchange rate fluctuations. QVC's reported Adjusted OIBDA for the three and six months ended June 30, 2017 would have been impacted by approximately $1 million and $2 million, respectively, for every 1% change in foreign currency exchange rates relative to the U.S. Dollar.
The Third Amended and Restated Credit Agreement provides QVC with the ability to borrow in multiple currencies. This allows QVC to somewhat mitigate foreign currency exchange rate risks. As of June 30, 2017, no borrowings in foreign currencies were outstanding.


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Item 4. Controls and Procedures
Disclosure Controls and Procedures
In accordance with Rules 13a-15 and 15d-15 under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), the Company carried out an evaluation, under the supervision and with the participation of management, including its chief executive officer and its principal accounting and financial officer (the "Executives"), of the effectiveness of its disclosure controls and procedures as of the end of the period covered by this report. Based on that evaluation, the Executives concluded that the Company's disclosure controls and procedures were effective as of June 30, 2017 to provide reasonable assurance that information required to be disclosed in its reports filed or submitted under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission's rules and forms.
Changes in Internal Control Over Financial Reporting
There has been no change in the Company's internal control over financial reporting that occurred during the three months ended June 30, 2017 that has materially affected, or is reasonably likely to materially affect, its internal control over financial reporting.



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PART II


Item 1A. Risk Factors
Except as discussed below, there have been no material changes in QVC’s risk factors from those disclosed in Part I, Item 1A of its Annual Report on Form 10-K for the year ended December 31, 2016.
The announcement and pendency of Liberty's acquisition of HSN (the "HSN Merger") could divert the attention of management and cause disruptions in the businesses of HSN and Liberty, including QVC, which could have an adverse effect on the business and financial results of HSN, Liberty and QVC.
Liberty, including QVC, and HSN are currently operated independently of each other. Management of HSN, Liberty and QVC may be required to divert a disproportionate amount of attention away from their respective day-to-day activities and operations, and devote time and effort to consummating the HSN Merger. The risks, and adverse effects, of such disruptions and diversions could be exacerbated by a delay in the completion of the HSN Merger. These factors could adversely affect the financial position or results of operations of Liberty, QVC and HSN, regardless of whether the HSN Merger is completed.
Item 6. Exhibits
(a) Exhibits
Listed below are the exhibits which are filed as a part of this Report (according to the number assigned to them in Item 601 of Regulation S-K):
31.1

Rule 13a-14(a)/15d-14(a) Certification*
31.2

Rule 13a-14(a)/15d-14(a) Certification*
32.1

Section 1350 Certification**
101.INS

XBRL Instance Document*
101.SCH

XBRL Taxonomy Extension Schema Document*
101.CAL

XBRL Taxonomy Calculation Linkbase Document*
101.LAB

XBRL Taxonomy Label Linkbase Document*
101.PRE

XBRL Taxonomy Presentation Linkbase Document*
101.DEF

XBRL Taxonomy Definition Document*
*Filed herewith.
**Furnished herewith.


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SIGNATURES


Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
QVC, Inc.
Date: August 8, 2017
By:/s/ MICHAEL A. GEORGE
 
Michael A. George
 
President and Chief Executive Officer (Principal Executive Officer)
 
 
Date: August 8, 2017
By:/s/ THADDEUS J. JASTRZEBSKI
 
Thaddeus J. Jastrzebski
 
Executive Vice President and Chief Financial Officer (Principal Financial Officer and Principal Accounting Officer)


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EXHIBIT INDEX

31.1

Rule 13a-14(a)/15d-14(a) Certification*
31.2

Rule 13a-14(a)/15d-14(a) Certification*
32.1

Section 1350 Certification**
101.INS

XBRL Instance Document*
101.SCH

XBRL Taxonomy Extension Schema Document*
101.CAL

XBRL Taxonomy Calculation Linkbase Document*
101.LAB

XBRL Taxonomy Label Linkbase Document*
101.PRE

XBRL Taxonomy Presentation Linkbase Document*
101.DEF

XBRL Taxonomy Definition Document*
* Filed herewith.
**Furnished herewith.


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