The Kroger Co. 2010 Form 10-K Summary
Reporting period: Fiscal year ended January 29, 2011, consisting of 52 weeks. The request metadata identifies “2009 Q4,” but the provided filing is Kroger’s fiscal 2010 annual report and includes quarterly data for fiscal 2010 and 2009.
Business Context
Kroger is a U.S.-only food and drug retailer operating 2,460 supermarkets and multi-department stores, 784 convenience stores, 361 fine jewelry stores, and 40 manufacturing plants. Supermarkets are the only reportable segment. Approximately 338,000 employees supported the business, with most employees covered by collective bargaining agreements.
Key Financial Metrics
| Metric | 2010 | 2009 | Change |
|---|---|---|---|
| Sales | $82.189 billion | $76.733 billion | 7.1% increase |
| Net earnings attributable to Kroger | $1.116 billion | $70 million | Impacted by 2009 impairment |
| Diluted EPS | $1.74 | $0.11 | 2010 included $0.02 impairment impact |
| Adjusted diluted EPS | $1.76 | $1.71 | 3% increase |
| Operating profit | $2.182 billion | $1.091 billion | Impacted by 2009 goodwill impairment |
| FIFO gross margin | 22.29% | 23.23% | 94 basis-point decline |
| OG&A as a percentage of sales | 16.80% | 17.46% | Improved |
| Net cash from operating activities | $3.366 billion | $2.922 billion | 15.2% increase |
| Capital expenditures | $1.897 billion | $2.315 billion | Decrease |
| Total debt, including lease obligations | Approximately $7.9 billion | Approximately $8.1 billion | Decreased $164 million |
Identical supermarket sales increased 2.8% excluding fuel and 5.7% including fuel. Supermarket fuel sales increased 36.6%, reflecting higher fuel prices and a 17.2% increase in gallons sold. The company reported 29 consecutive quarters of positive identical sales growth excluding fuel.
Cash and temporary cash investments were $825 million at year-end, compared with $424 million in 2009. Total assets were $23.505 billion and Kroger shareowners’ equity was $5.296 billion.
Material Changes Versus the Prior Comparable Period
- Sales growth benefited from higher fuel prices, increased fuel volumes, positive identical-store sales, and modest square-footage growth.
- Reported earnings rose sharply because 2009 included a $1.113 billion pre-tax goodwill impairment charge, primarily related to the Ralphs Southern California reporting unit. The 2010 goodwill impairment charge was $18 million pre-tax.
- Adjusted earnings improved modestly, supported by lower interest expense, favorable tax resolutions, higher fuel margins, and share repurchases, but partially offset by lower non-fuel operating profit and a higher LIFO charge.
- FIFO gross margin declined due primarily to investments in lower customer prices and higher transportation costs. The 2010 LIFO charge was $57 million versus $49 million in 2009.
- Operating cash flow increased by $444 million, aided by working-capital changes, while capital spending declined by approximately $418 million.
- Kroger paid $545 million for treasury-stock purchases, including $505 million under open-market repurchase programs, and paid $250 million in dividends.
- The company opened or relocated stores but closed 33 supermarkets during the year, resulting in 2,460 supermarkets at year-end and approximately 149 million square feet of food-store space.
Debt, Liquidity, and Commitments
Kroger had no borrowings under its $2 billion revolving credit facility, commercial paper program, or money-market lines at January 29, 2011. Approximately $1 billion was available for daily commercial-paper borrowing, subject to capacity constraints and credit ratings. Letters of credit totaling $134 million reduced availability under the credit facility.
The company estimated next-twelve-month liquidity needs of approximately $2.0 billion and believed operating cash flow and available borrowing sources were sufficient. The leverage ratio was 1.95 to 1 against a 3.50 to 1 covenant limit, and the fixed-charge coverage ratio was 4.03 to 1 against a 1.70 to 1 minimum.
Contractual obligations totaled $19.261 billion, including $7.434 billion of long-term debt, $5.714 billion of operating lease obligations, $4.033 billion of interest on long-term debt, and $731 million of purchase obligations. These amounts exclude certain pension and multi-employer plan contributions.
Guidance, Outlook, and Management Commentary
- Fiscal 2011 diluted EPS guidance: $1.80 to $1.92.
- Identical supermarket sales growth excluding fuel: 3.0% to 4.0%.
- Non-fuel operating margins expected to be comparable to 2010, excluding the 2010 goodwill impairment charge.
- Fuel margin expected to be approximately $0.115 per gallon, with continued growth in fuel gallons sold.
- Expected LIFO charge: approximately $50 million to $75 million.
- Expected interest expense: approximately $460 million.
- Expected capital investments: $1.7 billion to $1.9 billion, excluding acquisitions and purchases of leased facilities.
- Expected food-store square-footage growth: approximately 1.0% to 1.5% before acquisitions and operational closures.
- Expected effective tax rate: approximately 36%, excluding resolution of tax issues.
- Expected 2011 contribution to multi-employer pension plans: approximately $300 million, subject to collective bargaining and capital-market conditions.
- Management did not expect a cash contribution to company-sponsored defined-benefit pension plans in 2011, although contributions could be required under applicable pension rules.
- Management targeted average diluted-EPS growth of 6% to 8% and total shareholder return of 8% to 10% over rolling three- to five-year periods.
Risks, Contingencies, and Unusual Items
- Intense competition, aggressive pricing, supercenter expansion, nontraditional competitors, economic weakness, inflation, deflation, and cautious consumer spending could pressure sales and margins.
- Labor negotiations in Southern California, Memphis, West Virginia, and the Midwest could increase wages, health-care, and pension costs or result in work stoppages.
- Kroger estimated its share of multi-employer pension-plan underfunding at $2.5 billion pre-tax, or $1.6 billion after tax. This is not a direct recorded liability, but contributions and potential withdrawal liabilities could increase materially.
- A pending Ralphs tax dispute had a potential adverse cash exposure of up to approximately $516 million including interest. The Tax Court had issued a favorable partial summary judgment, but remaining issues and appeal rights were unresolved.
- The company faces ordinary-course litigation, including antitrust, wage-and-hour, civil-rights, personal-injury, and product-liability matters. Management did not expect currently identified matters to have a material adverse effect, but outcomes remain uncertain.
- Food-safety incidents, data-security breaches, information-technology disruptions, adverse weather, natural disasters, regulatory changes, self-insurance claims, and pension assumption changes could adversely affect results.
- Goodwill totaled $1.140 billion after the 2010 impairment. Management did not consider additional impairments reasonably possible based on current forecasts, but impairment testing depends on future cash flows, valuations, competition, and economic conditions.
- On March 3, 2011, the board authorized an additional $1 billion stock-repurchase program. On March 10, 2011, it adopted a new long-term incentive and cash bonus plan subject to shareholder approval.
Investor Verification Checklist
- Verify that the intended period is fiscal 2010 rather than 2009 Q4, because the provided filing covers the year ended January 29, 2011.
- Reconcile reported EPS with adjusted EPS and separately assess the effects of the 2010 goodwill impairment and the much larger 2009 Ralphs impairment.
- Monitor identical-store sales excluding fuel, fuel margins, FIFO gross margin, transportation costs, LIFO charges, and non-fuel operating margins.
- Review debt maturities, lease obligations, covenant headroom, credit ratings, and refinancing requirements, particularly the $1.520 billion debt maturity scheduled for 2013.
- Assess the impact of multi-employer pension underfunding, expected contributions, labor negotiations, and potential withdrawal liabilities.
- Track the Ralphs tax litigation, California antitrust proceedings, and other legal contingencies for changes in expected exposure.
- Compare actual fiscal 2011 results with management’s EPS, identical-sales, fuel-margin, LIFO, capital-expenditure, tax-rate, and pension guidance.