Business Context and Reporting Period
Company: The Kroger Co.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: August 16, 2008 (Second Quarter)
Business Overview: Kroger is a large accelerated filer operating as a supermarket retailer. The reporting period covers the 12-week quarter and the 28-week year-to-date period. The company reported 652,477,042 shares of Common Stock outstanding as of September 19, 2008.
Key Financial Metrics
| Metric (in millions) | Q2 2008 | Q2 2007 | YTD 2008 | YTD 2007 |
|---|---|---|---|---|
| Sales | $18,053 | $16,139 | $41,160 | $36,865 |
| Operating Profit | $548 | $537 | $1,313 | $1,227 |
| Net Earnings | $277 | $267 | $663 | $604 |
| Diluted EPS | $0.42 | $0.38 | $1.00 | $0.85 |
| Operating Cash Flow (YTD) | $2,126 (2008) vs $2,155 (2007) | |||
| Total Debt | $7.6 billion (Aug 16, 2008) | |||
| Cash & Investments | $270 million (Aug 16, 2008) |
Margins: FIFO Gross Margin rate decreased 163 basis points to 22.31% for Q2 2008. Operating, General and Administrative (OG&A) expenses as a percent of sales decreased to 16.37% for Q2 2008.
Material Changes vs. Prior Period
- Sales Growth: Total sales increased 11.9% in Q2 2008 compared to Q2 2007. This was driven by increased tonnage and product cost inflation (estimated at 4.9%). Identical supermarket sales increased 9.7% including fuel, and 4.7% excluding fuel.
- Profitability: Net earnings increased 3.7% to $277 million in Q2 2008. Earnings per share grew 10.5% to $0.42, aided by strong retail fuel margins and share repurchases.
- LIFO Charge: The LIFO charge increased to $46 million in Q2 2008 from $40 million in Q2 2007 due to higher product cost inflation. YTD LIFO charge was $86 million compared to $60 million in 2007.
- Debt Levels: Total debt increased by $952 million to $7.6 billion compared to the prior year quarter, resulting from the issuance of senior notes and increased borrowings under credit facilities, partially offset by debt repayments.
- Capital Expenditures: YTD capital expenditures (excluding acquisitions) totaled $1.115 billion in 2008, up from $1.037 billion in 2007.
Guidance, Outlook, and Risks
Guidance and Outlook
- 2008 EPS: Management maintains guidance of $1.85 to $1.90 per fully diluted share for the full year 2008.
- Sales Growth: Raised the low end of the range for full-year identical supermarket sales growth (excluding fuel) to 4.5% - 5.5% (previously 4.0% - 5.5%).
- LIFO Expense: Expected full-year LIFO charge is approximately $160 million.
- Capital Investment: Expected to be in the range of $2.0 billion - $2.2 billion for 2008.
- Tax Rate: Expected effective tax rate for 2008 is approximately 37%.
Risks and Contingencies
- Hurricane Ike: Operations in Texas, Indiana, Kentucky, and Ohio were affected by Hurricane Ike, impacting fuel supply and costs. The company is evaluating the financial impact.
- Commercial Paper Market: Due to disruptions in the commercial paper market, the company borrowed under its credit facility in September 2008. Continued reliance on credit facilities could increase interest expense.
- Labor Relations: Various labor agreements expire in 2008 (Las Vegas, Phoenix, Portland). Rising health care and pension costs are key negotiation issues; a prolonged work stoppage could materially affect results.
- Litigation:
- Tax Court: A dispute regarding a 1992 transaction (Ralphs Grocery Company) remains pending. An adverse decision could require a cash payment of up to approximately $428 million including interest.
- Antitrust: A lawsuit regarding a Mutual Strike Assistance Agreement resulted in a final judgment in favor of defendants in May 2008, though appeals are ongoing.
- Pension Plans: The company contributes to multi-employer pension plans that are underfunded. Withdrawal liability could be substantial if the company exits certain markets.
Investor Verification Checklist
- Verify LIFO Impact: Confirm the sensitivity of net earnings to the projected $160 million full-year LIFO charge given ongoing inflation trends.
- Assess Liquidity: Review the company's reliance on the $2.5 billion credit facility following the disruption in the commercial paper market.
- Monitor Labor Negotiations: Track the status of expiring labor contracts in Las Vegas, Phoenix, and Portland for potential strike risks.
- Review Tax Litigation: Monitor the status of the Tax Court petition regarding the Ralphs acquisition for potential $428 million liability exposure.
- Check Hurricane Recovery: Evaluate subsequent reports for the quantified financial impact of Hurricane Ike on fuel costs and sales in affected regions.