Overview of operations
In Q1, every supermarket had
positive same store sales. The leading growth categories were
pharmacy, natural food, bakery and deli.
Several years ago, Kroger
determined it was competing against more than just the traditional
grocery retailer and its customers were dissatisfied. As a result,
it developed its Customer 1st strategy, which involved four keys: (1)
people, (2) products, (3) shopping experience, and (4) price.
Kroger has tried to neutralize price as being the main issue in
choosing where to shop. It has tried to save money in places not
important to customers and reinvest the money in areas that were
important. Kroger has since grown its market share. It is not easy
to discern where the market share came from, but it includes a
broader range of food retailers, including restaurants.
Customer satisfaction surveys
show improvements in each of the four keys of the Customer 1st
strategy and Kroger is 60 percent towards its goals.
To focus more on the customer,
Kroger entered into a joint venture with dunnhumbyUSA to better
personalize individual rewards and to better understand shopper
behavior.
In Q1, Kroger increased the
number of loyal households. The households are making more visits.
Although they are purchasing fewer items per trip, the total units
sold have increased.
Kroger experienced cost
inflation in Q1, but the rate of inflation is decreasing faster than
the company expected at the beginning of 2012. It estimated the
rate of inflation to be 3.9 percent, excluding fuel. There was
deflation in produce, but inflation in all other department. The
percentage increase in identical store sales (4.2 percent) exceeded
the 3.9 percent inflation rate. There is no deflation overall,
but the rate of increase is slowing. By the end of the year, Kroger
expects the inflation rate to be between 2 and 3 percent.
Total tonnage was flat, except
in produce, which saw a significant growth in tonnage. In
produce,the gross profit rate was down because of the price
decreases, but the gross profit dollars were up. The slowing in the
rate of inflation should increase tonnage in the long run, but it
will be slow to recover because the customer does not view the
economy as being in good shape. Kroger still expects to have an
increase in gross profit dollars in Q2, despite a slowing inflation
rate and a slow increase in tonnage.
Kroger's store brands grew
faster than national brands and represented 26 percent of Kroger's
sales. Kroger's corporate brands team is continually launching new
products, including a recent launch of Private Selection's Snack
Chips in 13 new flavors.
Identical sales in Kroger's
pharmacy increased by double digits. About half of this growth was
from Express Scripts business and the other half from strong pharmacy
performance. Kroger gained a little bit more share of the Express
Scripts business than it expected. It believes it is delivering good
customer service to the Express Scripts customers who have left
Walgreen's and believes there will be some “stickiness” if
Express Scripts and Walgreen's reaches a resolution. Kroger expects
identical pharmacy sales to decline through the year as prescription
drugs come off patent. The number of drugs coming off patent is
significantly higher this year than any other year in which Kroger
has been in the pharmacy business.
As to natural foods, the
biggest growth is from regular customers, who are not die hard natural
foods or organic shoppers. Natural foods are included in dunnhumby.
Ralphs in California has done a
good job of explaining the price investment changes to the customers
and the customers are reacting positively. Kroger cautioned it has
to look at the results over a longer period of time and make
adjustments. It will take a year to determine whether it was really
a good move.
In regards to labor relations,
King Soopers employees just ratified a 2-year extension to the labor
contract. Kroger entered into a new labor contract with workers at
Smith's and Food 4 Less stores in Las Vegas. It also has a number of
other contracts that have expired or will expire soon in the
following locations: Columbus, Dayton, Indianapolis, Louisville,
Memphis, Nashville and Portland.
Evaluation of markets
Overall, the consumer is still
anxious, especially given geopolitical events. Those consumers who
are doing well are spending as if the economy has improved, but those
who are on tight budgets are sensitive to price. Consumer spending
is getting better, but it is slow and bumpy from week to week.
Kroger is not seeing an increase
in EBT business and it may be settling down a bit.
Kroger has not noted any change
in the consumer's spending habits as fuel prices have declined in the
last few weeks. Customers are still nervous about fuel prices and
are concerned the recent decline is just temporary.
Financials
Identical store sales increased
by 4.2 percent, representing the 34th
consecutive quarter of growth. For fiscal year 2012, Kroger expects
identical store sales to increase by 3 to 3.5 percent (excluding
fuel). The reduction from Q1 sales is due to its expectation that
pharmacy sales will decline through the year.
In fuel operations, the
supermarket fuel centers and convenience stores earned $.121 per
gallon versus $.124 a year ago.
FIFO gross margin was 20.7
percent of sales, which was a decrease of 53 basis points (excluding
fuel operations).
Operating, general, and
administrative costs were 15.36 percent of sales, a decrease of 27
basis points. The reduction was a result of productivity
improvements, cost controls, positive sales, and the consolidation of
4 UFCW pension plans. These improvements outweighed higher health
care costs and credit card fees.
Net earnings per share were $.78
versus $.70 a year ago. Kroger's long-term goal is 6 to 8 percent
annual earnings per share growth, and it expects to meet that goal in
Q2 and Q3 2012 and exceed the goal in Q4. It believes earnings per
share for fiscal year 2012 will be $2.28 to $2.38 per share.
At the end of Q1, net total debt
was $7.8 billion, an increase of $662.1 million from a year ago. The
increase in debt was primarily due to the need to fund its UFCW
pension plan consolidation. On a rolling 4 quarters basis, Kroger's
net total debt to adjusted EBITDA ratio was 1.91 versus 1.79 in
Q1/2011.
During Q1, 2012, Kroger
repurchased 14.6 million common shares in an amount of $345.3
million. Its Board of Directors just authorized a new $1 billion
share repurchase program. In the last four quarters, Kroger has
spent $1.6 billion in share buybacks and dividends.
The full transcript of the earnings
conference call can be found on Seeking Alpha at the following link:
http://seekingalpha.com/article/660161-the-kroger-management-discusses-q1-2012-results-earnings-call-transcript
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