Highlights From Kroger's (KR) Q4 Conference Call: Competitive Position Strengthening; Guides In-line for FY11

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March 9, 2010 1:42 PM EST

Kroger (NYSE: KR) reports Q4 EPS of $0.39, 5 cents better than the analyst estimate of $0.34. Revenue for the quarter was $18.6 billion, which compares to the estimate of $17.73 billion. Shares are down 2.31% in afternoon trading

Highlights From KR's Q4 Conference Call:

Sees FY11 EPS of $1.60-$1.80, versus the consensus of $1.79.
(David B. Dillon, Chairman & Chief Executive Officer) We are strengthening Kroger's overall competitive position by increasing the number of households that are loyal to Kroger and earning a greater share of their business.
Identical supermarket sales increased 1.2% in Q4 without fuel. For the year, identical supermarket sales without fuel increased 2.1% over 2008.
In Q4 of 2009, we experienced approximately 285 basis points of deflation.
(President & Chief Operating Officer) In 2009, Kroger customers saved over $200 million through fuel discount programs tied to our loyalty cards, and we continue on expand our fuel discount programs for our most loyal customers.
We continue to maintain strong overall tonnage growth that was driven by both corporate brand and national brand sales.
In Q4, we saw mid single-digit growth in sales of our own brands and national brands. This is on top of the double-digit growth we saw in our own brands during the same period last year.
During Q4, corporate brands represented about 27% of our grocery department sales dollars and approximately 35% of our grocery sales units.
While we are seeing good growth in national brand tonnage, the popularity of our industry-leading corporate brand has not diminished with customers.
Kroger continues to make considerable progress in our top sustainability-focus areas. These are waste reduction, plastic bag reduction, energy conservation and transportation. In partnership with our customers, we have increased the amount of plastic we recycle from nine million pounds of plastic in 2007 to 22 million pounds in 2009. We saved nearly 200 million plastic bags last year.
And our fleet efficiency improved by more than 7% in 2009 meaning our Logistics team delivered more cases of products per each gallon of fuel used.
During 2009 we contributed approximately 233 million to several different and multi-employer pension funds. In 2010 we expect to contribute approximately 250 million to these funds.
Based on current market conditions we believe the potential for that scenario to develop over the next five years to be less likely. We still anticipate meaningful increases in expense each year as a consequence of the increased contributions that Kroger and other participating employers will be required to make in order to rehabilitate the funding status of many of these plans.
(CFO) Kroger's net earnings for the year adjusted for the asset impairment charges in the third quarter were $1.71 per diluted share. These results represent a decline of 10.5% compared to fiscal 2008 earnings per diluted share of $1.91 excluding Hurricane Ike charges.
Excluding fuel and one-time items, our OG&A rate declined three basis points.
Neilsen home scan data shows that Kroger's overall share rose approximately 60 basis points during fiscal 2009. This data also indicates that our share increased in 13 of the 17 marketing areas outlined by the Nielsen report, declined in three and remained unchanged in one. Wal-Mart (NYSE: WMT) is a primary competitor in 12 of these marketing areas.
Turning now to fiscal 2010. We anticipate identical supermarket-sales growth of 2% to 3% without fuel. We expect net earnings to range from $1.60 to $1.80 per diluted share. Kroger's quarterly dividend enhances total shareholder return by approximately 1.5 to 2%.
We expect trends in these areas to influence our results throughout fiscal 2010. Five weeks into fiscal 2010 our identical sales trend is slightly ahead of the guidance range we have outlined.
We expect to invest approximately 1.9 to $2.1 billion in capital projects with a strong bias towards remodels and infrastructure projects.
We anticipate our first quarter 2010 results will be below the results we reported for Q1 of 2009, assuming many of the operating conditions we experienced in the second half of 2009 continue into fiscal 2010.
(CEO) During the last two years we added 24,000 new jobs to support our growing business, a direct reflection of the health of our business.
(Q&A) Thanks for taking my questions. Just wanted to poke at the selling gross margins a little bit and explore sequentially it declined again and trying to understand what is driving the competitive environment? You guys didn't mention much about the competitive environment but it seems to be improving. Are you seeing that selling gross margin now that you're into the first quarter get better? And did you see it improve as you went through, it's the first quarter? Are you seeing it, did you see it improve during the fourth quarter? I know November was really tough. (A) Let me comment this way. I would look at the fourth quarter selling gross investment as a continuation of what you saw and what we saw in the third quarter. There's two things to think about. First is that there was a certain trend or trajectory set up in the third quarter that continued into the fourth and that's actually partly what we saw. In addition you mentioned already, that Thanksgiving, which we've already indicated, wasn't a particularly strong holiday for us. Christmas on the other hand, we were pretty satisfied with. The other comparison that makes it look a little worse than it actually was, was the comparison to the prior year. And that's true not only in the fourth quarter which we just finished, but it will also be true in the first quarter when we report that out in June. That we had particularly strong, relatively speaking strong, gross profit quarters in the fourth quarter of 2008 and the first quarter of 2009. So I don't see it as anything other than that. As to the competitive market, we would say it's still aggressive, however, it has shown some stabilizing, and as a result I think that I wouldn't blame the gross profit investment as
continuing more aggressive competition. I think it really is just the factors that I described. (A) And in addition, in terms of the deflation and some of those factors that we would have had, we continue to see that. And as Dave mentioned, when you have a swing in grocery from inflation to deflation, 1,000 basis points, that certainly creates some pressure on gross and we would expect those types of pressures to diminish, especially as we get past the first quarter.
So maybe backing up - and I appreciate that, it was good color. Backing up a little bit, Dave, we talked a little bit about how EBITDA dollars have been growing at a slower pace than sales. Before we even got into this economic malaise, I was just wondering if you reflected back how in customer first, you get EBITDA dollars growing faster than sales so we start leveraging and getting the returns moving in the right direction? Do you think there's lots of leverage for the company to pull? Do you think we get that turn some time in fiscal year 2010? (A)I think I certainly sympathize with the objective you're describing. I'd like to take a multi-year look at the question. If you go back three or four years ago we had several years where it played out pretty nicely, where our gross profit investment was about the same or a little less than what we invested, what we saved in cost and we've indicated and it still is our objective, to invest what we can save but not to invest more than we can save. Then 2008 was a little bit off track with that and we admitted that and recognized that. And it was a little different than what we think our norm ought to be but then the economy really got off the rails and I really continued to see 2009 as an anomaly. As I said before, I don't think the financial results even though I think on a relative basis they were good. I don't think they fully reflect the progress we made in the year, I think we actually had a strong year. But on the metric you're looking at, in an economy like that we're just not going to see that happen. I do think it comes around over time though. Whether you'll see it in 2010 it's purely up to lots of factors. I'm sure you won't see it in the first quarter or the second quarter of 2010 but as we indicated by the third and fourth quarter, you may be able to see some improvement in that and the year should not end up being quite like the first and second quarter might imply. (A)And as Dave just mentioned, we would certainly expect when you look at the third and fourth quarters that you would start seeing slight improvement in operating margins. It's really consistent with our long-term model. (A)Yes, and I think we fully expect the picture you described and what we hope to see the latter
part of the year to be much more our norm going forward, once some of these factors have stabilized or improved.
A little more color on the gross margin. When we think about '09 the problem you got into is that you had some initiatives in place in the early part of year so you use, the term you used was gunpowder. You used a lot of gunpowder in the first half not really expecting to also need gunpowder in the second half. Could you maybe talk about the timing of your gross margin investment plans throughout 2010? (A) Well, I don't think we'll give specifics on it. I will tell you that we've attempted to learn the lesson from 2009, so that first we would put whatever investments we plan in a more measured way and we would do it in a way that recognizes, in fact you can look at our guidance and realize that 2010 in our view is going to be an uncertain year. Hard to predict, much like 2009 was. So the lessons of 2009 for us was that, be cautious, be ready to move and change through the year and we're going to try to leave room in our plans to enable us to do that. But we recognize it is an uncertain year and it will be a little hard to predict what the back half's going to look like. I think we can see what the first quarter or two might look like but it's harder to see what the back half is going to look like.
So philosophically I guess, help us - me understand, why do you think you need to be as promotional as you're being? You have a loyal, an unbelievably loyal household customer base. Could you not let up a little bit on the gross margin investment? (A) Well, first, it's not really being promotional. A lot of our investments are in an every day pricing plan. What you would think of as an every day pricing plan and some promotions, which is different, I would contrast that with being promotional. Programs, for instance the gas program, is an example of that. But some of the programs that once you get them started and you get customers where they like them, where there's everyday pricing in some other program, to take it away runs the risk of derailing the very process you got started. And we drew those conclusions actually going into the third quarter and recognize that we needed to be careful about making adjustments. We did indicate last quarter and we did make some minor adjustments and continue to make some adjustments in our tactics but the strategy itself is the same as we've been describing and we think, we believe it would be a long-term mistake to change course. Our promotional levels really from the point of view that you described, haven't really changed very much. Now we haven't pulled back from them but we've really have not gotten more aggressive, maybe some individual cases you could describe but on the whole that's not been the case.
David, off of that comment in terms of your long-term thinking and re-adjusting over the last three to six months, maybe just sitting down and rethinking through some long assumptions from the last three to five years. As you stand right now and not just looking at 2010 but even the next three to five years, what has really changed within your mind, within your business model? Is there anything that you feel like you need to structurally shift a few degrees to either respond to what has changed within the consumer behavior, consumer climate or more importantly the flow through of your model in terms of driving the top line? (A) I think we actually continue to feel pretty strong about our plan and our model. The areas we've identified that we've not done as good a job in, reducing our costs on an ongoing basis, while we've done a decent job there, we've not done as strong a job there as we would like to do and as we believe we can do and as we believe the opportunity presents itself to do. And we see that as the ticket really to be able to have more to invest not just in price. I realize in this environment and with this kind of investment of gross, that it appears all about price but actually it's not. And a lot of what we do has more to do with the other three keys and not just the price key. But I would say that we see the model pretty much like we saw it before. We just think we need to get to some more normal times for you to be able to more graphically see it. The rate of deflation and the suddenness of that deflation and the persistence of that deflation frankly surprised us as we indicated last quarter and I think it has masked the otherwise strong results of the program we have in place. I can't tell you how important it is to look at the growth that we had in loyal customers at Kroger. That is significant. It's a growth in the households that shop with us most often. And we have seen it now for some time, but we saw it not only that happen but we also see over the course of a month that they're buying more items in those loyal households. All of which are healthy signs and are signs that as the world improves you'll begin to see in our financial results.