Highlights From KR's Q4 Conference Call: Same-Store Sales Growth; Guides Above for FY

This morning, Kroger Co. (NYSE: KR) reported Q4 EPS of $0.50, $0.01 better than the analyst estimate of $0.49. Revenue for the quarter rose 7.7% to $21.4 billion versus the consensus estimate of $21.44 billion and $19.9 billion last year. Shares are trading up 1.72% today.

Highlights From KR's Q4 Conference Call:

• (David B. Dillon) We are very pleased with Kroger's outstanding performance in fiscal year 2011 and strong fourth quarter financial results.
  
• That we were able to raise earnings per share and identical sales guidance through the year and achieve those higher results demonstrates the strength of our business strategy and momentum for a strong 2012.
  
• Kroger's strong performance rewarded shareholders in 2011. We delivered adjusted earnings of $2.00 per diluted share, a 15% increase in earnings over 2010.
  
• We increased our quarterly dividend payment but almost 10% and we implemented an aggressive stock buyback program using Kroger's strong free cash flow to repurchase 67 million shares.
  
• Kroger is off to a healthy start for the year ahead and we expect earnings per share growth in 2012 to exceed our business model. Kroger had strong performance in the fourth quarter identical supermarket sales for the quarter increased 4.9% excluding fuel.
  
• More loyal and total households are shopping with us and identical sales are up among both groups. This consistent sales performance contributed to Kroger's market share gains in fiscal 2011, we achieved the high end of growth estimates for both earnings per share and identical sales growth.
  
• Every operating division achieved positive identical sales for the quarter and every supermarket department achieved positive identical sales.
  
• Well, as we look to 2012, we expect the external environment to be little better than 2011. All of the data we're seeing suggests the overall economy and customer sentiment are improving.
  
• (W. Rodney McMullen) Today close to 50% of all U.S. households carry one of our loyalty cards. That percentage obviously is much higher in the markets where we operate.
  
• Kroger's partnership with Dunnhumby is another powerful way we build our loyal household base. The unique customer insights gained from our loyalty data help us reward our most loyal customers with highly relevant personalized offers for the products they like and by regularly.
  
• In the fourth quarter, the number of loyal households shopping with us increased, as did the total number of households. Loyal household unit purchases and price per units sold were both up in the fourth quarter compared to the same time last year as well.
  
• For the full year, our number of loyal households continue to increase as did the number of their visits. Total households shopping at our stores also increased year-over-year. We still anticipate inflation in 2012 but we expected and the year with the rate of inflation lower than at the beginning of the year.
  
• Higher prices have taken a toll on all customers but our very price-sensitive customers continue to suffer disproportionately. Most departments experienced inflation during the quarter. The produce department ran counter to this trend in the fourth quarter experiencing deflation. We are passing along product cost increases from national brand suppliers and plan to continue to do so.
  
• Kroger's strong corporate brands continued to gain share in the fourth quarter. Corporate brands represented approximately 27% of the grocery department sales dollars and 35% of the grocery department units sold.
  
• Another successful growth category for corporate brand is yogurt. We leveraged our manufacturing competitive advantage to accelerate the growth of our corporate brand Greek yogurts. Greek yogurt sales have doubled in each of the last three years, with Kroger's offering outpacing the category in unit and dollar growth.
  
• Now turning to market share for 2011. We look at market share the way customers look at it: where they spend their money.
  
• According to Nielsen Homescan data, Kroger's overall share of products that we sell in the markets where we operate grew approximately 50 basis points during fiscal 2011. This data also indicates that our share increased in 13 of the 19 marketing areas outlined by the Nielsen report and declined and six areas. Wal-Mart Supercenters (NYSE: WMT) are our primary competitor in 17 of the 19 marketing areas outlined by the Nielsen report. Kroger's overall product sales in those 17 markets grew approximately 40 basis points during fiscal 2011.
  
• (J. Michael Schlotman) Including the effect of the UFCW pension plan consolidation, Kroger reported a net loss for the fourth quarter that totaled $306.9 million or $0.54 per diluted share. Excluding the effect of the pension consolidation, adjusted earnings for the quarter were $283.8 million or $0.50 per diluted share.
  
• Excluding retail fuel operations, FIFO gross margin decreased 47 basis points from the same period last year. As I said earlier, our LIFO charge was higher-than-expected totaling $73.4 million. This compares to $18.8 million in the fourth quarter of 2011.
  
• In the fourth quarter, Kroger's retail fuel operations generated identical gallon growth. These outlets earned approximately $12.04 per gallon compared to $10.02 in the final quarter of fiscal 2010. For the full-year, the cents per gallon fuel margin was roughly 13.09 in 2011 compared with 12.02 in 2010.
  
• Turning now to Kroger's fiscal results for 2011, and excluding the effect of the pension consolidation, earnings for 2011 were $1.2 billion or $2.00 per diluted share including the effect of the pension consolidation, fiscal year 2011 earnings were $602.1 million or $1.01 per diluted share.
  
• Full-year net earnings in the prior year were $1.74 per diluted share. Our original earnings guidance - or our original earnings per share guidance for the year was $1.80 to $1.92.
  
• Now I'll provide a little color on the effect of the pension consolidation. The charge totaled $590.7 million after-tax. This affected the fourth quarter by $1.04 per diluted share and the full year by $0.99 per diluted share. The difference is due to having fewer shares outstanding in the quarter versus the year.
  
• We have committed to fund the remaining obligation by the end of 2018 at the time it is funded no additional expense will be incurred. We made our initial funding of $650 million on January 20, 2012, $50 million of which was attributed to 2012 plan-year contributions.
  
• Under Kroger's share repurchase program during fiscal 2011, we invested $1.5 billion to repurchase 66.5 million shares of Kroger stock at an average price of $23.24 per share. Since the end of the fourth quarter and through the close of the market yesterday, Kroger has $379 million remaining under the $1 billion stock repurchase program announced in September of 2011.
  
• Kroger's business model is structured to produce annual earnings per share growth averaging 6% to 8% plus a dividend of 1.5% to 2% for a total shareholder return of approximately 8% to 10%. We expect this total shareholder return to compare favorably to the S&P 500 over a rolling three to five-year time horizon.
  
• Now I would out like to outline our specific growth objectives for fiscal 2012. For the full-year, we anticipate identical supermarket sales growth excluding fuel of approximately 3% to 3.5%. This guidance contemplates the effect of several prescription drugs coming off patent during the year, which will reduce sales.
  
• Full-year net earnings are expected to range from $2.28 to $2.38 per diluted share. This guidance assumes the benefit of the extra week, lower LIFO, the benefit of our stock buyback program during 2011, the benefit of our pension plan consolidation and some benefit from Express Scripts transfers. Kroger's quarterly dividend enhances total shareholder return by approximately 1.5% 2%.
  
• We expect Kroger's full-year FIFO operating margin rate in 2012 excluding fuel to expand slightly compared to fiscal 2011 results. We expect to expand Kroger's nonfuel operating margin rate over time, and it remains our goal to do so.
  
• We expect our full-year LIFO charge to range between $140 million and $190 million.
  
• During fiscal 2012 Kroger plans to use cash flow from operations to fund capital expenditures, repurchase shares, pay dividends to shareholders and maintain its current debt rating. We expect capital expenditures to be in the $1.9 billion to $2.2 billion range for the year.
  
• (Q&A) If you look at, Mike, the details you gave quarter to quarter, to what degree does that bake in anything specific with regard to moving around programs, promotions, et cetera? And I'm wondering, because you talked about the second quarter last year and some of that pressure that consumers was under was fuel related. How do you guys look at the current run-up in gas and where we might be in the spring? And is there a need to do something more this year to offset that new pressure on the consumer? So if you build that in explicitly? Or do you think that something may have to happen? (A) Well, as we begun the year, we certain have a plan laid out of how we expect to invest in the elements of our customer first strategy and it does contemplate what we see out there. But as we said in the prepared comments, we did make tactical adjustments throughout 2011 to react to the world around us and we would expect to continue to do that in 2012 as well. I think it proved out beneficial for everybody in 2011 given our results.
  
• And wouldn't the customer be on the less for whatever reason? It looks like gas is $4, $4.25 Memorial Day. Less pressure this year than last year? Is the macro better? Or same pressure? More pressure? What you think? (A) Well, John, those are of course all the right factors and how the weigh out is going to be hard to judge. Certainly on the plus side, the economy is clearly improving and except for the very price-sensitive customers, which Rodney mentioned, are still suffering disproportionately. Otherwise, it's holding up quite well and we're very pleased with that. And customer sentiment, which is also important and how feel people feel about things, is also improving. Those are both good signs. So even with higher gas prices, it's possible that those factors end up overweighing that. And as you know, there are some pluses with our gas prices for us. One is our gas promotion has good effect, and the other is that a lot of our stores are located within a couple of miles where customers live and that becomes very convenient place for them to shop when prices get high. So it's not like it's all bad news. There's certainly some bad news with that because it's less money in their pocket. But on the whole, we remain optimistic.
  
• And then just as a follow to that. If - I wonder what the inflation number - something like it might be like a mid 3's number or something like that, that's baked into your LIFO charge. But is that right? And then secondly, obviously if it comes down to the back half of the year, you'll end up with some significant adjustments in the second half. Just talk about just tactically if LIFO ends up being $50, $70 million, some large number lower than you think, can that be effectively reinvested in the business? Or it's hard to do that effect - productively? (A) Well, a couple things on LIFO. I think I proved my inability to project LIFO throughout the year this year, and it's very difficult thing to do. The other thing, John, to keep in mind is LIFO is a noncash charge and it doesn't use cash or create cash when I book that charge. So if it goes up or down, it really doesn't affect my ability to have money to invest to reward our customers. Does it affect earnings per share? Absolutely. But it really doesn't give me any incremental dollars to invest somewhere else.
  
• Okay. And then one last thing. The six markets where you lost share or didn't gain share I guess. I assume that was not a material loss of share. And was that because you didn't comp well? Or because some competitors comped - may have comped particularly well for whatever reason? (A) Well, when you look at those six markets, it's extremely modest. But point one is a point one because we do take it literal in terms of what the report says. So it's not necessarily a reflection because it could actually be rounding. But - the numbers are what they are. In every market, we're very pleased with our identicals, and as Dave said, our identicals for the quarter were very broad based across the whole country and very broad based across all departments. And we felt very good about where we are overall.

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