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MarketScreener Homepage  >  Equities  >  Nyse  >  Kroger    KR

KROGER

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KROGER : Management's Discussion and Analysis of Financial Condition and Results of Operations. (form 10-Q)

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09/22/2020 | 11:47am EDT

The following analysis should be read in conjunction with the Consolidated Financial Statements.

USE OF NON-GAAP FINANCIAL MEASURES




The accompanying Consolidated Financial Statements, including the related notes,
are presented in accordance with generally accepted accounting principles
("GAAP"). We provide non-GAAP measures, including First-In, First-Out ("FIFO")
gross margin, FIFO operating profit, adjusted net earnings and adjusted net
earnings per diluted share because management believes these metrics are useful
to investors and analysts. These non-GAAP financial measures should not be
considered as an alternative to gross margin, operating profit, net earnings and
net earnings per diluted share or any other GAAP measure of performance. These
measures should not be reviewed in isolation or considered as a substitute for
our financial results as reported in accordance with GAAP.



We calculate FIFO gross margin as FIFO gross profit divided by sales. FIFO gross
profit is calculated as sales less merchandise costs, including advertising,
warehousing, and transportation expenses, but excluding the Last-In, First-Out
("LIFO") charge. Merchandise costs exclude depreciation and rent expenses. FIFO
gross margin is an important measure used by management as management believes
FIFO gross margin is a useful metric to investors and analysts because it
measures our day-to-day merchandising and operational effectiveness.



We calculate FIFO operating profit as operating profit excluding the LIFO charge. FIFO operating profit is an important measure used by management as management believes FIFO operating profit is a useful metric to investors and analysts because it measures our day-to-day operational effectiveness.




The adjusted net earnings and adjusted net earnings per diluted share metrics
are important measures used by management to compare the performance of core
operating results between periods. We believe adjusted net earnings and adjusted
net earnings per diluted share are useful metrics to investors and analysts
because they present more accurate year-over-year comparisons of our net
earnings and net earnings per diluted share because adjusted items are not the
result of our normal operations. Net earnings for the first two quarters of 2020
include the following, which we define as the "2020 Adjusted Items":



Charges to operating, general and administrative expenses ("OG&A") of $85

? million, $63 million net of tax, for the revaluation of Home Chef contingent

consideration and $67 million, $49 million net of tax, for transformation costs

(the "2020 OG&A Adjusted Items").

? Gains in other income (expense) of $790 million, $590 million net of tax, for

the gain on investments (the "2020 Other Income (Expense) Adjusted Item").

Net earnings for the second quarter of 2020 include the following, which we define as the "2020 Second Quarter Adjusted Items":

Charges to OG&A of $25 million, $19 million net of tax, for the revaluation of

? Home Chef contingent consideration and $29 million, $21 million net of tax, for

   transformation costs (the "2020 Second Quarter OG&A Adjusted Items").



Gains in other income (expense) of $368 million, $278 million net of tax, for

? the gain on investments (the "2020 Second Quarter Other Income (Expense)

   Adjusted Item").



Net earnings for the first two quarters of 2019 include the following, which we define as the "2019 Adjusted Items":

Charges to OG&A of $86 million, $66 million net of tax, for obligations related

? to withdrawal liabilities for certain multi-employer pension funds and a

reduction to OG&A of $21 million, $16 million net of tax, for the revaluation

of Home Chef contingent consideration (the "2019 OG&A Adjusted Items").

Gains in other income (expense) of $106 million, $80 million net of tax,

? related to the sale of Turkey Hill Dairy; $70 million, $52 million net of tax,

related to the sale of You Technology; and $61 million, $44 million net of tax,

for the gain on investments (the "2019 Other Income (Expense) Adjusted Items").


                                       15


Net earnings for the second quarter of 2019 include the following, which we define as the "2019 Second Quarter Adjusted Items":

Charges to OG&A of $27 million, $22 million net of tax, for obligations related

? to withdrawal liabilities for a certain multi-employer pension fund and $2

million, $2 million net of tax, for the revaluation of Home Chef contingent

   consideration (the "2019 Second Quarter OG&A Adjusted Items").



A charge in other income (expense) of $45 million, $36 million net of tax, for

? the loss on investments (the "2019 Second Quarter Other Income (Expense)

   Adjusted Item").



Please refer to the "Net Earnings per Diluted Share excluding the Adjusted Items" table below for reconciliations of certain non-GAAP financial measures reported in this Quarterly Report on Form 10-Q to the most comparable GAAP financial measure and related disclosure.



CAUTIONARY STATEMENT



This discussion and analysis contains certain forward-looking statements about
our future performance. These statements are based on management's assumptions
and beliefs in light of the information currently available to it. Such
statements are indicated by words such as "achieve," "affect," "believe,"
"committed," "continue," "could," "estimate," "expect," "future," "guidance,"
"maintain," "may," "positioned," "strategy," "trend," "will," and "would," and
similar words or phrases. These forward-looking statements are subject to
uncertainties and other factors that could cause actual results to differ
materially. These include the specific risk factors identified in "Risk Factors"
and "Outlook" in our Annual Report on Form 10-K for our last fiscal year and any
subsequent filings, as well as those identified in this Form 10-Q.



Various uncertainties and other factors could cause actual results to differ materially from those contained in the forward-looking statements. These include:

The extent to which our sources of liquidity are sufficient to meet our

requirements may be affected by the state of the financial markets and the

effect that such condition has on our ability to issue commercial paper at

acceptable rates. Our ability to borrow under our committed lines of credit,

? including our bank credit facilities, could be impaired if one or more of our

lenders under those lines is unwilling or unable to honor its contractual

obligation to lend to us, or in the event that global pandemics, including the

novel coronavirus, natural disasters or weather conditions interfere with the

ability of our lenders to lend to us. Our ability to refinance maturing debt

   may be affected by the state of the financial markets.




                                       16


Our ability to achieve sales, earnings and incremental FIFO operating profit

goals may be affected by: COVID-19 related factors, risks and challenges,

including among others, the length of time that the pandemic continues, the

temporary inability of customers to shop due to illness, quarantine, or other

travel restrictions or financial hardship, shifts in demand away from

discretionary or higher priced products to lower priced products, or

stockpiling or similar pantry-filling activities, product shortages due to

potential constraints in plants and distribution facilities, reduced workforces

which may be caused by, but not limited to, the temporary inability of the

workforce to work due to illness, quarantine, or government mandates, temporary

store closures due to reduced workforces or government mandates, or the

availability and efficacy of a vaccine; labor negotiations or disputes; changes

in the types and numbers of businesses that compete with us; pricing and

promotional activities of existing and new competitors, including

non-traditional competitors, and the aggressiveness of that competition; our

response to these actions; the state of the economy, including interest rates,

? the inflationary and deflationary trends in certain commodities, changes in

tariffs, and the unemployment rate; the effect that fuel costs have on consumer

spending; volatility of fuel margins; changes in government-funded benefit

programs and the extent and effectiveness of any COVID-19 stimulus packages;

manufacturing commodity costs; diesel fuel costs related to our logistics

operations; trends in consumer spending; the extent to which our customers

exercise caution in their purchasing in response to economic conditions; the

uncertainty of economic growth or recession; changes in inflation or deflation

in product and operating costs; stock repurchases; our ability to retain

pharmacy sales from third party payors; consolidation in the healthcare

industry, including pharmacy benefit managers; our ability to negotiate

modifications to multi-employer pension plans; natural disasters or adverse

weather conditions; the effect of public health crises or other significant

catastrophic events, including the coronavirus; the potential costs and risks

associated with potential cyber-attacks or data security breaches; the success

of our future growth plans; the ability to execute on Restock Kroger; and the

   successful integration of merged companies and new partnerships.



Our ability to achieve these goals may also be affected by our ability to

? manage the factors identified above. Our ability to execute our financial

   strategy may be affected by our ability to generate cash flow.



Our effective tax rate may differ from the expected rate due to changes in

? laws, the status of pending items with various taxing authorities, and the

   deductibility of certain expenses.




Statements elsewhere in this report and below regarding our expectations,
projections, beliefs, intentions or strategies are forward-looking statements
within the meaning of Section 21E of the Securities Exchange Act of 1934, as
amended. While we believe that the statements are accurate, uncertainties about
the general economy, our labor relations, our ability to execute our plans on a
timely basis and other uncertainties described in this report could cause actual
results to differ materially.


EXECUTIVE SUMMARY - OUR PATH TO DELIVERING CONSISTENT AND ATTRACTIVE TOTAL SHAREHOLDER RETURN

We delivered strong results in the second quarter and first two quarters of
2020. The COVID-19 pandemic has changed the landscape for food retail and our
top priority is to provide a safe environment for associates and customers, as
evidenced by our investment of more than $1 billion during the first two
quarters of 2020 to reward associates and safeguard associates, customers and
communities. We believe our customers are rewarding us for these priorities and
the strategic choices we have made. We are growing market share and expect to
deliver consistently attractive total shareholder returns for the long term. Our
results continue to show that Kroger is a trusted brand and our customers choose
to shop with us because they value the product quality and freshness,
convenience, and digital offerings that we provide, even more during these
unprecedented times. The strategic choices and investments made through Restock
Kroger to execute against our competitive moats - Fresh, Our Brands,
Personalization and Seamless - have positioned Kroger to meet the moment now and
beyond 2020. Our data insights show customers are rediscovering their passion
for cooking at home and have an aspiration to eat more healthily. We believe
some of the changes in food at home consumption triggered by COVID-19 are likely
to be structural and lasting. These factors led us to update our guidance for
the rest of 2020 and lead us to believe our 2021 business results will be higher
than we would have expected prior to the COVID-19 pandemic.



                                       17



Our financial model is driven by our retail supermarket, fuel, and health and
wellness businesses, in addition to our growing alternative profit businesses.
Our financial strategy is to continue to use the strong free cash flow generated
by the business and deploy it in the business in a disciplined way to drive
long-term sustainable growth through the identification of high-return projects
that support our strategy. We will allocate capital toward driving profitable
sales growth in stores and digital, improve productivity, and build a seamless
digital ecosystem and supply chain. At the same time, we are committed to
maintaining our net debt to adjusted EBITDA range of 2.30 to 2.50 in order to
keep our current investment-grade debt rating. We also expect to continue to
grow our dividend over time, reflecting the confidence we have in our free cash
flow, and expect to continue to return excess cash to investors via share
repurchases. Our financial model has proven to be resilient throughout the
economic cycle. We expect our model to deliver improved operating results over
time and continued strong free cash flow, which will translate into a
consistently strong and attractive total shareholder return over the long-term
of 8% to 11%.


The following table provides highlights of our financial performance:



                           Financial Performance Data

                   ($ in millions, except per share amounts)




                                                 Second Quarter Ended                             Two Quarters Ended
                                       August 15,     Percentage     August 17,        August 15,     Percentage     August 17,
                                          2020          Change          2019              2020          Change          2019
Sales                                 $     30,489           8.2 %  $    

28,168 $ 72,038 10.1 % $ 65,419 Net earnings attributable to The Kroger Co.

                                     819         175.8 %           297             2,031          90.0 %         1,069
Adjusted net earnings attributable
to The Kroger Co.                              581          62.7 %           357             1,553          64.7 %           943
Net earnings attributable to The
Kroger Co. per diluted common share           1.03         178.4 %          0.37              2.55          94.7 %          1.31
Adjusted net earnings attributable
to The Kroger Co. per diluted
common share                                  0.73          65.9 %          0.44              1.95          68.1 %          1.16
Operating profit                               820          46.7 %           559             2,146          47.0 %         1,460
Adjusted FIFO operating profit                 894          42.8 %           626             2,347          48.3 %         1,583
Dividends paid                                 126          11.5 %           113               254          12.4 %           226
Dividends paid per common share              0.160          14.3 %         0.140             0.320          14.3 %         0.280
Identical sales excluding fuel                14.6 %         N/A             2.2 %            17.1 %         N/A             1.8 %
FIFO gross margin rate, excluding
fuel, bps increase (decrease)                 0.05           N/A          (0.29)              0.29           N/A          (0.36)
OG&A rate, excluding fuel and
Adjusted Items, bps increase
(decrease)                                  (0.61)           N/A          (0.14)              0.04           N/A          (0.13)
Reduction in total debt, including
obligations under finance leases
compared to prior fiscal year end              594           N/A          
1,746               594           N/A           1,746
Share repurchases                              247           N/A               8               669           N/A              23




                                       18



OVERVIEW


Notable items for the second quarter and first two quarters of 2020 are:



Shareholder Return


? Net earnings attributable to The Kroger Co. per diluted common share of $1.03

for the second quarter and $2.55 for the first two quarters.

? Adjusted net earnings attributable to The Kroger Co. per diluted common share

   of $0.73 for the second quarter and $1.95 for the first two quarters.

? Achieved operating profit of $820 million for the second quarter and $2.1

billion for the first two quarters.

? Achieved adjusted FIFO operating profit of $894 million for the second quarter

and $2.3 billion for the first two quarters.

? During the first two quarters of 2020, we generated cash from operations of

   $5.4 billion.



During the first two quarters of 2020, we increased cash and temporary cash

investments by $2.4 billion, reflecting improved operating performance,

? significant improvements in working capital and deferred tax payments as a

result of the Coronavirus Aid, Relief, and Economic Security Act (the "CARES

Act") which was enacted in the first quarter of 2020.

? During the first two quarters of 2020, we returned $923 million to shareholders

through share repurchases and dividend payments.

? During the first two quarters of 2020, we decreased total debt, including

   obligations under finance leases, by $594 million.




Other Financial Results



? Identical sales, excluding fuel, increased 14.6% for the second quarter and

   17.1% for the first two quarters of 2020.



Digital revenue grew 127% in the second quarter and 107% in the first two

? quarters of 2020. Digital revenue primarily includes Pickup, Delivery, Ship and

   pharmacy e-commerce sales.




Significant Events



During the first two quarters of 2020, we invested more than $1 billion to

support and safeguard associates, customers and communities during the COVID-19

pandemic. These investments primarily relate to items within OG&A such as

? associate appreciation awards, expanded sick and emergency leave pay and

investments in associate and customer safety during the pandemic (collectively,

the "COVID-19 Investments"). Of the total, approximately $250 million was

   invested during the second quarter of 2020 (the "Second Quarter COVID-19
   Investments").



During the first quarter of 2020, in addition to the recurring multi-employer

pension contributions we make in the normal course of business, we contributed

? an incremental $236 million, $180 million net of tax, to multi-employer pension

plans, helping stabilize future associate benefits (the "2020 Multi-Employer

   Pension Contribution").


                                       19


The following table provides a reconciliation of net earnings attributable to
The Kroger Co. to adjusted net earnings attributable to The Kroger Co. and a
reconciliation of net earnings attributable to The Kroger Co. per diluted common
share to adjusted net earnings attributable to The Kroger Co. per diluted common
share, excluding the 2020 and 2019 Adjusted Items.



          Net Earnings per Diluted Share excluding the Adjusted Items

                   ($ in millions, except per share amounts)




                                                        Second Quarter Ended                           Two Quarters Ended
                                               August 15,     August 17,     Percentage     August 15,      August 17,     Percentage
                                                  2020           2019          Change          2020            2019          Change
Net earnings attributable to The Kroger
Co.$        819$       297$      2,031$      1,069

(Income) expense adjustments
Adjustment for pension plan withdrawal
liabilities(1)(2)                                        -             22                             -              66
Adjustment for gain on sale of Turkey Hill
Dairy(1)(3)                                              -              -                             -            (80)
Adjustment for gain on sale of You
Technology(1)(4)                                         -              -                             -            (52)
Adjustment for (gain) loss on
investments(1)(5)                                    (278)             36                         (590)            (44)
Adjustment for Home Chef contingent
consideration(1)(6)                                     19              2                            63            (16)
Adjustment for transformation costs(1)(7)               21              -                            49               -
2020 and 2019 Adjusted Items                         (238)             60                         (478)           (126)

Net earnings attributable to The Kroger
Co. excluding the Adjusted Items              $        581$       357

62.7 % $ 1,553$ 943 64.7 %


Net earnings attributable to The Kroger
Co. per diluted common share                  $       1.03$      0.37$       2.55$       1.31

(Income) expense adjustments
Adjustment for pension plan withdrawal
liabilities(8)                                           -           0.03                             -            0.08
Adjustment for gain on sale of Turkey Hill
Dairy(8)                                                 -              -                             -          (0.10)
Adjustment for gain on sale of You
Technology(8)                                            -              -                             -          (0.06)
Adjustment for (gain) loss on
investments(8)                                      (0.35)           0.04                        (0.75)          (0.05)
Adjustment for Home Chef contingent
consideration(8)                                      0.02              -                          0.08          (0.02)
Adjustment for transformation costs(8)                0.03              -                          0.07               -
2020 and 2019 Adjusted Items                        (0.30)           0.07                        (0.60)          (0.15)

Adjusted net earnings attributable to The
Kroger Co. per diluted common share           $       0.73$      0.44

65.9 % $ 1.95$ 1.16 68.1 %


Average number of common shares used in
diluted calculation                                    786            805                           787             805


(1) The amounts presented represent the after-tax effect of each adjustment,

which was calculated using discrete tax rates.

(2) The pre-tax adjustment for pension plan withdrawal liabilities was $27 in the

second quarter of 2019 and $86 in the first two quarters of 2019.

(3) The pre-tax adjustment for gain on sale of Turkey Hill Dairy was ($106).

(4) The pre-tax adjustment for gain on sale of You Technology was ($70).

The pre-tax adjustment for (gain) loss on investments was ($368) and $45 in (5) the second quarter of 2020 and 2019, respectively. The pre-tax adjustment was

($790) and ($61) in the first two quarters of 2020 and 2019, respectively.

The pre-tax adjustment for Home Chef contingent consideration was $25 and $2 (6) in the second quarter of 2020 and 2019, respectively. The pre-tax adjustment

was $85 and ($21) in the first two quarters of 2020 and 2019, respectively.

The pre-tax adjustment for transformation costs was $29 in the second quarter

of 2020 and $67 in the first two quarters of 2020. Transformation costs (7) primarily include costs related to store and business closure costs and third

party professional consulting fees associated with business transformation

and cost saving initiatives.

(8) The amount presented represents the net earnings per diluted common share

    effect of each adjustment.


                                       20



RESULTS OF OPERATIONS



Sales

                                  Total Sales

                                ($ in millions)




                                              Second Quarter Ended                                             Two Quarters Ended
                              August 15,    Percentage     August 17,    Percentage           August 15,    Percentage     August 17,    Percentage
                                 2020       Change(1)         2019       Change(2)               2020       Change(3)         2019       Change(4)
Total sales to retail
customers without fuel(5)    $     28,034         14.0 %  $     24,598

2.4 % $ 66,651 16.5 % $ 57,191 2.2 % Supermarket fuel sales

              2,281       (33.0) %         3,405        (9.9) %               4,973       (36.3) %         7,801        (6.5) %
Other sales(6)                        174          5.5 %           165       (24.0) %                 414        (3.0) %           427        (9.0) %

Total sales                  $     30,489          8.2 %  $     28,168          0.5 %        $     72,038         10.1 %  $     65,419        (0.5) %

(1) This column represents the percentage change in the second quarter of 2020,

compared to the second quarter of 2019.

(2) This column represents the percentage change in the second quarter of 2019,

compared to the second quarter of 2018.

(3) This column represents the percentage change in the first two quarters of

2020, compared to the first two quarters of 2019.

(4) This column represents the percentage change in the first two quarters of

    2019, compared to the first two quarters of 2018.


    Digital sales, primarily including Pickup, Delivery, Ship and pharmacy

e-commerce sales, grew approximately 127% and 31% in the second quarter of (5) 2020 and 2019, respectively. Digital sales grew approximately 107% and 37% in

the first two quarters of 2020 and 2019, respectively. These sales are

included in the "total sales to retail customers without fuel" line above.

Other sales primarily relate to external sales at food production plants,

data analytic services and third party media revenue. The decrease in other (6) sales in the first two quarters of 2020, compared to the first two quarters

of 2019, is primarily due to the sale of You Technology and Turkey Hill Dairy

during the first quarter of 2019, partially offset by an increase in data

    analytic services and third party media revenue.




Total sales were $30.5 billion in the second quarter of 2020, compared to $28.2
billion in the second quarter of 2019. This increase was due to an increase in
total sales to retail customers without fuel, partially offset by a reduction in
supermarket fuel sales. Total sales to retail customers without fuel increased
14.0% in the second quarter of 2020, compared to the second quarter of 2019.
This increase was primarily due to our identical sales increase, excluding fuel,
of 14.6%, partially offset by decreased sales due to the deconsolidation of
Lucky's Market in the fourth quarter of 2019. The significant increase in
identical sales, excluding fuel, was caused by unprecedented demand for products
across grocery and fresh departments due to the COVID-19 pandemic and growth in
market share. Market share contributed to our identical sales increase,
excluding fuel, as our sales outpaced the general growth in the food retail
industry during the second quarter of 2020. The increase in identical sales,
excluding fuel, was broad based across all retail divisions and all product
categories. During the pandemic, customers reduced trips while significantly
increasing basket value.



Total supermarket fuel sales decreased 33% in the second quarter of 2020,
compared to the second quarter of 2019, primarily due to a decrease in fuel
gallons sold of 15.0% and a decrease in the average retail fuel price of 21.3%.
The decrease in fuel gallons sold was slightly better than the national trend,
which decreased due to the COVID-19 pandemic. The decrease in the average retail
fuel price was caused by a decrease in the product cost of fuel.



                                       21


Total sales were $72.0 billion in the first two quarters of 2020, compared to
$65.4 billion in the first two quarters of 2019. This increase was due to an
increase in total sales to retail customers without fuel, partially offset by a
reduction in supermarket fuel sales and decreased sales due to the disposal of
Turkey Hill Dairy and You Technology in the first quarter of 2019. Total sales
to retail customers without fuel increased 16.5% in the first two quarters of
2020, compared to the first two quarters of 2019. This increase was primarily
due to our identical sales increase, excluding fuel, of 17.1%, partially offset
by decreased sales due to the deconsolidation of Lucky's Market in the fourth
quarter of 2019. The significant increase in identical sales, excluding fuel,
was caused by unprecedented demand for products across grocery and fresh
departments due to the COVID-19 pandemic and growth in market share. Market
share contributed to our identical sales increase, excluding fuel, as our sales
outpaced the general growth in the food retail industry during the first two
quarters of 2020. The increase in identical sales, excluding fuel, was broad
based across all retail divisions and remained heightened throughout the first
two quarters of 2020. During the pandemic, customers reduced trips while
significantly increasing basket value.



Total supermarket fuel sales decreased 36.3% in the first two quarters of 2020,
compared to the first two quarters of 2019, primarily due to a decrease in fuel
gallons sold of 20.5% and a decrease in the average retail fuel price of 19.9%.
The decrease in fuel gallons sold was reflective of the national trend, which
decreased due to the COVID-19 pandemic. The decrease in the average retail fuel
price was caused by a decrease in the product cost of fuel.



We calculate identical sales, excluding fuel, as sales to retail customers,
including sales from all departments at identical supermarket locations, Kroger
Specialty Pharmacy businesses and ship-to-home solutions. We define a
supermarket as identical when it has been in operation without expansion or
relocation for five full quarters. Although identical sales is a relatively
standard term, numerous methods exist for calculating identical sales growth. As
a result, the method used by our management to calculate identical sales may
differ from methods other companies use to calculate identical sales. We urge
you to understand the methods used by other companies to calculate identical
sales before comparing our identical sales to those of other such companies. Our
identical sales, excluding fuel, results are summarized in the following table.
We used the identical sales, excluding fuel, dollar figures presented below to
calculate percentage changes for the second quarter and first two quarters
of
2020.



                                Identical Sales

                                ($ in millions)




                                            Second Quarter Ended
                           August 15,     Percentage     August 17,     Percentage
                              2020        Change(1)         2019        Change(2)
Excluding fuel centers    $     27,761          14.6 %  $     24,226           2.2 %

(1) This column represents the percentage change in identical sales in the second

quarter of 2020, compared to the second quarter of 2019.

(2) This column represents the percentage change in identical sales in the second

    quarter of 2019, compared to the second quarter of 2018.





                                             Two Quarters Ended
                           August 15,     Percentage     August 17,     Percentage
                              2020        Change(1)         2019        Change(2)
Excluding fuel centers    $     65,898          17.1 %  $     56,272           1.8 %

(1) This column represents the percentage change in identical sales in the first

two quarters of 2020, compared to the first two quarters of 2019.

(2) This column represents the percentage change in identical sales in the first

    two quarters of 2019, compared to the first two quarters of 2018.




                                       22


Gross Margin, LIFO and FIFO Gross Margin




We define gross margin as sales minus merchandise costs, including advertising,
warehousing, and transportation. Rent expense, depreciation and amortization
expense, and interest expense are not included in gross margin.



Our gross margin rate, as a percentage of sales, was 22.76% for the second
quarter of 2020, compared to 21.87% for the second quarter of 2019. The increase
in rate in the second quarter of 2020, compared to the second quarter of 2019,
resulted primarily from decreased fuel sales, which have a lower gross margin
rate, an increase in our fuel gross margin, growth in our alternative profit
stream portfolio, effective negotiations to achieve savings on the cost of
products sold, a lower LIFO charge and decreased shrink, transportation and
advertising costs, as a percentage of sales, reflecting the significant increase
in sales volumes, partially offset by continued investments in lower prices for
our customers and a change in our product sales mix, including lower relative
sales in higher gross margin categories such as deli/bakery.



Our gross margin rate, as a percentage of sales, was 23.64% for the first two
quarters of 2020, compared to 22.06% for the first two quarters of 2019. The
increase in rate in the first two quarters of 2020, compared to the first two
quarters of 2019, resulted primarily from decreased fuel sales, which have a
lower gross margin rate, an increase in our fuel gross margin, growth in our
alternative profit stream portfolio, effective negotiations to achieve savings
on the cost of products sold and decreased shrink, transportation and
advertising costs, as a percentage of sales, reflecting the significant increase
in sales volumes, partially offset by continued investments in lower prices for
our customers and a change in our product sales mix, including lower relative
sales in higher gross margin categories such as deli/bakery.



Our LIFO charge was $23 million for the second quarter of 2020 compared to $30
million for the second quarter of 2019. Our LIFO charge was $54 million for the
first two quarters of 2020 compared to $46 million for the first two quarters of
2019. Our LIFO charge reflects an increase in our expected annualized product
cost inflation for 2020, primarily driven by grocery, meat and pharmacy.



Our FIFO gross margin rate, which excludes the second quarter LIFO charge, was
22.83% for the second quarter of 2020, compared to 21.98% for the second quarter
of 2019. Our fuel sales lower our FIFO gross margin rate due to the very low
FIFO gross margin rate, as a percentage of sales, of fuel sales compared to
non-fuel sales. Excluding the effect of fuel, our FIFO gross margin rate
increased 5 basis points in the second quarter of 2020, compared to the second
quarter of 2019. This increase resulted primarily from growth in our alternative
profit stream portfolio, effective negotiations to achieve savings on the cost
of products sold and decreased shrink, transportation and advertising costs, as
a percentage of sales, reflecting the significant increase in sales volumes,
partially offset by continued investments in lower prices for our customers and
a change in our product sales mix, including lower relative sales in higher
gross margin categories such as deli/bakery.



Our FIFO gross margin rate, which excludes the first two quarters LIFO charge,
was 23.72% for the first two quarters of 2020, compared to 22.13% for the first
two quarters of 2019. Excluding the effect of fuel, our FIFO gross margin rate
increased 29 basis points in the first two quarters of 2020, compared to the
first two quarters of 2019. This increase resulted primarily from growth in our
alternative profit stream portfolio, effective negotiations to achieve savings
on the cost of products sold and decreased shrink, transportation and
advertising costs, as a percentage of sales, reflecting the significant increase
in sales volumes, partially offset by continued investments in lower prices for
our customers and a change in our product sales mix, including lower relative
sales in higher gross margin categories such as deli/bakery.



Operating, General and Administrative Expenses

OG&A expenses consist primarily of employee-related costs such as wages, healthcare benefit costs, retirement plan costs, utilities, and credit card fees. Rent expense, depreciation and amortization expense, and interest expense are not included in OG&A.



                                       23


OG&A expenses, as a percentage of sales, were 17.37% for the second quarter of
2020, compared to 17.08% for the second quarter of 2019. The increase in the
second quarter of 2020, compared to the second quarter of 2019 resulted
primarily from the 2020 Second Quarter OG&A Adjusted Items, the Second Quarter
COVID-19 Investments, growth in our digital channel as a result of heightened
demand during the pandemic and the effect of decreased fuel sales, which
increases our OG&A rate, as a percentage of sales, partially offset by the
effect of increased sales due to the pandemic which decreases our OG&A rate, as
a percentage of sales, the 2019 Second Quarter OG&A Adjusted Items and broad
based improvement of Restock Kroger cost savings initiatives that drive
administrative efficiencies, store productivity and sourcing cost reductions.



Our fuel sales lower our OG&A rate, as a percentage of sales, due to the very
low OG&A rate, as a percentage of sales, of fuel sales compared to non-fuel
sales. Excluding the effect of fuel, the 2020 Second Quarter OG&A Adjusted Items
and the 2019 Second Quarter OG&A Adjusted Items, our OG&A rate decreased 61
basis points in the second quarter of 2020, compared to the second quarter of
2019. This decrease resulted primarily from the effect of increased sales due to
the pandemic which decreases our OG&A rate, as a percentage of sales, and broad
based improvement of Restock Kroger cost savings initiatives that drive
administrative efficiencies, store productivity and sourcing cost reductions,
partially offset by the Second Quarter COVID-19 Investments and growth in our
digital channel as a result of heightened demand during the pandemic.



OG&A expenses, as a percentage of sales, were 18.00% for the first two quarters
of 2020, compared to 17.01% for the first two quarters of 2019. The increase in
the first two quarters of 2020, compared to the first two quarters of 2019
resulted primarily from the 2020 Multi-Employer Pension Contribution, the 2020
OG&A Adjusted Items, the COVID-19 Investments, growth in our digital channel as
a result of heightened demand during the pandemic and the effect of decreased
fuel sales, which increases our OG&A rate, as a percentage of sales, partially
offset by the effect of increased sales due to the pandemic which decreases our
OG&A rate, as a percentage of sales, the 2019 OG&A Adjusted Items and broad
based improvement of Restock Kroger cost savings initiatives that drive
administrative efficiencies, store productivity and sourcing cost reductions.



Excluding the effect of fuel, the 2020 OG&A Adjusted Items and the 2019 OG&A
Adjusted Items, our OG&A rate increased 4 basis points in the first two quarters
of 2020, compared to the first two quarters of 2019. This increase resulted
primarily from the 2020 Multi-Employer Pension Contribution, the COVID-19
Investments and growth in our digital channel as a result of heightened demand
during the pandemic, partially offset by the effect of increased sales due to
the pandemic which decreases our OG&A rate, as a percentage of sales and broad
based improvement of Restock Kroger cost savings initiatives that drive
administrative efficiencies, store productivity and sourcing cost reductions.
Excluding the effect of fuel, the 2020 OG&A Adjusted Items, the 2019 OG&A
Adjusted Items and the 2020 Multi-Employer Pension Contribution, our OG&A rate
improved 32 basis points.



Rent Expense



Rent expense decreased, as a percentage of sales, in both the second quarter and
first two quarters of 2020, compared to the same periods in 2019. This decrease
resulted primarily from the effect of increased sales due to the pandemic which
decreases our rent expense, as a percentage of sales.



Depreciation and Amortization Expense

Depreciation and amortization expense decreased, as a percentage of sales, in
both the second quarter and first two quarters of 2020, compared to the same
periods in 2019. This decrease resulted primarily from the effect of increased
sales due to the pandemic which decreases our depreciation expense, as a
percentage of sales, partially offset by decreased fuel sales, which increases
our depreciation expense, as a percentage of sales, additional depreciation on
capital investments, excluding mergers and lease buyouts during the rolling four
quarter period ending with the second quarter of 2020 of $2.9 billion and a
decrease in the average useful life on these capital investments. Our strategy
under Restock Kroger includes initiatives to enhance the customer experience in
stores, improve our process efficiency and integrate our digital shopping
experience through technology developments. As such, the percentage of capital
investments related to digital and technology has grown compared to the prior
year, which has caused a decrease in the average depreciable life of our capital
portfolio.



                                       24


Operating Profit and FIFO Operating Profit




Operating profit was $820 million, or 2.69% of sales, for the second quarter of
2020, compared to $559 million, or 1.98% of sales, for the second quarter of
2019. Operating profit, as a percentage of sales, increased 71 basis points in
the second quarter of 2020, compared to the second quarter of 2019, due to
improved sales to retail customers without fuel, a higher gross margin rate,
decreased rent and depreciation and amortization expenses, as a percentage of
sales, partially offset by increased OG&A expense, as a percentage of sales, and
decreased fuel earnings.



Operating profit was $2.1 billion, or 2.98% of sales, for the first two quarters
of 2020, compared to $1.5 billion, or 2.23% of sales, for the first two quarters
of 2019. Operating profit, as a percentage of sales, increased 75 basis points
in the first two quarters of 2020, compared to the first two quarters of 2019,
due to improved sales to retail customers without fuel, a higher gross margin
rate, decreased rent and depreciation and amortization expenses, as a percentage
of sales, and increased fuel earnings, partially offset by increased OG&A
expense, as a percentage of sales.



FIFO operating profit was $843 million, or 2.76% of sales, for the second
quarter of 2020, compared to $589 million, or 2.09% of sales, for the second
quarter of 2019. FIFO operating profit, excluding the 2020 and 2019 Second
Quarter Adjusted Items, increased 74 basis points in the second quarter of 2020,
compared to the second quarter of 2019, due to improved sales to retail
customers without fuel, a higher gross margin rate, decreased rent and
depreciation and amortization expenses, as a percentage of sales, partially
offset by increased OG&A expense, as a percentage of sales, and decreased fuel
earnings.



FIFO operating profit was $2.2 billion, or 3.05% of sales, for the first two
quarters of 2020, compared to $1.5 billion, or 2.30% of sales, for the first two
quarters of 2019. FIFO operating profit, excluding the 2020 and 2019 Adjusted
Items, increased 86 basis points in the first two quarters of 2020, compared to
the first two quarters of 2019, due to improved sales to retail customers
without fuel, a higher gross margin rate, decreased rent and depreciation and
amortization expenses, as a percentage of sales, and increased fuel earnings,
partially offset by increased OG&A expense, as a percentage of sales.



Specific factors contributing to the operating trends for operating profit and FIFO operating profit above are discussed earlier in this section.

The following table provides a reconciliation of operating profit to FIFO operating profit, and to Adjusted FIFO operating profit, excluding the 2020 and 2019 Adjusted Items.



                 Operating Profit excluding the Adjusted Items

                                ($ in millions)




                                                   Second Quarter Ended              Two Quarters Ended
                                               August 15,        August 17,     August 15,       August 17,
                                                  2020              2019           2020             2019
Operating profit                              $        820$        559$     2,146$      1,460
LIFO charge                                             23                30             54               46

FIFO Operating profit                                  843               589          2,200            1,506

Adjustment for pension plan withdrawal
liabilities                                              -                27              -               86
Adjustment for Home Chef contingent
consideration                                           25                 2             85             (21)
Adjustment for transformation costs                     29                 -             67                -
Other                                                  (3)                 8            (5)               12

2020 and 2019 Adjusted items                            51                37            147               77

Adjusted FIFO operating profit excluding
the adjusted items above                      $        894$        626$     2,347$      1,583




                                       25



Income Taxes



The effective income tax rate was 22.7% in the second quarter of 2020, compared
to 24.5% in the second quarter of 2019. The effective income tax rate was 23.2%
for the first two quarters of 2020, compared to 23.3% for the first two quarters
of 2019. The effective income tax rate for the second quarter and first two
quarters of 2020 differed from the federal statutory rate due to the effect of
state income taxes, partially offset by the utilization of tax credits and
deductions and the benefit from share-based payments. The effective income tax
rate for the second quarter of 2019 and the first two quarters of 2019 differed
from the federal statutory rate due to the effect of state income taxes and tax
expense related to share-based payments, partially offset by the utilization of
tax credits and deductions.


Net Earnings and Net Earnings Per Diluted Share

Our net earnings are based on the factors discussed in the Results of Operations section.




Net earnings were $1.03 per diluted share for the second quarter of 2020
compared to net earnings of $0.37 per diluted share for the second quarter of
2019.  Adjusted net earnings of $0.73 per diluted share for the second quarter
of 2020 represented an increase of 65.9% compared to adjusted net earnings of
$0.44 per diluted share for the second quarter of 2019. The increase in adjusted
net earnings per diluted share resulted primarily from increased FIFO operating
profit without fuel and lower weighted average common shares outstanding due to
common share repurchases, partially offset by decreased fuel earnings and a
higher income tax expense.



Net earnings were $2.55 per diluted share for the first two quarters of 2020
compared to net earnings of $1.31 per diluted share for the first two quarters
of 2019.  Adjusted net earnings of $1.95 per diluted share for the first two
quarters of 2020 represented an increase of 68.1% compared to adjusted net
earnings of $1.16 per diluted share for the first two quarters of 2019. The
increase in adjusted net earnings per diluted share resulted primarily from
increased FIFO operating profit without fuel, increased fuel earnings and lower
weighted average common shares outstanding due to common share repurchases,
partially offset by a higher income tax expense.



LIQUIDITY AND CAPITAL RESOURCES



Cash Flow Information


Net cash provided by operating activities

We generated $5.4 billion of cash from operations in the first two quarters of
2020 compared to $3.3 billion in the first two quarters of 2019. Net earnings
including noncontrolling interests, adjusted for non-cash items and other
impacts, generated approximately $3.7 billion of operating cash flow in the
first two quarters of 2020 compared to $2.4 billion in the first two quarters of
2019. Cash provided by operating activities for changes in working capital was
$1.7 billion in the first two quarters of 2020 compared to $845 million in the
first two quarters of 2019. The increase in cash provided by operating
activities for changes in working capital in the first two quarters of 2020,
compared to the first two quarters of 2019, was primarily due to the following:



A decrease in FIFO inventory at the end of the second quarter of 2020 due to

? accelerated timing of inventory sell-through resulting from elevated demand for

   our products during the pandemic;



Increased trade accounts payable at the end of the second quarter of 2020,

? primarily related to inventory purchases to meet elevated demand during the

   pandemic and improved vendor terms;



An increase in accrued salaries and wages at the end of the second quarter of

? 2020, primarily related to an increase in employee headcount in response to the

   pandemic; and



Cash flows from income taxes were favorable in the first two quarters of 2020

? compared to the first two quarters of 2019, primarily due to favorable changes

in the timing of certain deductions including changes enacted under the CARES

   Act;




? Partially offset by proceeds from a contract associated with the sale of a

business that benefited the first two quarters of 2019.




                                       26


Cash paid for interest increased in the first two quarters of 2020, compared to the first two quarters of 2019, primarily due to the timing of certain semi-annual senior notes interest payments that were paid during the first quarter of 2020 which were accrued as of the end of fiscal year 2019.

Net cash used by investing activities

Investing activities used cash of $1.3 billion in the first two quarters of 2020
compared to $1.0 billion in the first two quarters of 2019. The amount of cash
used by investing activities increased in the first two quarters of 2020
compared to the first two quarters of 2019, primarily due to the following:

? Decreased proceeds from the sale of assets in the first two quarters of 2020

compared to the first two quarters of 2019; and

? Proceeds from the sale of businesses that benefited the first two quarters of

   2019, partially offset by



Reduced payments for property and equipment in the first two quarters of 2020

? to ensure the focus of our teams was on addressing our most important

priorities during the pandemic.

Net cash used by financing activities




We used $1.6 billion of cash for financing activities in the first two quarters
of 2020 compared to $2.0 billion during the first two quarters of 2019. The
amount of cash used for financing activities for the first two quarters of 2020,
compared to the first two quarters of 2019, decreased primarily due to increased
proceeds from issuance of long-term debt and decreased payments on long-term
debt, partially offset by increased payments on commercial paper and share
repurchases.



Debt Management



As of August 15, 2020, we maintained a $2.75 billion (with the ability to
increase by $1 billion), unsecured revolving credit facility that, unless
extended, terminates on August 29, 2022. Outstanding borrowings under the credit
facility, commercial paper borrowings, and some outstanding letters of credit
reduce funds available under the credit facility. As of August 15, 2020, we had
no outstanding commercial paper and no borrowings under our revolving credit
facility. The outstanding letters of credit that reduce funds available under
our credit facility totaled $2 million as of August 15, 2020.



Our bank credit facility and the indentures underlying our publicly issued debt
contain various financial covenants. As of August 15, 2020, we were in
compliance with the financial covenants. Furthermore, management believes it is
not reasonably likely that we will fail to comply with these financial covenants
in the foreseeable future.



Total debt, including both the current and long-term portions of obligations
under finance leases, decreased $594 million as of August 15, 2020 compared to
our fiscal year end 2019 debt of $14.1 billion. This decrease resulted primarily
from net payments on commercial paper borrowings of $1.2 billion partially
offset by the issuance of $500 million of senior notes bearing an interest
rate
of 2.20%.


Common Share Repurchase Program




During the second quarter of 2020, we invested $247 million to repurchase 7.3
million Kroger common shares at an average price of $33.89 per share. For the
first two quarters of 2020, we invested $669 million to repurchase 21.6 million
Kroger common shares at an average price of $30.99 per share. The shares
repurchased in the first two quarters of 2020 were reacquired under the
following share repurchase programs:



On November 5, 2019, our Board of Directors approved a $1.0 billion share

repurchase program to reacquire shares via open market purchase or privately

? negotiated transactions, block trades, or pursuant to trades intending to

comply with Rule 10b5-1 under the Securities Exchange Act of 1934, as amended

   (the "November 2019 Repurchase Program"), and



A program that uses the cash proceeds from the exercises of stock options by

? participants in Kroger's stock option, long-term incentive plans and the

   associated tax benefits.


                                       27



As of August 15, 2020, there was $33 million remaining under the November 2019
Repurchase Program. On September 11, 2020, our Board of Directors approved a
$1.0 billion share repurchase program to reacquire shares via open market
purchase or privately negotiated transactions, block trades, or pursuant to
trades intending to comply with Rule 10b5-1 under the Securities Exchange Act of
1934, as amended (the "September 2020 Repurchase Program"). The September 2020
Repurchase Program authorization replaced the existing November 2019 Repurchase
Program.



Dividends



The following table provides dividend information ($ in millions, except per
share amounts):




                                                Second Quarter Ended          Two Quarters Ended
                                             August 15,     August 17,    August 15,     August 17,
                                                2020           2019          2020           2019
Cash dividends paid                          $       126$       113$       254$       226
Cash dividends paid per common share         $      0.16$      0.14   $
     0.32    $      0.28




Liquidity Needs



Based on current operating trends, we believe that cash flows from operating
activities and other sources of liquidity, including borrowings under our
commercial paper program and bank credit facility, will be adequate to meet our
liquidity needs for the next twelve months and for the foreseeable future beyond
the next twelve months. Our liquidity needs include anticipated requirements for
working capital, capital investments, interest payments and scheduled principal
payments of debt and commercial paper, offset by cash and temporary cash
investments on hand at the end of the second quarter of 2020. We generally
operate with a working capital deficit due to our efficient use of cash in
funding operations and because we have consistent access to the capital markets.
We have approximately $1.0 billion of senior notes maturing in the next twelve
months, which are included in our estimated liquidity needs. We expect to
satisfy these obligations using cash generated from operations, temporary cash
investments on hand, or through the issuance of additional senior notes or
commercial paper. We believe we have adequate coverage of our debt covenants to
continue to maintain our current investment grade debt ratings and to respond
effectively to competitive conditions.



We held cash and temporary cash investments of $2.8 billion as of the end of the
second quarter of 2020, reflecting improved operating performance, significant
improvements in working capital and deferred tax payments as a result of the
CARES Act. We expect working capital to improve for the year, although not to
the level experienced in the first two quarters of 2020, which was inflated by
significant sales growth due to COVID-19. We remain committed to our dividend
and share repurchase program and we will be evaluating the optimal use of any
excess free cash flow, consistent with our previously stated capital allocation
strategy.



The CARES Act, which was enacted on March 27, 2020, includes measures to assist
companies in response to the COVID-19 pandemic. These measures include deferring
the due dates of tax payments and other changes to income and non-income-based
tax laws. As permitted under the CARES Act, we will defer the remittance of the
employer portion of the social security tax. The social security tax provision
requires that the deferred employment tax be paid over two years, with half of
the amount required to be paid by December 31, 2021 and the other half by
December 31, 2022. During the first two quarters of 2020, we deferred the
employer portion of social security tax of $329 million which is included in
"Other long-term liabilities" in our Consolidated Balance Sheets. We expect to
defer a total of approximately $600 to $650 million of payments related to the
employer's portion of social security tax in 2020.



For additional information about our debt activity in the first two quarters of
2020, including the drawdown and repayments under our revolving credit facility,
forward-starting interest rate swap agreements and our senior notes issuance,
see Note 2 to the Consolidated Financial Statements.



                                       28



CAPITAL INVESTMENTS



Capital investments, excluding mergers, acquisitions and the purchase of leased
facilities, totaled $683 million for the second quarter of 2020 compared to $676
million for the second quarter of 2019. Capital investments, excluding mergers,
acquisitions and the purchase of leased facilities, totaled $1.4 billion in the
first two quarters of 2020 and $1.6 billion in the first two quarters of 2019.
During the rolling four quarter period ended with the second quarter of 2020, we
opened, expanded, relocated or acquired 21 supermarkets and also completed 98
major within-the-wall remodels. Total supermarket square footage at the end of
the second quarter of 2020 remained relatively consistent with the end of the
second quarter of 2019. Excluding mergers, acquisitions and operational
closings, total supermarket square footage at the end of the second quarter of
2020 increased 0.5% over the end of the second quarter of 2019.



CRITICAL ACCOUNTING POLICIES



We have chosen accounting policies that we believe are appropriate to report
accurately and fairly our operating results and financial position, and we apply
those accounting policies in a consistent manner. Our critical accounting
policies are summarized in our Annual Report on Form 10-K for the fiscal year
ended February 1, 2020.


The preparation of financial statements in conformity with GAAP requires us to
make estimates and assumptions that affect the reported amounts of assets,
liabilities, revenues and expenses, and related disclosures of contingent assets
and liabilities. We base our estimates on historical experience and other
factors we believe to be reasonable under the circumstances, the results of
which form the basis for making judgments about the carrying values of assets
and liabilities that are not readily apparent from other sources. Actual results
could vary from those estimates.



NEW ACCOUNTING STANDARDS



Refer to Note 5 and Note 6 to the Consolidated Financial Statements for recently
adopted accounting standards and recently issued accounting standards not yet
adopted as of August 15, 2020.



                                       29

© Edgar Online, source Glimpses


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Financials (USD)
Sales 2021 132 B - -
Net income 2021 2 688 M - -
Net Debt 2021 13 819 M - -
P/E ratio 2021 9,50x
Yield 2021 2,05%
Capitalization 25 699 M 25 699 M -
EV / Sales 2021 0,30x
EV / Sales 2022 0,31x
Nbr of Employees 500 000
Free-Float 40,1%
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NameTitle
W. Rodney McMullen Chairman & Chief Executive Officer
Michael Joseph Donnelly Chief Operating Officer & Executive Vice President
Gary Millerchip Chief Financial Officer & Senior Vice President
Yael Cosset Chief Information Officer & Senior Vice President
Bobby S. Shackouls Independent Director
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