UNITED STATES

 SECURITIES AND EXCHANGE COMMISSION

 Washington, D.C. 20549

 

FORM 10-K

 

(Mark One)

 

x

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the fiscal year ended February 2, 2013.

 

OR

 

o

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

 

For the transition period from                    to                  

 

Commission file number 1-303

 

THE KROGER CO.

(Exact name of registrant as specified in its charter)

 

Ohio

 

31-0345740

(State or Other Jurisdiction of Incorporation or Organization)

 

(I.R.S. Employer Identification No.)

 

 

 

1014 Vine Street, Cincinnati, OH

 

45202

(Address of Principal Executive Offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code (513) 762-4000

 

Securities registered pursuant to Section 12(b) of the Act:

 

Title of each class

 

Name of each exchange on which registered

Common Stock $1 par value

 

New York Stock Exchange

 

Securities registered pursuant to section 12(g) of the Act:

 

NONE

 (Title of class)

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act.  Yes x No o

 

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act.  Yes o No x

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x No o

 

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K (§299.405 of this chapter) is not contained herein, and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. o

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company.  See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer  x

 

Accelerated filer  o

 

 

 

Non-accelerated filer  o
(Do not check if a smaller reporting company)

 

Smaller reporting company  o

 

Indicate by check mark whether the registrant is a shell company (as defined by Rule 12b-2 of the Exchange Act).  Yes o No x

 

The aggregate market value of the Common Stock of The Kroger Co. held by non-affiliates as of August 11, 2012:  $12.0 billion.  There were 520,863,025 shares of Common Stock ($1 par value) outstanding as of March 29, 2013.

 

Documents Incorporated by Reference:

 

Portions of the proxy statement to be filed pursuant to Regulation 14A of the Exchange Act on or before June 3, 2013, are incorporated by reference into Part III of this Form 10-K.

 

 

 



 

PART I

 

ITEM 1.                        BUSINESS.

 

The Kroger Co. (the “Company”) was founded in 1883 and incorporated in 1902.  As of February 2, 2013, the Company was one of the largest retailers in the world based on annual sales.  The Company also manufactures and processes some of the food for sale in its supermarkets.  The Company’s principal executive offices are located at 1014 Vine Street, Cincinnati, Ohio 45202, and its telephone number is (513) 762-4000.  The Company maintains a web site (www.thekrogerco.com) that includes additional information about the Company.  The Company makes available through its web site, free of charge, its annual reports on Form 10-K, its quarterly reports on Form 10-Q, its current reports on Form 8-K and its interactive data files, including amendments.  These forms are available as soon as reasonably practicable after the Company has filed them with, or furnished them electronically to, the SEC.

 

The Company’s revenues are earned and cash is generated as consumer products are sold to customers in its stores. The Company earns income predominantly by selling products at price levels that produce revenues in excess of its costs to make these products available to its customers.  Such costs include procurement and distribution costs, facility occupancy and operational costs, and overhead expenses.  The Company’s fiscal year ends on the Saturday closest to January 31.

 

EMPLOYEES

 

As of February 2, 2013, the Company employed approximately 343,000 full- and part-time employees. A majority of the Company’s employees are covered by collective bargaining agreements negotiated with local unions affiliated with one of several different international unions. There are approximately 300 such agreements, usually with terms of three to five years.

 

During 2013, the Company will negotiate major labor contracts covering store employees in Indianapolis, Houston, Dallas, Cincinnati and Seattle, among others.  These negotiations will be challenging, as the Company seeks competitive cost structures in each market while meeting our associates’ needs for good wages and affordable health care.  In these negotiations, we will also need to address the underfunding of our multi-employer pension plans.

 

STORES

 

As of February 2, 2013, the Company operated, either directly or through its subsidiaries, 2,424 supermarkets and multi-department stores, 1,169 of which had fuel centers.  Approximately 45% of these supermarkets were operated in Company-owned facilities, including some Company-owned buildings on leased land.  The Company’s current strategy emphasizes self-development and ownership of store real estate.  The Company’s stores operate under several banners that have strong local ties and brand recognition.  Supermarkets are generally operated under one of the following formats: combination food and drug stores (“combo stores”); multi-department stores; marketplace stores; or price impact warehouses.

 

The combo stores are the primary food store format.  They typically draw customers from a 2 — 2½ mile radius.  The Company believes this format is successful because the stores are large enough to offer the specialty departments that customers desire for one-stop shopping, including natural food and organic sections, pharmacies, general merchandise, pet centers and high-quality perishables such as fresh seafood and organic produce.

 

Multi-department stores are significantly larger in size than combo stores.  In addition to the departments offered at a typical combo store, multi-department stores sell a wide selection of general merchandise items such as apparel, home fashion and furnishings, electronics, automotive products, toys and fine jewelry.

 

Marketplace stores are smaller in size than multi-department stores.  They offer full-service grocery and pharmacy departments as well as an expanded general merchandise area that includes outdoor living products, electronics, home goods and toys.

 

Price impact warehouse stores offer a “no-frills, low cost” warehouse format and feature everyday low prices plus promotions for a wide selection of grocery and health and beauty care items. Quality meat, dairy, baked goods and fresh produce items provide a competitive advantage. The average size of a price impact warehouse store is similar to that of a combo store.

 

2



 

In addition to the supermarkets, as of February 2, 2013, the Company operated through subsidiaries 786 convenience stores and 328 fine jewelry stores.  All of our fine jewelry stores located in malls are operated in leased locations.  In addition, 81 convenience stores were operated by franchisees through franchise agreements.  Approximately 53% of the convenience stores operated by subsidiaries were operated in Company-owned facilities. The convenience stores offer a limited assortment of staple food items and general merchandise and, in most cases, sell gasoline.

 

SEGMENTS

 

The Company operates retail food and drug stores, multi-department stores, jewelry stores, and convenience stores throughout the United States.  The Company’s retail operations, which represent over 99% of the Company’s consolidated sales and EBITDA, are its only reportable segment.  The Company’s retail operating divisions have been aggregated into one reportable segment due to the operating divisions having similar economic characteristics with similar long-term financial performance.  In addition, the Company’s operating divisions offer to its customers similar products, have similar distribution methods, operate in similar regulatory environments, purchase the majority of the Company’s merchandise for retail sale from similar (and in many cases identical) vendors on a coordinated basis from a centralized location, serve similar types of customers, and are allocated capital from a centralized location.  The Company’s operating divisions reflect the manner in which the business is managed and how the Company’s Chief Executive Officer and Chief Operating Officer, who act as the Company’s chief operating decision makers, assess performance internally.  All of the Company’s operations are domestic.  Revenues, profit and losses and total assets are shown in the Company’s Consolidated Financial Statements set forth in Item 8 below.

 

MERCHANDISING AND MANUFACTURING

 

Corporate brand products play an important role in the Company’s merchandising strategy.  Our supermarkets, on average, stock approximately 12,000 private label items.  The Company’s corporate brand products are produced and sold in three “tiers.”  Private Selection is the premium quality brand designed to be a unique item in a category or to meet or beat the “gourmet” or “upscale” brands.  The “banner brand” (Kroger, Ralphs, King Soopers, etc.), which represents the majority of the Company’s private label items, is designed to satisfy customers with quality products.  Before Kroger will carry a banner brand product we must be satisfied that the product quality meets our customers’ expectations in taste and efficacy, and we guarantee it.  Kroger Value is the value brand, designed to deliver good quality at a very affordable price.   In addition, the Company recently introduced two corporate brand lines, Simple Truth and Simple Truth Organic.  Both brands are free from 101 artificial preservatives and ingredients that customers have told us they do not want in their food, and the Simple Truth Organic products are USDA certified organic.

 

Approximately 40% of the corporate brand units sold are produced in the Company’s manufacturing plants; the remaining corporate brand items are produced to the Company’s strict specifications by outside manufacturers. The Company performs a “make or buy” analysis on corporate brand products and decisions are based upon a comparison of market-based transfer prices versus open market purchases.  As of February 2, 2013, the Company operated 37 manufacturing plants. These plants consisted of 17 dairies, nine deli or bakery plants, five grocery product plants, two beverage plants, two meat plants and two cheese plants.

 

EXECUTIVE OFFICERS OF THE REGISTRANT

 

The disclosure regarding executive officers is set forth in Item 10 of Part III of this Form 10-K under the heading “Executive Officers of the Company,” and is incorporated herein by reference.

 

COMPETITIVE ENVIRONMENT

 

For the disclosure related to the Company’s competitive environment, see Item 1A under the heading “Competitive Environment.”

 

3



 

ITEM 1A.             RISK FACTORS.

 

There are risks and uncertainties that can affect our business.  The significant risk factors are discussed below.  Please also see the “Outlook” section in Item 7 of this Form 10-K for forward-looking statements and factors that could cause us not to realize our goals or meet our expectations.

 

COMPETITIVE ENVIRONMENT

 

The operating environment for the food retailing industry continues to be characterized by intense price competition, aggressive supercenter expansion, increasing fragmentation of retail formats, entry of non-traditional competitors and market consolidation.  We have developed a strategic plan that we believe provides a balanced approach that will enable Kroger to meet the wide-ranging needs and expectations of our customers in this challenging economic environment.  However, the nature and extent to which our competitors implement various pricing and promotional activities in response to increasing competition, including our execution of our strategic plan, and our response to these competitive actions, can adversely affect our profitability.  Our profitability and growth have been and could continue to be adversely affected by changes in the overall economic environment that affect consumer spending, including discretionary spending.

 

PRODUCT SAFETY

 

Customers count on Kroger to provide them with safe food and drugs, and other merchandise.  Concerns regarding the safety of the products that Kroger sells could cause shoppers to avoid purchasing certain products from us, or to seek alternative sources of supply even if the basis for the concern is outside of our control.  Any lost confidence on the part of our customers would be difficult and costly to reestablish.  Any issue regarding the safety of items sold by Kroger, regardless of the cause, could have a substantial and adverse effect on our operations.

 

LABOR RELATIONS

 

A majority of our employees are covered by collective bargaining agreements with unions, and our relationship with those unions, including a prolonged work stoppage affecting a substantial number of locations, could have a material adverse effect on our results.

 

We are a party to approximately 300 collective bargaining agreements.  We have various labor agreements that will be negotiated in 2013, covering store employees in Indianapolis, Houston, Dallas, Cincinnati and Seattle, among others.  Upon the expiration of our collective bargaining agreements, work stoppages by the affected workers could occur if we are unable to negotiate new contracts with labor unions.  A prolonged work stoppage affecting a substantial number of locations could have a material adverse effect on our results.  Further, if we are unable to control health care, pension and wage costs, or if we have insufficient operational flexibility under our collective bargaining agreements, we may experience increased operating costs and an adverse effect on future results of operations.

 

STRATEGY EXECUTION

 

Our strategy focuses on improving our customers’ shopping experiences through improved service, product selection and price.  Successful execution of this strategy requires a balance between sales growth and earnings growth.  Maintaining this strategy requires the ability to develop and execute plans to generate cost savings and productivity improvements that can be invested in the merchandising and pricing initiatives necessary to support our customer-focused programs, as well as recognizing and implementing organizational changes as required.  If we are unable to execute our plans, or if our plans fail to meet our customers’ expectations, our sales and earnings growth could be adversely affected.

 

DATA AND TECHNOLOGY

 

Our business is increasingly dependent on information technology systems that are complex and vital to continuing operations.  If we were to experience difficulties maintaining existing systems or implementing new systems, we could incur significant losses due to disruptions in our operations.

 

4



 

Through our sales and marketing activities, we collect and store some personal information that our customers provide to us.  We also gather and retain information about our associates in the normal course of business.  Under certain circumstances, we may share information with vendors that assist us in conducting our business, as required by law, or with the permission of the individual.  Although we have implemented procedures to protect our information, we cannot be certain that all of our systems are entirely free from vulnerability to attack.  Computer hackers may attempt to penetrate our or our vendors’ network security and, if successful, misappropriate confidential customer or business information.  In addition, a Kroger associate, or a contractor or other third party with whom we do business may attempt to circumvent our security measures in order to obtain information or inadvertently cause a breach involving information. Loss of customer or business information could disrupt our operations, damage our reputation, and expose us to claims from customers, financial institutions, regulatory authorities, payment card associations, associates, and other persons, any of which could have an adverse effect on our business, financial condition and results of operations.  In addition, compliance with tougher privacy and information security laws and standards may result in significant expense due to increased investment in technology and the development of new operational processes.

 

INDEBTEDNESS

 

As of year-end 2013, Kroger’s outstanding indebtedness, including capital leases and financing obligations, totaled approximately $8.9 billion.  This indebtedness could reduce our ability to obtain additional financing for working capital, acquisitions or other purposes and could make us vulnerable to future economic downturns as well as competitive pressures.  If debt markets do not permit us to refinance certain maturing debt, we may be required to dedicate a substantial portion of our cash flow from operations to payments on our indebtedness.  Changes in our credit ratings, or in the interest rate environment, could have an adverse effect on our financing costs and structure.

 

LEGAL PROCEEDINGS

 

From time to time, we are a party to legal proceedings, including matters involving personnel and employment issues, personal injury, antitrust claims and other proceedings.  Other legal proceedings purport to be brought as class actions on behalf of similarly situated parties.  Some of these proceedings could result in a substantial loss to Kroger.  We estimate our exposure to these legal proceedings and establish accruals for the estimated liabilities, where it is reasonably possible to estimate and where an adverse outcome is probable.  Assessing and predicting the outcome of these matters involves substantial uncertainties.  Adverse outcomes in these legal proceedings, or changes in our evaluations or predictions about the proceedings, could have a material adverse effect on our financial results.  Please also refer to the “Legal Proceedings” section in Item 3 below.

 

MULTI-EMPLOYER PENSION OBLIGATIONS

 

As discussed in more detail below in “Management’s Discussion and Analysis of Financial Condition and Results of Operations-Critical Accounting Policies-Multi-Employer Pension Plans,” Kroger contributes to several multi-employer pension plans based on obligations arising under collective bargaining agreements with unions representing employees covered by those agreements.  We believe that the present value of actuarially accrued liabilities in most of these multi-employer plans substantially exceeds the value of the assets held in trust to pay benefits, and we expect that the Company’s contributions to those funds, excluding all payments to the UFCW consolidated pension plan and the pension plans that were consolidated into the UFCW consolidated pension plan, will increase over the next few years.  A significant increase to those funding requirements could adversely affect our financial condition, results of operations, or cash flows.  Despite the fact that the pension obligations of these funds are not the liability or responsibility of the Company, except as noted below, there is a risk that the agencies that rate Kroger’s outstanding debt instruments could view the underfunded nature of these plans unfavorably when determining their ratings on our debt securities.  Any downgrading of Kroger’s debt ratings likely would affect Kroger’s cost of borrowing and access to capital.

 

We also currently bear the investment risk of one of the larger multi-employer pension plans in which we participate.  In addition, we have been designated as the named fiduciary of this fund with sole investment authority of the assets of the fund.  If investment results fail to meet our expectations, we could be responsible for the shortfall.

 

5



 

INSURANCE

 

We use a combination of insurance and self-insurance to provide for potential liability for workers’ compensation, automobile and general liability, property, director and officers’ liability, and employee health care benefits.  Any actuarial projection of losses is subject to a high degree of variability.   Changes in legal claims, trends and interpretations, variability in inflation rates, changes in the nature and method of claims settlement, benefit level changes due to changes in applicable laws, insolvency of insurance carriers, and changes in discount rates could all affect our financial condition, results of operations, or cash flows.

 

CURRENT ECONOMIC CONDITIONS

 

The global economy and financial markets have experienced volatility due to uncertainties related to energy prices, availability of credit, difficulties in the banking and financial services sectors, the decline in the housing market, diminished market liquidity, low consumer confidence and high unemployment rates.  As a result, consumers have been more cautious.  Consumers have reduced spending and have switched to less expensive mixes of products.  They also have been patronizing discounters and dollar stores for grocery items to a greater extent, all of which has affected and could continue to affect our sales growth and earnings.  Increased fuel prices could have an effect on consumer spending and on our costs of producing and procuring products that we sell.  Our ability to pass higher prices along to consumers due to inflation or other reasons could have an effect on consumer spending.  We are unable to predict how the global economy and financial markets will perform.  If the global economy and financial markets do not perform as we expect, it could adversely affect our financial condition, results of operation, or cash flows.

 

WEATHER AND NATURAL DISASTERS

 

A large number of our stores and distribution facilities are geographically located in areas that are susceptible to hurricanes, tornadoes, floods, droughts and earthquakes.  Weather conditions and natural disasters could disrupt our operations at one or more of our facilities, interrupt the delivery of products to our stores, substantially increase the cost of products, including supplies and materials and  substantially increase the cost of energy needed to operate our facilities or deliver products to our facilities.  Adverse weather and natural disasters could materially affect our financial condition, results of operations, or cash flows.

 

GOVERNMENT REGULATION

 

Our stores are subject to various laws, regulations, and administrative practices that affect our business. We must comply with numerous provisions regulating, among other things, health and sanitation standards, food labeling and safety, equal employment opportunity, minimum wages, and licensing for the sale of food, drugs, and alcoholic beverages. We cannot predict future laws, regulations, interpretations, administrative orders, or applications, or the effect they will have on our operations. They could, however, significantly increase the cost of doing business.  They also could require the reformulation of some of the products that we sell (or manufacture for sale to third parties) to meet new standards.  We also could be required to recall or discontinue the sale of products that cannot be reformulated.  These changes could result in additional record keeping, expanded documentation of the properties of certain products, expanded or different labeling, or scientific substantiation.  Any or all of these requirements could have an adverse effect on our results of operations and financial condition.

 

ITEM 1B.               UNRESOLVED STAFF COMMENTS.

 

None.

 

6



 

ITEM 2.                        PROPERTIES.

 

As of February 2, 2013, the Company operated more than 3,600 owned or leased supermarkets, convenience stores, fine jewelry stores, distribution warehouses and manufacturing plants through divisions, subsidiaries or affiliates. These facilities are located throughout the United States. While the Company’s current strategy emphasizes ownership of store real estate, a majority of the properties used to conduct the Company’s business are leased.

 

The Company generally owns store equipment, fixtures and leasehold improvements, as well as processing and manufacturing equipment. The total cost of the Company’s owned assets and capitalized leases, at February 2, 2013, was $29.4 billion while the accumulated depreciation was $14.5 billion.

 

Leased premises generally have base terms ranging from ten-to-twenty years with renewal options for additional periods. Some options provide the right to purchase the property after the conclusion of the lease term. Store rentals are normally payable monthly at a stated amount or at a guaranteed minimum amount plus a percentage of sales over a stated dollar volume. Rentals for the distribution, manufacturing and miscellaneous facilities generally are payable monthly at stated amounts.  For additional information on lease obligations, see Note 8 to the Consolidated Financial Statements.

 

ITEM 3.                        LEGAL PROCEEDINGS.

 

On October 6, 2006, the Company petitioned the Tax Court (Ralphs Grocery Company and Subsidiaries, formerly known as Ralphs Supermarkets, Inc. v. Commissioner of Internal Revenue, Docket No. 20364-06) for a redetermination of deficiencies asserted by the Commissioner of Internal Revenue.  The dispute at issue involved a 1992 transaction in which Ralphs Holding Company acquired the stock of Ralphs Grocery Company and made an election under Section 338(h)(10) of the Internal Revenue Code.  The Commissioner determined that the acquisition of the stock was not a purchase as defined by Section 338(h)(3) of the Internal Revenue Code and that the acquisition therefore did not qualify for a Section 338(h)(10) election.  On January 27, 2011, the Tax Court issued its opinion upholding the Company’s position that the acquisition of the stock qualified as a purchase, granting the Company’s motion for partial summary judgment and denying the Tax Commissioner’s motion.  All remaining issues in the matter had been resolved and the Tax Court entered its decision on May 2, 2012.  On July 24, 2012, the Tax Commissioner filed a notice with the United States Court of Appeals for the 9th Circuit to appeal the decision of the Tax Court.

 

Subsequent to the filing of the notice to appeal the government requested the dismissal of the case.  On November 14, 2012, the United States Court of Appeals for the 9th Circuit issued its dismissal order with prejudice, finally resolving all issues in the matter.

 

Various claims and lawsuits arising in the normal course of business, including suits charging violations of certain antitrust, wage and hour, or civil rights laws, as well as product liability cases, are pending against the Company.  Some of these suits purport or have been determined to be class actions and/or seek substantial damages. Any damages that may be awarded in antitrust cases will be automatically trebled. Although it is not possible at this time to evaluate the merits of all of these claims and lawsuits, nor their likelihood of success, the Company is of the belief that any resulting liability will not have a material adverse effect on the Company’s financial position, results of operations, or cash flows.

 

The Company continually evaluates its exposure to loss contingencies arising from pending or threatened litigation and believes it has made provisions where it is reasonably possible to estimate and where an adverse outcome is probable.  Nonetheless, assessing and predicting the outcomes of these matters involves substantial uncertainties.  Management currently believes that the aggregate range of loss for our exposures is not material to the Company.  It remains possible that despite management’s current belief, material differences in actual outcomes or changes in management’s evaluation or predictions could arise that could have a material adverse impact on the Company’s financial condition, results of operations, or cash flows.

 

ITEM 4.                        MINE SAFETY DISCLOSURES.

 

Not applicable.

 

7



 

PART II

 

ITEM 5.                        MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES.

 

(a)

 

COMMON SHARE PRICE RANGE

 

 

 

2012

 

2011

 

Quarter

 

High

 

Low

 

High

 

Low

 

1st

 

$

24.78

 

$

21.76

 

$

25.48

 

$

21.29

 

2nd

 

$

23.22

 

$

20.98

 

$

25.85

 

$

21.52

 

3rd

 

$

25.44

 

$

21.57

 

$

23.78

 

$

21.14

 

4th

 

$

28.00

 

$

24.19

 

$

24.83

 

$

21.68

 

 

Main trading market: New York Stock Exchange (Symbol KR)

 

Number of shareholders of record at year-end 2012:                  34,157

 

Number of shareholders of record at March 29, 2013:          33,996

 

During 2011, the Company paid three quarterly dividends of $0.105 and one quarterly dividend of $0.115.  During 2012, the Company paid three quarterly dividends of $0.115 and one quarterly dividend of $0.15.  On March 1, 2013, the Company paid a quarterly dividend of $0.15 per share.  On March 14, 2013, the Company announced that its Board of Directors has declared a quarterly dividend of $0.15 per share, payable on June 1, 2013, to shareholders of record at the close of business on May 15, 2013.

 

PERFORMANCE GRAPH

 

Set forth below is a line graph comparing the five-year cumulative total shareholder return on Kroger’s common shares, based on the market price of the common shares and assuming reinvestment of dividends, with the cumulative total return of companies in the Standard & Poor’s 500 Stock Index and a peer group composed of food and drug companies.

 

8



 

 

 

 

Base
Period

 

INDEXED RETURNS
Years Ending

 

Company Name/Index

 

2007

 

2008

 

2009

 

2010

 

2011

 

2012

 

The Kroger Co.

 

100

 

87.70

 

84.94

 

85.89

 

99.86

 

117.04

 

S&P 500 Index

 

100

 

60.63

 

80.72

 

98.63

 

103.89

 

122.17

 

Peer Group

 

100

 

81.21

 

100.61

 

109.22

 

114.80

 

138.65

 

 

Kroger’s fiscal year ends on the Saturday closest to January 31.

 


*                 Total assumes $100 invested on February 2, 2008, in The Kroger Co., S&P 500 Index, and the Peer Group, with reinvestment of dividends.

 

**          The Peer Group consists of Costco Wholesale Corp., CVS Caremark Corp, Etablissments Delhaize Freres Et Cie Le Lion (Groupe Delhaize), Great Atlantic & Pacific Tea Company, Inc. (included through March 13, 2012 when it became private after emerging from bankruptcy), Koninklijke Ahold NV, Safeway, Inc., Supervalu Inc., Target Corp., Tesco plc, Wal-Mart Stores Inc., Walgreen Co., Whole Foods Market Inc. and Winn-Dixie Stores, Inc. (included through March 9, 2012 when it became a wholly-owned subsidiary of Bi-Lo Holding).

 

Data supplied by Standard & Poor’s.

 

The foregoing Performance Graph will not be deemed incorporated by reference into any other filing, absent an express reference thereto.

 

9



 

(c)

 

ISSUER PURCHASES OF EQUITY SECURITIES

 

Period (1)

 

Total Number
   of Shares
 Purchased

 

Average
 Price Paid
 Per Share

 

Total Number of
 Shares
 Purchased as
 Part of Publicly
 Announced
 Plans or
 Programs (2)

 

Maximum Dollar
 Value of Shares
 that May Yet Be
 Purchased Under
 the Plans or
 Programs (3)
  (in millions)

 

First period - four weeks

 

 

 

 

 

 

 

 

 

November 4, 2012 to December 1, 2012

 

950,000

 

$

24.80

 

950,000

 

$

483

 

Second period - four weeks

 

 

 

 

 

 

 

 

 

December 2, 2012 to December 29, 2012

 

608,832

 

$

26.43

 

608,832

 

$

475

 

Third period — five weeks

 

 

 

 

 

 

 

 

 

December 30, 2012 to February 2, 2013

 

690,343

 

$

25.95

 

690,343

 

$

466

 

 

 

 

 

 

 

 

 

 

 

Total

 

2,249,175

 

$

25.59

 

2,249,175

 

$

466

 

 


(1)                                 The fourth quarter of 2012 contained two 28-day periods and one 35-day period.

 

(2)                                 Shares were repurchased under (i) a $500 million share repurchase program, authorized by the Board of Directors and announced on October 16, 2012 and (ii) a program announced on December 6, 1999 to repurchase common shares to reduce dilution resulting from our employee stock option and long-term incentive plans, which program is limited to proceeds received from exercises of stock options and the tax benefits associated therewith.  The programs have no expiration date but may be terminated by the Board of Directors at any time.  Total shares purchased include shares that were surrendered to the Company by participants under the Company’s long-term incentive plans to pay for taxes on restricted stock awards.

 

(3)                                 The amounts shown in this column reflect amounts remaining under the $500 million share repurchase program referenced in clause (i) of Note 2 above.  Amounts to be invested under the program utilizing option exercise proceeds are dependent upon option exercise activity.

 

ITEM 6.                        SELECTED FINANCIAL DATA.

 

 

 

Fiscal Years Ended

 

 

 

February 2,
2013
(53 weeks)

 

January 28,
2012
(52 weeks)

 

January 29,
2011
(52 weeks)

 

January 30,
2010
(52 weeks)

 

January 31,
2009

(52 weeks)

 

 

 

(In millions, except per share amounts)

 

Sales

 

$

96,751

 

$

90,374

 

$

82,049

 

$

76,609

 

$

76,063

 

Net earnings including noncontrolling interests

 

1,508

 

596

 

1,133

 

57

 

1,250

 

Net earnings attributable to The Kroger Co.

 

1,497

 

602

 

1,116

 

70

 

1,249

 

Net earnings attributable to The Kroger Co. per diluted common share

 

2.77

 

1.01

 

1.74

 

0.11

 

1.89

 

Total assets

 

24,652

 

23,476

 

23,505

 

23,126

 

23,290

 

Long-term liabilities, including obligations under capital leases and financing obligations

 

9,381

 

10,405

 

10,137

 

10,473

 

10,311

 

Total shareowners’ equity — The Kroger Co.

 

4,207

 

3,981

 

5,296

 

4,852

 

5,225

 

Cash dividends per common share

 

0.495

 

0.43

 

0.39

 

0.365

 

0.345

 

 

10



 

ITEM 7.                        MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.

 

OUR BUSINESS

 

The Kroger Co. was founded in 1883 and incorporated in 1902.  It is one of the nation’s largest retailers, as measured by revenue, operating 2,424 supermarket and multi-department stores under two dozen banners including Kroger, City Market, Dillons, Jay C, Food 4 Less, Fred Meyer, Fry’s, King Soopers, QFC, Ralphs and Smith’s.  Of these stores, 1,169 have fuel centers.  We also operate 786 convenience stores, either directly or through franchisees, and 328 fine jewelry stores.

 

Kroger operates 37 manufacturing plants, primarily bakeries and dairies, which supply approximately 40% of the corporate brand units sold in our retail outlets.

 

Our revenues are earned and cash is generated as consumer products are sold to customers in our stores.  We earn income predominately by selling products at price levels that produce revenues in excess of the costs we incur to make these products available to our customers.  Such costs include procurement and distribution costs, facility occupancy and operational costs, and overhead expenses.  Our retail operations, which represent over 99% of Kroger’s consolidated sales and EBITDA, are our only reportable segment.

 

OUR 2012 PERFORMANCE

 

We achieved outstanding results in 2012.  Our business strategy continues to resonate with a full range of customers and our results reflect the balance we seek to achieve across our business including positive identical sales growth, increases in loyal household count, and good cost control, as well as growth in net earnings and net earnings per diluted share.  Our 2012 net earnings were $1.5 billion or $2.77 per diluted share, compared to $602 million, or $1.01 per diluted share for the same period of 2011.  For 2012, this includes estimated net earnings of $91 million pre-tax ($58 million after-tax) or $0.11 per diluted share due to a 53rd week in fiscal year 2012 (the “extra week”).  In addition, net earnings benefited by $115 million pre-tax ($74 million after-tax) or $0.14 per diluted share from a settlement with Visa and MasterCard and from a reduction in our obligation to fund the United Food and Commercial Workers International Union (“UFCW”) consolidated pension fund created in January 2012.  Excluding the Visa and MasterCard settlement, the UFCW consolidated pension fund adjustment and the extra week in 2012, our adjusted net earnings were $1.4 billion or $2.52 per diluted share.  Our 2011 results included a charge related to the consolidation of four multi-employer pension plans to the UFCW consolidated pension plan totaling $953 million, pre-tax ($591 million after-tax).  Excluding the 2011 adjusted item, our 2011 adjusted net earnings were $1.2 billion or $2.00 per diluted share.  After accounting for these adjusted items, our 2012 adjusted net earnings per diluted share represent a 26% increase in adjusted net earnings per diluted share.  Please refer to the “Net Earnings” section for more information related to the increase in net earnings for 2012, compared to 2011.

 

Our identical supermarket sales increased by 3.5%, excluding fuel in 2012.  We have achieved 37 consecutive quarters of positive identical supermarket sales growth, excluding fuel.  As we continue to outpace many of our competitors on identical supermarket sales growth, we continue to gain market share.  We focus on identical supermarket sales growth, excluding fuel, because our business model emphasizes this primary component.

 

Increasing market share is an important part of our long-term strategy as it best reflects how our products and services resonate with customers.  Market share growth allows us to spread the fixed costs in our business over a wider revenue base.  Our fundamental operating philosophy is to maintain and increase market share by offering customers good prices and superior products and service.  Based on Nielsen Homescan Data, our estimated market share increased in total by approximately 20 basis points in 2012 across our 19 marketing areas outlined by the Nielsen report.  This information also indicates that our market share increased in 10 of the marketing areas and declined in nine.  Wal-Mart supercenters are a primary competitor in 17 of these 19 marketing areas.  In these 17 marketing areas, our market share increased in nine and declined in eight.  Nielsen Homescan Data is generated by customers who self-report their grocery purchases to Nielsen, regardless of retail channel or grocery outlet.  These market share results reflect our long-term strategy of market share growth.

 

11



 

RESULTS OF OPERATIONS

 

The following discussion summarizes our operating results for 2012 compared to 2011 and for 2011 compared to 2010.  Comparability is affected by income and expense items that fluctuated significantly between and among the periods and an extra week in 2012.

 

Net Earnings

 

Net earnings totaled $1.5 billion in 2012, $602 million in 2011 and $1.1 billion in 2010.  The net earnings for 2012 include benefits from net earnings of approximately $58 million, after-tax, for the extra week, a $74 million, after-tax, settlement with Visa and MasterCard and a reduction in our obligation to fund the UFCW consolidated pension fund created in January 2012 (“2012 adjusted items”).  The net earnings for 2011 include a UFCW consolidated pension plan charge totaling $591 million, after-tax (“2011 adjusted item”).  The net earnings for 2010 include a non-cash goodwill impairment charge totaling $12 million, after-tax, related to a small number of stores (“2010 adjusted item”).  Excluding these benefits and charges for adjusted items in 2012, 2011 and 2010, adjusted net earnings were $1.4 billion in 2012, $1.2 billion in 2011 and $1.1 billion in 2010.  2012 adjusted net earnings improved, compared to 2011, due to an increase in first-in, first-out (“FIFO”) non-fuel operating profit, increased net earnings from our fuel operations and a last-in, first-out (“LIFO”) charge of $55 million (pre-tax), compared to a LIFO charge of $216 million (pre-tax) in 2011, partially offset by increased interest expense and income tax expense.  2011 adjusted net earnings improved, compared to 2010, due to an increase in FIFO non-fuel operating profit, lower interest expense, favorable resolutions for certain tax issues and higher retail fuel margins, partially offset by a LIFO charge of $216 million (pre-tax), compared to a LIFO charge of $57 million (pre-tax) in 2010.

 

2012 net earnings per diluted share totaled $2.77, and adjusted net earnings per diluted share in 2012 totaled $2.52, which excludes the 2012 adjusted items.  2011 net earnings per diluted share totaled $1.01, and adjusted net earnings per diluted share in 2011 totaled $2.00, which excludes the 2011 adjusted item.  2010 net earnings per diluted share totaled $1.74, and adjusted net earnings per diluted share in 2010 totaled $1.76, which excludes the 2010 adjusted item.  Adjusted net earnings per diluted share in 2012, compared to 2011, increased primarily due to fewer shares outstanding as a result of the repurchase of Kroger common shares, increased FIFO non-fuel operating profit, increased net earnings from our fuel operations and a decrease in the LIFO charge to $55 million (pre-tax), compared to a LIFO charge of $216 million (pre-tax) in 2011, partially offset by increased interest expense and income tax expense.  Adjusted net earnings per diluted share in 2011, compared to 2010, increased primarily due to increased retail fuel margins, the repurchase of Kroger common shares, increased FIFO non-fuel operating profit, and the favorable resolution of certain tax issues, offset by a LIFO charge of $216 million (pre-tax), compared to a LIFO charge of $57 million (pre-tax) in 2010.

 

Management believes adjusted net earnings (and adjusted net earnings per diluted share) are useful metrics to investors and analysts because the amounts referenced above in net earnings and net earnings per diluted share are not directly related to our day-to-day business.  Adjusted net earnings (and adjusted net earnings per diluted share) are non-generally accepted accounting principle (“non-GAAP”) financial measures and should not be considered alternatives to net earnings (and net earnings per diluted share) or any other generally accepted accounting principle (“GAAP”) measure of performance.  Adjusted net earnings (and adjusted net earnings per diluted share) should not be reviewed in isolation or considered substitutes for our financial results as reported in accordance with GAAP.  Management uses adjusted net earnings (and adjusted net earnings per diluted share) as it believes these measures are more meaningful indicators of ongoing operating performance since, as adjusted, those earnings relate more directly to our day-to-day operations.  Management also uses adjusted net earnings (and adjusted net earnings per diluted share) to measure our progress against internal budgets and targets.  In addition, management takes into account adjusted net earnings when calculating management incentive programs.

 

12



 

Sales

 

Total Sales

 (in millions)

 

 

 

2012

 

2012
Adjusted
(2)

 

Percentage
 Increase(3)

 

2011

 

Percentage
 Increase(4)

 

2010

 

Total supermarket sales without fuel

 

$

75,311

 

$

73,865

 

3.9

%

$

71,109

 

5.0

%

$

67,742

 

Fuel sales

 

18,896

 

18,413

 

8.9

%

16,901

 

39.9

%

12,081

 

Other sales(1)

 

2,544

 

2,515

 

6.4

%

2,364

 

6.2

%

2,226

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total sales

 

$

96,751

 

$

94,793

 

4.9

%

$

90,374

 

10.1

%

$

82,049

 

 


(1)         Other sales primarily relate to sales at convenience stores, excluding fuel; jewelry stores; manufacturing plants to outside customers; variable interest entities; a specialty pharmacy; and in-store health clinics.

(2)         The 2012 adjusted column represents the items presented in the 2012 column adjusted to remove the extra week.

(3)         This column represents the percentage increase in 2012 adjusted sales, compared to 2011.

(4)         This column represents the percentage increase in 2011, compared to 2010.

 

The increase in 2012 adjusted total sales, compared to 2011 total sales, was primarily due to our identical supermarket sales increase, excluding fuel, of 3.5% and an increase in fuel sales of 8.9%.  The increase in total supermarket sales without fuel for 2012, adjusted for the extra week, compared to 2011, was due to our identical supermarket sales increase, excluding fuel of 3.5%.  Total fuel sales increased in 2012, adjusted for the extra week, compared to 2011, primarily due to an increase in fuel gallons sold of 7.8% and an increase in the average retail fuel price of 1.7%.  The increase in the average retail fuel price was caused by an increase in the product cost of fuel.  Identical supermarket sales, excluding fuel, increased primarily due to inflation, increased transaction count and an increase in the average sale per shopping trip, also primarily due to inflation.

 

The increase in total sales for 2011 compared to 2010 was primarily the result of our identical supermarket sales increase, excluding fuel, of 4.9% and an increase in fuel sales of 39.9%.  Total fuel sales increased over the same period due to a 26.3% increase in average retail fuel prices and a 10.8% increase in fuel gallons sold.  The increase in the average retail fuel price was caused by an increase in the product cost of fuel.  The increase in total supermarket sales without fuel for 2011 compared to 2010 was primarily the result of increases in identical supermarket sales, excluding fuel, of 4.9%.  Identical supermarket sales, excluding fuel, increased primarily due to inflation, increased transaction count and an increase in the average sale per shopping trip, also primarily due to inflation.

 

We define a supermarket as identical when it has been in operation without expansion or relocation for five full quarters.  Fuel discounts received at our fuel centers and earned based on in-store purchases are included in all of the supermarket identical sales results calculations illustrated below and reduce our identical supermarket sales results.  Differences between total supermarket sales and identical supermarket sales primarily relate to changes in supermarket square footage.  Identical supermarket sales include sales from all departments at identical Fred Meyer multi-department stores.  We calculate annualized identical supermarket sales by adding together four quarters of identical supermarket sales.  Our identical supermarket sales results are summarized in the table below, based on the 53-week period of 2012, compared to the previous year results adjusted to a comparable 53 week period.

 

Identical Supermarket Sales

 (dollars in millions)

 

 

 

2012

 

2011(1)

 

Including supermarket fuel centers

 

$

86,801

 

$

83,072

 

Excluding supermarket fuel centers

 

$

72,562

 

$

70,087

 

Including supermarket fuel centers

 

4.5

%

9.2

%

Excluding supermarket fuel centers

 

3.5

%

4.9

%

 


(1)         Identical supermarket sales for 2011 were adjusted to a comparable 53 week basis by including week 1 of fiscal 2012 in our 2011 identical supermarket sales base.  However, for purposes of determining the percentage change in identical supermarket sales from 2010 to 2011, 2011 identical supermarket sales were not adjusted to include the sales from week 1 of 2012.

 

13



 

Gross Margin and FIFO Gross Margin

 

Our gross margin rates, as a percentage of sales, were 20.56% in 2012, 20.89% in 2011 and 22.24% in 2010.  The decrease in 2012, compared to 2011, resulted primarily from increased fuel sales, continued investments in lower prices for our customers and increased shrink and warehousing costs, offset partially by a decrease in the LIFO charge as a percentage of sales.  The decrease in 2011, compared to 2010, resulted primarily from increased fuel sales, continued investments in lower prices for our customers, higher transportation costs and an increase in the LIFO charge, offset partially by improvements in shrink, advertising and warehousing costs as a percentage of sales.  Retail fuel sales lower our gross margin rate due to the very low gross margin on retail fuel sales as compared to non-fuel sales.

 

We calculate FIFO gross margin as sales minus merchandise costs, including advertising, warehousing, and transportation expenses, but excluding the LIFO charge.  Merchandise costs exclude depreciation and rent expenses.  Our LIFO charge was $55 million in 2012, $216 million in 2011 and $57 million in 2010.  FIFO gross margin is a non-GAAP financial measure and should not be considered as an alternative to gross margin or any other GAAP measure of performance.  FIFO gross margin should not be reviewed in isolation or considered as a substitute for our financial results as reported in accordance with GAAP.  FIFO gross margin is an important measure used by management to evaluate merchandising and operational effectiveness.  Management believes FIFO gross margin is a useful metric to investors and analysts because it measures our day-to-day merchandising and operational effectiveness.

 

Our FIFO gross margin rates, as a percentage of sales, were 20.62% in 2012, 21.13% in 2011 and 22.31% in 2010.  Retail fuel sales lower our FIFO gross margin rate due to the very low FIFO gross margin on retail fuel sales as compared to non-fuel sales.  Excluding the effect of retail fuel operations, our FIFO gross margin rate decreased 41 basis points in 2012, as a percentage of sales, compared to 2011.  This decrease in 2012, compared to 2011, resulted primarily from continued investments in lower prices for our customers and increased shrink and warehousing costs as a percentage of sales.  Excluding the effect of retail fuel operations, our FIFO gross margin rate decreased 33 basis points in 2011, as a percentage of sales, compared to 2010.  This decrease in 2011, compared to 2010, was primarily due to continued investments in lower prices for our customers, the effect of inflation and higher transportation expenses, partially offset by improvements in shrink, advertising, and warehousing expenses, as a percentage of sales.

 

LIFO Charge

 

The LIFO charge was $55 million in 2012, $216 million in 2011 and $57 million in 2010.  Like many food retailers, we experienced lower levels of product cost inflation in 2012, compared to 2011.  In 2012, our LIFO charge resulted primarily from an annualized product cost inflation related to grocery, natural foods, meat, deli and bakery, general merchandise and pharmacy, partially offset by deflation in seafood and manufactured product.  In 2011, we experienced higher levels of product cost inflation, compared to 2010.  In 2011, our LIFO charge primarily resulted from an annualized product cost inflation related to grocery, meat and seafood, deli and bakery, and pharmacy.  In 2010, our LIFO charge primarily resulted from annualized product cost inflation related to meat, pharmacy and Company-manufactured products, partially offset by deflation in grocery products.

 

Operating, General and Administrative Expenses

 

Operating, general and administrative (“OG&A”) expenses consist primarily of employee-related costs such as wages, health care benefits and retirement plan costs, utilities and credit card fees.  Rent expense, depreciation and amortization expense, and interest expense are not included in OG&A.

 

OG&A expenses, as a percentage of sales, were 15.35% in 2012, 16.98% in 2011, and 16.85% in 2010.  Excluding the 2012 and 2011 adjusted items, OG&A expenses, as a percentage of sales, were 15.47% in 2012 and 15.92% in 2011.  The growth in our retail fuel sales reduces our OG&A rate due to the very low OG&A rate on retail fuel sales as compared to non-fuel sales.  OG&A expenses, as a percentage of sales excluding fuel and the 2012 adjusted items, decreased 39 basis points in 2012, compared to 2011.  This decrease resulted primarily from increased identical supermarket sales growth, productivity improvements, effective cost controls at the store level, the benefit received in lower operating expenses from the consolidation of four UFCW multi-employer pension plans in the prior year and decreased incentive compensation, offset partially by increased healthcare costs.  OG&A expenses, as a percentage of sales excluding fuel and the 2011 adjusted item, decreased 25 basis points in 2011, compared to 2010.  The 2011 decrease, compared to 2010, resulted primarily from increased identical supermarket sales growth, productivity improvements and strong cost controls at the store level, offset partially by increased credit and debit card fees, incentive compensation and health care costs.

 

14



 

Rent Expense

 

Rent expense was $628 million in 2012, as compared to $619 million in 2011 and $623 million in 2010.  Rent expense, as a percentage of sales, was 0.65% in 2012, as compared to 0.68% in 2011 and 0.76% in 2010.  Rent expense, as a percentage of sales excluding fuel, was 0.78% in 2012, as compared to 0.82% in 2011 and 0.87% in 2010.  These continual decreases in rent expense, as a percentage of sales both including and excluding fuel, reflects our continued emphasis on owning rather than leasing, whenever possible, and the benefit of increased supermarket sales.

 

Depreciation and Amortization Expense

 

Depreciation and amortization expense was $1.7 billion in 2012 and $1.6 billion in both 2011 and 2010.  Depreciation and amortization expense, as a percentage of sales, was 1.71% in 2012, 1.81% in 2011 and 1.95% in 2010.  Excluding the extra week in 2012, depreciation and amortization expense, as a percentage of sales, was 1.74% in 2012.  Depreciation and amortization expense, as a percentage of sales excluding fuel, was 1.99% in 2012, 2.10% in 2011 and 2.17% in 2010.  Excluding the extra week in 2012, depreciation and amortization expense, as a percentage of sales excluding fuel, was 2.03%.  These continual decreases in depreciation and amortization expense, as a percentage of sales both including and excluding fuel and the extra week, are primarily the result of increasing sales.

 

Operating Profit and FIFO Operating Profit

 

Operating profit was $2.8 billion in 2012, $1.3 billion in 2011 and $2.2 billion in 2010.  Excluding the extra week, operating profit was $2.7 billion in 2012.  Operating profit, as a percentage of sales, was 2.86% in 2012, 1.41% in 2011 and 2.66% in 2010.  Operating profit, as a percentage of sales excluding the extra week, was 2.81%.  Operating profit, excluding the 2012, 2011 and 2010 adjusted items, was $2.6 billion in 2012 and $2.2 billion in both 2011 and 2010.  Operating profit, as a percentage of sales excluding the 2012, 2011 and 2010 adjusted items, was 2.74% in 2012, 2.47% in 2011 and 2.68% in 2010.  Operating profit, excluding the extra week and the 2012 adjusted items, was $2.5 billion in 2012.  Operating profit, as a percentage of sales excluding the extra week and the 2012 adjusted items, was 2.69% in 2012.

 

Operating profit, as a percentage of sales excluding the 2012 and 2011 adjusted items and the extra week, increased 22 basis points in 2012, compared to 2011, primarily due to improvements in operating, general and administrative expenses, rent, depreciation and the LIFO charge, offset partially by continued investments in lower prices for our customers and increased shrink and warehousing costs.  Operating profit, as a percentage of sales excluding the 2011 and 2010 adjusted items, decreased 21 basis points in 2011, compared to 2010, primarily due to an increase in the LIFO charge, continued investments in lower prices for our customers and higher transportation costs, offset partially by improvements in operating, general and administrative expenses, rent, depreciation, advertising, shrink and warehousing costs.

 

We calculate FIFO operating profit as operating profit excluding the LIFO charge.  FIFO operating profit is a non-GAAP financial measure and should not be considered as an alternative to operating profit or any other GAAP measure of performance.  FIFO operating profit should not be reviewed in isolation or considered as a substitute for our financial results as reported in accordance with GAAP.  FIFO operating profit is an important measure used by management to evaluate operational effectiveness.  Management believes FIFO operating profit is a useful metric to investors and analysts because it measures our day-to-day operational effectiveness.  Since fuel discounts are earned based on in-store purchases, fuel operating profit does not include fuel discounts, which are allocated to our in-store supermarket location departments.  We also derive operating, general and administrative expenses, rent and depreciation and amortization through the use of estimated allocations in the calculation of fuel operating profit.

 

FIFO operating profit was $2.8 billion in 2012, $1.5 billion in 2011 and $2.2 billion in 2010.  Excluding the extra week, FIFO operating profit was $2.7 billion in 2012.  FIFO operating profit, as a percentage of sales, was 2.91% in 2012, 1.65% in 2011 and 2.73% in 2010.  FIFO operating profit, as a percentage of sales excluding the extra week, was 2.87% in 2012.  FIFO operating profit, excluding the 2012, 2011 and 2010 adjusted items, was $2.7 billion in 2012, $2.4 billion in 2011 and $2.3 billion in 2010.  FIFO operating profit, excluding the extra week and the 2012 adjusted items, was $2.8 billion in 2012.  FIFO operating profit, as a percentage of sales excluding the 2012, 2011 and 2010 adjusted items, was 2.79% in 2012, 2.71% in 2011 and 2.75% in 2010.  FIFO operating profit, excluding the extra week and the 2012 adjusted items, was 2.75% in 2012.

 

15



 

Retail fuel sales lower our overall FIFO operating profit rate due to the very low FIFO operating profit rate, as a percentage of sales, of retail fuel sales compared to non-fuel sales.  FIFO operating profit, excluding fuel, was $2.6 billion in 2012, $1.3 billion in 2011 and $2.1 billion in 2010.  Excluding the extra week, FIFO operating profit, excluding fuel, was $2.5 billion in 2012.  FIFO operating profit, as a percentage of sales excluding fuel, was 3.34% in 2012, 1.77% in 2011 and 3.00% in 2010.  Excluding the extra week, FIFO operating profit, as a percentage of sales excluding fuel, was 3.28% in 2012.  FIFO operating profit, excluding fuel and the 2012, 2011 and 2010 adjusted items, was $2.5 billion in 2012, $2.3 billion in 2011 and $2.1 billion in 2010.  FIFO operating profit, as a percentage of sales excluding fuel and the 2012, 2011 and 2010 adjusted items, was 3.19% in 2012, 3.07% in 2011 and 3.02% in 2010.  Excluding the extra week, FIFO operating profit, excluding fuel and the 2012 adjusted items was $2.4 billion in 2012.  Excluding the extra week, FIFO operating profit, as a percentage of sales excluding fuel and the 2012 adjusted items, was 3.13% in 2012.

 

Excluding fuel, FIFO operating profit, as a percentage of sales excluding the 2012 and 2011 adjusted items and the extra week, increased six basis points in 2012, compared to 2011, primarily due to improvements in operating, general and administrative expenses, rent and depreciation, offset partially by continued investments in lower prices for our customers and increased shrink and warehousing costs.  Excluding fuel, FIFO operating profit, as a percentage of sales excluding the 2011 and 2010 adjusted items, increased five basis points in 2011, compared to 2010, primarily due to improvements in operating, general and administrative expenses, rent, depreciation, advertising, shrink and warehousing costs, offset partially by continued investments in lower prices for our customers and higher transportation costs.

 

The following table provides a reconciliation of operating profit to FIFO operating profit and FIFO operating profit, excluding fuel and the adjusted items, for 2012, 2011 and 2010 ($ in millions):

 

 

 

2012

 

2012
Percentage
of Sales

 

2012
Adjusted
(1)

 

2012
Adjusted
Percentage
of Sales

 

2011

 

2011
Percentage
of Sales

 

2010

 

2010
Percentage
of Sales

 

Sales

 

$

96,751

 

 

 

$

94,793

 

 

 

$

90,374

 

 

 

$

82,049

 

 

 

Fuel sales

 

18,896

 

 

 

18,413

 

 

 

16,901

 

 

 

12,081

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Sales excluding fuel

 

$

77,855

 

 

 

$

76,380

 

 

 

$

73,473

 

 

 

$

69,968

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating profit

 

$

2,764

 

2.86

%

$

2,664

 

2.81

%

$

1,278

 

1.41

%

$

2,182

 

2.66

%

LIFO charge

 

55

 

0.06

%

55

 

0.06

%

216

 

0.24

%

57

 

0.07

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

FIFO operating profit

 

2,819

 

2.91

%

2,719

 

2.87

%

1,494

 

1.65

%

2,239

 

2.73

%

Fuel operating profit

 

218

 

1.15

%

215

 

1.17

%

192

 

1.14

%

143

 

1.18

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

FIFO operating profit excluding fuel

 

2,601

 

3.34

%

2,504

 

3.28

%

1,302

 

1.77

%

2,096

 

3.00

%

Adjusted items

 

(115

)

 

 

(115

)

 

 

953

 

 

 

19

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

FIFO operating profit excluding fuel and the adjusted items

 

$

2,486

 

3.19

%

$

2,389

 

3.13

%

$

2,255

 

3.07

%

$

2,115

 

3.02

%

 


(1)   The 2012 adjusted column represents items presented above adjusted to remove the extra week.

 

Percentages may not sum due to rounding.

 

16



 

Interest Expense

 

Net interest expense totaled $462 million in 2012, $435 million in 2011 and $448 million in 2010.  Excluding the extra week, net interest expense was $454 million in 2012.  The increase in net interest expense in 2012 excluding the extra week, compared to 2011, resulted primarily from a decrease in the benefit from interest rate swaps and an increase in total debt, offset partially by a lower weighted average interest rate.  The decrease in net interest expense in 2011, compared to 2010, resulted primarily from a lower weighted average interest rate and an average lower debt balance for the year, offset partially by a decrease in the benefit from interest rate swaps.

 

Income Taxes

 

Our effective income tax rate was 34.5% in 2012, 29.3% in 2011 and 34.7% in 2010.  The 2012 tax rate differed from the federal statutory rate primarily as a result of the utilization of tax credits, the favorable resolution of certain tax issues and other changes, partially offset by the effect of state income taxes.  The 2011 and 2010 effective tax rates differed from the federal statutory rate primarily as a result of the utilization of tax credits and favorable resolution of certain tax issues, partially offset by the effect of state income taxes.  The 2011 effective tax rate was also lower than 2012 and 2010 due to the effect on pre-tax income of the UFCW consolidated pension plan charge of $953 million ($591 million after-tax).  Excluding the UFCW consolidated pension plan charge, our effective rate in 2011 would have been 33.9%.

 

COMMON SHARE REPURCHASE PROGRAM

 

We maintain share repurchase programs that comply with Securities Exchange Act Rule 10b5-1 and allow for the orderly repurchase of our common shares, from time to time.  We made open market purchases of Kroger common shares totaling $1.2 billion in 2012, $1.4 billion in 2011 and $505 million in 2010 under these repurchase programs.  In addition to these repurchase programs, we also repurchase common shares to reduce dilution resulting from our employee stock option plans.  This program is solely funded by proceeds from stock option exercises, and the tax benefit from these exercises.  We repurchased approximately $96 million in 2012, $127 million in 2011, and $40 million in 2010 of Kroger shares under the stock option program.

 

The shares reacquired in 2012 were reacquired under four separate share repurchase programs.  The first is a $1 billion repurchase program that was authorized by Kroger’s Board of Directors on September 15, 2011.  The second is a $1 billion repurchase program that was authorized by Kroger’s Board of Directors on June 14, 2012, that replaced the first referenced program.  The third is a $500 million repurchase program that was authorized by Kroger’s Board of Directors on October 16, 2012, that replaced the second referenced program.  The fourth is a program that uses the cash proceeds from the exercises of stock options by participants in Kroger’s stock option and long-term incentive plans as well as the associated tax benefits.  As of February 2, 2013, we had $466 million remaining on the October 16, 2012 $500 million share repurchase program.

 

CAPITAL INVESTMENTS

 

Capital investments, including changes in construction-in-progress payables and excluding acquisitions and the purchase of leased facilities, totaled $2.0 billion in 2012 and $1.9 billion in both 2011 and 2010.  Capital investments for the purchase of leased facilities totaled $73 million in 2012, $60 million in 2011 and $38 million for 2010.  The table below shows our supermarket storing activity and our total food store square footage:

 

Supermarket Storing Activity

 

 

 

2012

 

2011

 

2010

 

Beginning of year

 

2,435

 

2,460

 

2,469

 

Opened

 

18

 

10

 

14

 

Opened (relocation)

 

7

 

12

 

6

 

Acquired

 

 

6

 

4

 

Acquired (relocation)

 

 

2

 

 

Closed (operational)

 

(29

)

(41

)

(27

)

Closed (relocation)

 

(7

)

(14

)

(6

)

 

 

 

 

 

 

 

 

End of year

 

2,424

 

2,435

 

2,460

 

 

 

 

 

 

 

 

 

Total food store square footage (in millions)

 

149

 

149

 

149

 

 

17



 

RETURN ON INVESTED CAPITAL

 

We calculate return on invested capital (“ROIC”) by dividing adjusted operating profit for the prior four quarters by the average invested capital.  Adjusted operating profit is calculated by excluding certain items included in operating profit, and adding our LIFO charge, depreciation and amortization and rent.  Average invested capital is calculated as the sum of (i) the average of our total assets, (ii) the average LIFO reserve, (iii) the average accumulated depreciation and amortization and (iv) a rent factor equal to total rent for the last four quarters multiplied by a factor of eight; minus (i) the average taxes receivable, (ii) the average trade accounts payable, (iii) the average accrued salaries and wages and (iv) the average other current liabilities.  Averages are calculated for return on invested capital by adding the beginning balance of the first quarter and the ending balance of the fourth quarter, of the last four quarters, and dividing by two.  We use a factor of eight for our total rent as we believe this is a common factor used by our investors and analysts.  ROIC is a non-GAAP financial measure of performance.  ROIC should not be reviewed in isolation or considered as a substitute for our financial results as reported in accordance with GAAP.  ROIC is an important measure used by management to evaluate our investment returns on capital.  Management believes ROIC is a useful metric to investors and analysts because it measures how effectively we are deploying our assets.  All items included in the calculation of ROIC are GAAP measures, excluding certain adjustments to operating income.

 

Although ROIC is a relatively standard financial term, numerous methods exist for calculating a company’s ROIC.  As a result, the method used by our management to calculate ROIC may differ from methods other companies use to calculate their ROIC.  We urge you to understand the methods used by other companies to calculate their ROIC before comparing our ROIC to that of such other companies.

 

18



 

The following table provides a calculation of ROIC for 2012 and 2011 on a 52 week basis ($ in millions):

 

 

 

February 2,
2013

 

January 28,
2012

 

Return on Invested Capital

 

 

 

 

 

Numerator

 

 

 

 

 

Operating profit on a 53 week basis in fiscal year 2012

 

$

2,764

 

$

1,278

 

53rd week operating profit adjustment

 

(100

)

 

LIFO charge

 

55

 

216

 

Depreciation and amortization

 

1,652

 

1,638

 

Rent on a 53 week basis in fiscal year 2012

 

628

 

619

 

53rd week rent adjustment

 

(12

)

 

2011 adjusted item

 

 

953

 

2012 adjusted items

 

(115

)

 

Adjusted operating profit

 

$

4,872

 

$

4,704

 

 

 

 

 

 

 

Denominator

 

 

 

 

 

Average total assets

 

$

24,064

 

$

23,491

 

Average taxes receivable(1)

 

(22

)

(21

)

Average LIFO reserve

 

1,071

 

935

 

Average accumulated depreciation and amortization 

 

14,051

 

13,088

 

Average trade accounts payable

 

(4,427

)

(4,278

)

Average accrued salaries and wages

 

(1,017

)

(972

)

Average other current liabilities(2) 

 

(2,313

)

(2,151

)

Rent x 8

 

4,928

 

4,952

 

Average invested capital

 

$

36,335

 

$

35,044

 

Return on Invested Capital

 

13.4

%

13.4

%

 


(1)         Taxes receivable were $2 as of February 2, 2013 and $42 as of January 28, 2012.  As of January 29, 2011, the Company did not have any taxes receivable.

(2)         Other current liabilities included accrued income taxes of $128 as of February 2, 2013 and $61 as of January 29, 2011.  As of January 28, 2012, other current liabilities did not include any accrued income taxes.  Accrued income taxes are removed from other current liabilities in the calculation of average invested capital.

 

19



 

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 significant accounting policies are summarized in Note 1 to the Consolidated Financial Statements.

 

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 differ from those estimates.

 

We believe that the following accounting policies are the most critical in the preparation of our financial statements because they involve the most difficult, subjective or complex judgments about the effect of matters that are inherently uncertain.

 

Self-Insurance Costs

 

We primarily are self-insured for costs related to workers’ compensation and general liability claims.  The liabilities represent our best estimate, using generally accepted actuarial reserving methods, of the ultimate obligations for reported claims plus those incurred but not reported for all claims incurred through February 2, 2013.  We establish case reserves for reported claims using case-basis evaluation of the underlying claim data and we update as information becomes known.

 

For both workers’ compensation and general liability claims, we have purchased stop-loss coverage to limit our exposure to any significant exposure on a per claim basis.  We are insured for covered costs in excess of these per claim limits.  We account for the liabilities for workers’ compensation claims on a present value basis utilizing a risk-adjusted discount rate.  A 25 basis point decrease in our discount rate would increase our liability by approximately $2 million.  General liability claims are not discounted.

 

The assumptions underlying the ultimate costs of existing claim losses are subject to a high degree of unpredictability, which can affect the liability recorded for such claims.  For example, variability in inflation rates of health care costs inherent in these claims can affect the amounts realized.  Similarly, changes in legal trends and interpretations, as well as a change in the nature and method of how claims are settled can affect ultimate costs.  Our estimates of liabilities incurred do not anticipate significant changes in historical trends for these variables, and any changes could have a considerable effect on future claim costs and currently recorded liabilities.

 

Impairments of Long-Lived Assets

 

We monitor the carrying value of long-lived assets for potential impairment each quarter based on whether certain trigger events have occurred.  These events include current period losses combined with a history of losses or a projection of continuing losses or a significant decrease in the market value of an asset.  When a trigger event occurs, we perform an impairment calculation, comparing projected undiscounted cash flows, utilizing current cash flow information and expected growth rates related to specific stores, to the carrying value for those stores.  If we identify impairment for long-lived assets to be held and used, we compare the assets’ current carrying value to the assets’ fair value.  Fair value is determined based on market values or discounted future cash flows.  We record impairment when the carrying value exceeds fair market value.  With respect to owned property and equipment held for disposal, we adjust the value of the property and equipment to reflect recoverable values based on our previous efforts to dispose of similar assets and current economic conditions.  We recognize impairment for the excess of the carrying value over the estimated fair market value, reduced by estimated direct costs of disposal.  We recorded asset impairments in the normal course of business totaling $18 million in 2012, $37 million in 2011 and $25 million in 2010.  We record costs to reduce the carrying value of long-lived assets in the Consolidated Statements of Operations as “Operating, general and administrative” expense.

 

The factors that most significantly affect the impairment calculation are our estimates of future cash flows.  Our cash flow projections look several years into the future and include assumptions on variables such as inflation, the economy and market competition.  Application of alternative assumptions and definitions, such as reviewing long-lived assets for impairment at a different level, could produce significantly different results.

 

20



 

Goodwill

 

Our goodwill totaled $1.2 billion as of February 2, 2013.  We review goodwill for impairment in the fourth quarter of each year, and also upon the occurrence of triggering events.  We perform reviews of each of our operating divisions and variable interest entities (collectively, our reporting units) with goodwill balances.  Fair value is determined using a multiple of earnings, or discounted projected future cash flows, and we compare fair value to the carrying value of a reporting unit for purposes of identifying potential impairment.  We base projected future cash flows on management’s knowledge of the current operating environment and expectations for the future.  If we identify potential for impairment, we measure the fair value of a reporting unit against the fair value of its underlying assets and liabilities, excluding goodwill, to estimate an implied fair value of the division’s goodwill.  We recognize goodwill impairment for any excess of the carrying value of the division’s goodwill over the implied fair value.

 

The annual evaluation of goodwill performed during the fourth quarter of 2012 and 2011 did not result in impairment.

 

The annual evaluation of goodwill performed during the fourth quarter of 2010 resulted in an impairment charge of $18 million.  Based on the results of our step one analysis in the fourth quarter of 2010, a supermarket reporting unit with a small number of stores indicated potential impairment.  Due to estimated future expected cash flows being lower than in the past, our estimated fair value of the reporting unit decreased.  We concluded that the carrying value of goodwill for this reporting unit exceeded its implied fair value, resulting in a pre-tax impairment charge of $18 million ($12 million after-tax).  In 2009, we disclosed that a 10% reduction in fair value of this supermarket reporting unit would indicate a potential for impairment.  Subsequent to the impairment, no goodwill remains at this reporting unit.

 

Based on current and future expected cash flows, we believe goodwill impairments are not reasonably possible.  A 10% reduction in fair value of our reporting units would not indicate a potential for impairment of our goodwill balance.

 

For additional information relating to our results of the goodwill impairment reviews performed during 2012, 2011 and 2010 see Note 2 to the Consolidated Financial Statements.

 

The impairment review requires the extensive use of management judgment and financial estimates.  Application of alternative estimates and assumptions, such as reviewing goodwill for impairment at a different level, could produce significantly different results.  The cash flow projections embedded in our goodwill impairment reviews can be affected by several factors such as inflation, business valuations in the market, the economy and market competition.

 

Store Closing Costs

 

We provide for closed store liabilities on the basis of the present value of the estimated remaining non-cancellable lease payments after the closing date, net of estimated subtenant income.  We estimate the net lease liabilities using a discount rate to calculate the present value of the remaining net rent payments on closed stores.  We usually pay closed store lease liabilities over the lease terms associated with the closed stores, which generally have remaining terms ranging from one to 20 years.  Adjustments to closed store liabilities primarily relate to changes in subtenant income and actual exit costs differing from original estimates.  We make adjustments for changes in estimates in the period in which the change becomes known.  We review store closing liabilities quarterly to ensure that any accrued amount that is not a sufficient estimate of future costs, or that no longer is needed for its originally intended purpose, is adjusted to earnings in the proper period.

 

We estimate subtenant income, future cash flows and asset recovery values based on our experience and knowledge of the market in which the closed store is located, our previous efforts to dispose of similar assets and current economic conditions.  The ultimate cost of the disposition of the leases and the related assets is affected by current real estate markets, inflation rates and general economic conditions.

 

We reduce owned stores held for disposal to their estimated net realizable value.  We account for costs to reduce the carrying values of property, equipment and leasehold improvements in accordance with our policy on impairment of long-lived assets.  We classify inventory write-downs in connection with store closings, if any, in “Merchandise costs.”  We expense costs to transfer inventory and equipment from closed stores as they are incurred.

 

21



 

Post-Retirement Benefit Plans

 

We account for our defined benefit pension plans using the recognition and disclosure provisions of GAAP, which require the recognition of the funded status of retirement plans on the Consolidated Balance Sheet.  We record, as a component of Accumulated Other Comprehensive Income (“AOCI”), actuarial gains or losses, prior service costs or credits and transition obligations that have not yet been recognized.

 

The determination of our obligation and expense for Company-sponsored pension plans and other post-retirement benefits is dependent upon our selection of assumptions used by actuaries in calculating those amounts.  Those assumptions are described in Note 13 to the Consolidated Financial Statements and include, among others, the discount rate, the expected long-term rate of return on plan assets, average life expectancy and the rate of increases in compensation and health care costs.  Actual results that differ from our assumptions are accumulated and amortized over future periods and, therefore, generally affect our recognized expense and recorded obligation in future periods.  While we believe that our assumptions are appropriate, significant differences in our actual experience or significant changes in our assumptions, including the discount rate used and the expected return on plan assets, may materially affect our pension and other post-retirement obligations and our future expense.  Note 13 to the Consolidated Financial Statements discusses the effect of a 1% change in the assumed health care cost trend rate on other post-retirement benefit costs and the related liability.

 

The objective of our discount rate assumptions was intended to reflect the rates at which the pension benefits could be effectively settled.  In making this determination, we take into account the timing and amount of benefits that would be available under the plans.  Our policy for selecting the discount rates as of year-end 2012 changed from the policy as of year-end 2011 and 2010.  In 2012, our policy was to match the plan’s cash flows to that of a hypothetical bond portfolio whose cash flow from coupons and maturities match the plan’s projected benefit cash flows.  The discount rates are the single rates that produce the same present value of cash flows.  The selection of the 4.29% and 4.11% discount rates as of year-end 2012 for pension and other benefits, respectively, represents the hypothetical bond portfolio using bonds with an AA or better rating constructed with the assistance of an outside consultant.  In 2011 and 2010, our policy was to match the plan’s cash flows to that of a yield curve that provides the equivalent yields on zero-coupon corporate bonds for each maturity.  Benefit cash flows due in a particular year can theoretically be “settled” by “investing” them in the zero-coupon bond that matures in the same year.  The discount rates are the single rates that produce the same present value of cash flows.  The selection of the 4.55% and 4.40% discount rates as of year-end 2011 for pension and other benefits, respectively, represents the equivalent single rates constructed under a broad-market AA yield curve constructed with the assistance of an outside consultant.  A 100 basis point increase in the discount rate would decrease the projected pension benefit obligation as of February 2, 2013, by approximately $412.

 

To determine the expected rate of return on pension plan assets, we consider current and forecasted plan asset allocations as well as historical and forecasted rates of return on various asset categories.  For 2012 and 2011, we assumed a pension plan investment return rate of 8.5%.  Our pension plan’s average rate of return was 9.7% for the 10 calendar years ended December 31, 2012, net of all investment management fees and expenses.  The value of all investments in our Company-sponsored defined benefit pension plans during the calendar year ending December 31, 2012, net of investment management fees and expenses, increased 15.0%.  For the past 20 years, our average annual rate of return has been 9.9%.  The average annual return for the S&P 500 over the same period of time has been 8.5%.  Based on the above information and forward looking assumptions for investments made in a manner consistent with our target allocations, we believe an 8.5% rate of return assumption is reasonable.  See Note 13 to the Consolidated Financial Statements for more information on the asset allocations of pension plan assets.

 

Sensitivity to changes in the major assumptions used in the calculation of Kroger’s pension plan liabilities for the qualified plans is illustrated below (in millions).

 

 

 

Percentage
Point Change

 

Projected Benefit
Obligation
Decrease/(Increase)

 

Expense
Decrease/(Increase)

 

Discount Rate

 

+/- 1.0

%

$

412/(502

)

$

32/($36

)

Expected Return on Assets

 

+/- 1.0

%

 

$

26/($26

)

 

We contributed $71 million in 2012, $52 million in 2011 and $141 million in 2010 to our Company-sponsored defined benefit pension plans.  In February 2013, we contributed $100 million to the Company-sponsored defined benefit pension plans and do not expect to make any additional contributions in 2013.  We expect contributions made during 2013 will decrease our required contributions in future years.  Among other things, investment performance of plan assets, the interest rates required to be used to calculate the pension obligations, and future changes in legislation, will determine the amounts of contributions.

 

22



 

We contributed and expensed $140 million in 2012, $130 million in 2011, and $119 million in 2010 to employee 401(k) retirement savings accounts.  The 401(k) retirement savings account plans provide to eligible employees both matching contributions and automatic contributions from the Company based on participant contributions, plan compensation, and length of service.

 

Multi-Employer Pension Plans

 

We also contribute to various multi-employer pension plans based on obligations arising from collective bargaining agreements.  These plans provide retirement benefits to participants based on their service to contributing employers.  The benefits are paid from assets held in trust for that purpose.  Trustees are appointed in equal number by employers and unions.  The trustees typically are responsible for determining the level of benefits to be provided to participants as well as for such matters as the investment of the assets and the administration of the plans.

 

In the fourth quarter of 2011, we entered into a memorandum of understanding (“MOU”) with 14 locals of the UFCW that participated in four multi-employer pension funds.  The MOU established a process that amended each of the collective bargaining agreements between Kroger and the UFCW locals under which we made contributions to these funds and consolidated the four multi-employer pension funds into one multi-employer pension fund.

 

Under the terms of the MOU, the locals of the UFCW agreed to a future pension benefit formula through 2021.  We are designated as the named fiduciary of the new consolidated pension plan with sole investment authority over the assets.  We committed to contribute sufficient funds to cover the actuarial cost of current accruals and to fund the pre-consolidation Unfunded Actuarial Accrued Liability (“UAAL”) that existed as of December 31, 2011, in a series of installments on or before March 31, 2018.  At January 1, 2012, the UAAL was estimated to be $911 million (pre-tax).  In accordance with GAAP, we expensed $911 million in 2011 related to the UAAL.  The expense was based on a preliminary estimate of the contractual commitment.  In 2012, we finalized the UAAL contractual commitment and recorded an adjustment that reduced our 2011 estimated commitment by $53 million (pre-tax).  The final UAAL contractual commitment, at January 1, 2012, was $858 million (pre-tax).  In the fourth quarter of 2011, we contributed $650 million to the consolidated multi-employer pension plan of which $600 million was allocated to the UAAL and $50 million was allocated to service and interest costs and expensed in 2011.  In the fourth quarter of 2012, we contributed $258 million to the consolidated multi-employer pension plan to fully fund our UAAL contractual commitment.  Future contributions will be dependent, among other things, on the investment performance of assets in the plan.  The funding commitments under the MOU replace the prior commitments under the four existing funds to pay an agreed upon amount per hour worked by eligible employees.

 

We recognize expense in connection with these plans as contributions are funded or, in the case of the UFCW consolidated pension plan, when commitments are made, in accordance with GAAP.  We made cash contributions to these plans of $492 million in 2012, $946 million in 2011 and $262 million in 2010.  The cash contributions for 2012 and 2011 include our $258 million contribution in 2012 and our $650 million contribution in 2011 to the UFCW consolidated pension plan in the fourth quarter of each year.

 

Based on the most recent information available to us, we believe that the present value of actuarially accrued liabilities in most of these multi-employer plans substantially exceeds the value of the assets held in trust to pay benefits.  We have attempted to estimate the amount by which these liabilities exceed the assets, (i.e., the amount of underfunding), as of December 31, 2012.  Because Kroger is only one of a number of employers contributing to these plans, we also have attempted to estimate the ratio of Kroger’s contributions to the total of all contributions to these plans in a year as a way of assessing Kroger’s “share” of the underfunding.  Nonetheless, the underfunding is not a direct obligation or liability of Kroger or of any employer except as noted above.  As of December 31, 2012, we estimate that Kroger’s share of the underfunding of multi-employer plans to which Kroger contributes was $1.8 billion, pre-tax, or $1.1 billion, after-tax.  This represents a decrease in the estimated amount of underfunding of approximately $471 million, pre-tax, or $295 million, after-tax, as of December 31, 2012, compared to December 31, 2011.  The decrease in the amount of underfunding is attributable to our contribution to the UFCW consolidated pension plan in 2012 and the increased returns on the assets held in the multi-employer plans during 2012.  Our estimate is based on the most current information available to us including actuarial evaluations and other data (that include the estimates of others), and such information may be outdated or otherwise unreliable.

 

23



 

We have made and disclosed this estimate not because, except as noted above, this underfunding is a direct liability of Kroger.  Rather, we believe the underfunding is likely to have important consequences.  In 2012, excluding all payments to the UFCW consolidated pension plan and the pension plans that were consolidated into the UFCW consolidated pension plan, our contributions to these plans increased approximately 5% over the prior year and have grown at a compound annual rate of approximately 7% since 2007.  In 2013, we expect to contribute approximately $225 million to our multi-employer pension plans, subject to collective bargaining and capital market conditions.  This amount reflects a contribution decrease, compared to 2012, due to the UFCW consolidated pension plan.  Excluding all payments to the UFCW consolidated pension plan and the pension plans that were consolidated into the UFCW consolidated pension plan, based on current market conditions, we expect increases in expense as a result of increases in multi-employer pension plan contributions over the next few years.  Finally, underfunding means that, in the event we were to exit certain markets or otherwise cease making contributions to these funds, we could trigger a substantial withdrawal liability. Any adjustment for withdrawal liability will be recorded when it is probable that a liability exists and can be reasonably estimated, in accordance with GAAP.

 

The amount of underfunding described above is an estimate and could change based on contract negotiations, returns on the assets held in the multi-employer plans and benefit payments.  The amount could decline, and Kroger’s future expense would be favorably affected, if the values of the assets held in the trust significantly increase or if further changes occur through collective bargaining, trustee action or favorable legislation.  On the other hand, Kroger’s share of the underfunding could increase and Kroger’s future expense could be adversely affected if the asset values decline, if employers currently contributing to these funds cease participation or if changes occur through collective bargaining, trustee action or adverse legislation.

 

See Note 14 to the Consolidated Financial Statements for more information relating to our participation in these multi-employer pension plans.

 

Deferred Rent

 

We recognize rent holidays, including the time period during which we have access to the property for construction of buildings or improvements, as well as construction allowances and escalating rent provisions on a straight-line basis over the term of the lease.  The deferred amount is included in Other Current Liabilities and Other Long-Term Liabilities on the Consolidated Balance Sheets.

 

Uncertain Tax Positions

 

We review the tax positions taken or expected to be taken on tax returns to determine whether and to what extent a benefit can be recognized in our consolidated financial statements.  Refer to Note 4 to the Consolidated Financial Statements for the amount of unrecognized tax benefits and other related disclosures related to uncertain tax positions.

 

Various taxing authorities periodically audit our income tax returns.  These audits include questions regarding our tax filing positions, including the timing and amount of deductions and the allocation of income to various tax jurisdictions.  In evaluating the exposures connected with these various tax filing positions, including state and local taxes, we record allowances for probable exposures.  A number of years may elapse before a particular matter, for which an allowance has been established, is audited and fully resolved.  As of February 2, 2013, the Internal Revenue Service had concluded its field examination of our 2008 and 2009 federal tax returns.  We have filed an administrative appeal within the Internal Revenue Service protesting certain adjustments proposed by the Internal Revenue Service as a result of their field work.

 

The assessment of our tax position relies on the judgment of management to estimate the exposures associated with our various filing positions.

 

Share-Based Compensation Expense

 

We account for stock options under the fair value recognition provisions of GAAP.  Under this method, we recognize compensation expense for all share-based payments granted.  We recognize share-based compensation expense, net of an estimated forfeiture rate, over the requisite service period of the award.  In addition, we record expense for restricted stock awards in an amount equal to the fair market value of the underlying stock on the grant date of the award, over the period the award restrictions lapse.

 

24



 

Inventories

 

Inventories are stated at the lower of cost (principally on a LIFO basis) or market.  In total, approximately 96% of inventories in 2012 and 97% of inventories in 2011 were valued using the LIFO method.  Cost for the balance of the inventories was determined using the FIFO method.  Replacement cost was higher than the carrying amount by $1.1 billion at February 2, 2013, and by $1.0 billion at January 28, 2012.  We follow the Link-Chain, Dollar-Value LIFO method for purposes of calculating our LIFO charge or credit.

 

We follow the item-cost method of accounting to determine inventory cost before the LIFO adjustment for substantially all store inventories at our supermarket divisions.  This method involves counting each item in inventory, assigning costs to each of these items based on the actual purchase costs (net of vendor allowances and cash discounts) of each item and recording the cost of items sold.  The item-cost method of accounting allows for more accurate reporting of periodic inventory balances and enables management to more precisely manage inventory when compared to the retail method of accounting.  In addition, substantially all of our inventory consists of finished goods and is recorded at actual purchase costs (net of vendor allowances and cash discounts).

 

We evaluate inventory shortages throughout the year based on actual physical counts in our facilities.  We record allowances for inventory shortages based on the results of recent physical counts to provide for estimated shortages from the last physical count to the financial statement date.

 

Vendor Allowances

 

We recognize all vendor allowances as a reduction in merchandise costs when the related product is sold.  In most cases, vendor allowances are applied to the related product cost by item, and therefore reduce the carrying value of inventory by item.  When it is not practicable to allocate vendor allowances to the product by item, we recognize vendor allowances as a reduction in merchandise costs based on inventory turns and as the product is sold.   We recognized approximately $6.2 billion in 2012, $5.9 billion in 2011, and $6.4 billion in 2010 of vendor allowances as a reduction in merchandise costs.  We recognized approximately 95% of all vendor allowances in the item cost with the remainder being based on inventory turns.

 

RECENTLY ADOPTED ACCOUNTING STANDARDS

 

In June 2011, the Financial Accounting Standards Board (“FASB”) amended its rules regarding the presentation of comprehensive income.  The objective of this amendment is to improve the comparability, consistency and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income.  Specifically, this amendment requires that all non-owner changes in shareholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  The new rules became effective for interim and annual periods beginning after December 15, 2011.  In December 2011, the FASB deferred certain aspects of this standard beyond the December 15, 2011 effective date, specifically the provisions dealing with reclassification adjustments.  We adopted these amended standards effective January 29, 2012 by presenting separate Consolidated Statements of Comprehensive Income immediately following the Consolidated Statements of Operations.

 

In May 2011, the FASB amended its rules for disclosure requirements for common fair value measurement. These amendments, effective for the interim and annual periods beginning on or after December 15, 2011 (early adoption was prohibited), result in a common definition of fair value and common requirements for fair value measurement and disclosure between GAAP and International Financial Accounting Standards.  Consequently, the amendments change some fair value measurement principles and disclosure requirements. The implementation of the amended accounting guidance did not have a material effect on our consolidated financial position or results of operations.

 

RECENTLY ISSUED ACCOUNTING STANDARDS

 

As discussed above under Recently Adopted Accounting Standards, in December 2011 the FASB deferred certain provisions of its 2011 rule amendments dealing with reclassification adjustments.  In February 2013, the FASB amended its standards on comprehensive income by requiring disclosure in the footnotes of information about amounts reclassified out of accumulated other comprehensive income by component. Specifically, the amendment will require disclosure of the line items of net income in which the item was reclassified only if it is reclassified to net income in its entirety in the same reporting period. It will also require cross reference to other disclosures for amounts that are not reclassified in their entirety in the same reporting period. The new disclosures will be required for us prospectively only for annual periods beginning February 3, 2013 and interim periods within those annual periods.

 

25



 

LIQUIDITY AND CAPITAL RESOURCES

 

Cash Flow Information

 

Net cash provided by operating activities

 

We generated $2.8 billion of cash from operations in 2012, compared to $2.7 billion in 2011 and $3.4 billion in 2010.  The cash provided by operating activities came from net earnings including non-controlling interests adjusted primarily for non-cash expenses of depreciation and amortization, the LIFO charge and changes in working capital.  The increase in net cash provided by operating activities in 2012, compared to 2011, resulted primarily due to an increase in net earnings including non-controlling interests, offset by a decline in long-term liabilities and changes in working capital.  The decline in long-term liabilities in 2012 is due to the investment returns of our Company-sponsored pension plans during the year and our funding of the remaining UAAL commitment, partially offset by a lower discount rate on our Company-sponsored pension plans.  The decrease in net cash provided by operating activities in 2011, compared to 2010, was primarily due to the decline in net earnings including non-controlling interests, due to the UFCW consolidated pension plan charge, and changes in working capital, offset by an increase in long-term liabilities.  The increase in long-term liabilities in 2011 was due to establishing a liability for our remaining estimated commitment for the UAAL in excess of the cash contribution and a lower discount rate on our Company-sponsored pension plans, offset by the investment returns of our Company-sponsored pension plans during the year.  Changes in working capital also provided (used) cash from operating activities of ($332) million in 2012, compared to ($300) million in 2011 and $698 million in 2010.  The decrease in cash provided by changes in working capital for 2012, compared to 2011, was primarily due to an increase in inventories and prepaid expenses, offset partially by an increase in accrued expenses.  Prepaid expenses increased in 2012, compared to 2011, due to Kroger prefunding $250 million of employee benefits at the end of 2012.  The decrease in cash provided by changes in working capital for 2011, compared to 2010, was primarily due to an increase in inventories, offset partially by increases in trade accounts payable and accrued expenses.  These amounts are also net of cash contributions to our Company-sponsored defined benefit pension plans totaling $71 million in 2012, $52 million in 2011 and $141 million in 2010.

 

The amount of cash paid for income taxes increased in 2012, compared to 2011, primarily due to an increase in net earnings including non-controlling interests.  The amount of cash paid for income taxes decreased in 2011, compared to 2010, primarily due to a decrease in net earnings including non-controlling interests and from the bonus depreciation deductions allowed by the 2010 Tax Relief Act for property placed into service in 2011.

 

Net cash used by investing activities

 

Cash used by investing activities was $2.2 billion in 2012, compared to $1.9 billion in 2011 and $2.0 billion in 2010.  The amount of cash used by investing activities increased in 2012, compared to 2011, due to increased payments for capital investments and acquisitions.  The amount of cash used by investing activities decreased in 2011, compared to 2010, due to decreased payments for other investing activities, offset partially by increased payments for acquisitions.  Capital investments, including changes in construction-in-progress payables and excluding acquisitions, were $2.1 billion in 2012, $2.0 billion in 2011 and $1.9 billion in 2010.  Refer to the Capital Investment section for an overview of our supermarket storing activity during the last three years.

 

Net cash used by financing activities

 

Financing activities used $600 million of cash in 2012, compared to $1.4 billion in 2011 and $1.0 billion in 2010.  The decrease in the amount of cash used for financing activities in 2012, compared to 2011, was primarily related to increased proceeds from the issuance of long-term debt and net borrowings from our commercial paper program, offset partially by payments on long-term debt.  The increase in the amount of cash used for financing activities in 2011, compared to 2010, was primarily related to increased payments for treasury stock purchases, partially offset by increased borrowings under our commercial paper program.  We repurchased $1.3 billion of Kroger common shares in 2012, compared to $1.5 billion in 2011 and $545 million in 2010.  We paid dividends totaling $267 million in 2012, $257 million in 2011 and $250 million in 2010.

 

26



 

Debt Management

 

Total debt, including both the current and long-term portions of capital leases and lease-financing obligations increased $714 million to $8.9 billion as of year-end 2012, compared to 2011.  The increase in 2012, compared to 2011, resulted from increased borrowings of $1.3 billion of commercial paper supported by our credit facility and the issuance of (i) $500 million of senior notes bearing an interest rate of 3.4% and (ii) $350 million of senior notes bearing an interest rate of 5.0%, offset partially by payments at maturity of (i) $491 million of senior notes bearing an interest rate of 6.75%, (ii) $346 million of senior notes bearing an interest rate of 6.2% and (iii) $500 million of senior notes bearing an interest rate of 5.5%.  This increase was primarily due to our $258 million UFCW consolidated pension plan contribution in the fourth quarter of 2012, prefunding $250 million of employee benefit costs at the end of 2012, our common share repurchase activity during the year, the payment at maturity of $500 million of senior notes bearing an interest rate of 5.5% and the purchase of a specialty pharmacy.  Total debt increased $273 million to $8.2 billion as of year-end 2011, compared to year-end 2010.  The increase in 2011, compared to 2010, resulted from increased net borrowings of commercial paper of $370 million and the issuance of $450 million of senior notes bearing an interest rate of 2.20%, offset by the payment at maturity of our $478 million of senior notes bearing an interest rate of 6.80%.

 

In 2013, we expect to refinance $1.5 billion of debt.  We plan on refinancing our debt maturities in 2013 along with an additional issuance of approximately $500 million to replace the senior notes bearing an interest rate of 5.5% that matured in the fourth quarter of 2012.  The debt that matured in the fourth quarter of 2012 was previously refinanced with commercial paper.  We have entered into $850 million notional amount of forward starting interest rate swaps to effectively hedge the changes in future benchmark interest rates on a portion of our expected issuances of fixed rate debt.

 

Liquidity Needs

 

We estimate our liquidity needs over the next twelve-month period to be approximately $5 billion, which includes anticipated requirements for working capital, capital expenditures, interest payments and scheduled principal payments of debt and commercial paper, offset by cash and temporary cash investments on hand at the end of 2012.  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.  We have approximately $1.6 billion of commercial paper and $1.0 billion of senior notes maturing in the next twelve months, which is included in the $5 billion in estimated liquidity needs.  We expect to refinance this debt by issuing additional senior notes or commercial paper on favorable terms based on our past experience.  $2.0 billion of this debt matures in the first quarter of 2013.  In the first quarter of 2013, we anticipate refinancing this $2.0 billion through cash flows from operating activities and by issuing $1.0 billion to $1.2 billion of additional senior notes.  We also currently do not expect to repurchase our common shares at the levels we did in 2012.  We used our commercial paper program toward the end of 2012 to fund our common share repurchases, a $250 million (pre-tax) pre-funding of employee benefit costs at the end of 2012, a $258 million UFCW consolidated pension plan contribution in the fourth quarter of 2012 and the payment at maturity of $500 of senior notes bearing an interest rate of 5.5%.  We also expect our contributions to the UFCW consolidated pension plan to decrease in future periods.  We may use our commercial paper program to fund debt maturities at the end of 2013 but do not currently expect to use the program permanently.  We believe we have adequate coverage of our debt covenants to continue to maintain our current debt ratings and to respond effectively to competitive conditions.

 

Factors Affecting Liquidity

 

We can currently borrow on a daily basis approximately $2 billion under our commercial paper (“CP”) program.  At February 2, 2013, we had $1.6 billion of CP borrowings outstanding.  CP borrowings are backed by our credit facility, and reduce the amount we can borrow under the credit facility.  If our short-term credit ratings fall, the ability to borrow under our current CP program could be adversely affected for a period of time and increase our interest cost on daily borrowings under our CP program.  This could require us to borrow additional funds under the credit facility, under which we believe we have sufficient capacity.  However, in the event of a ratings decline, we do not anticipate that our borrowing capacity under our CP program would be any lower than $500 million on a daily basis.  Although our ability to borrow under the credit facility is not affected by our credit rating, the interest cost on borrowings under the credit facility could be affected by an increase in our Leverage Ratio.  As of March 29, 2013, we had $1.1 billion of CP borrowings outstanding.  The decrease as of March 29, 2013, compared to year-end 2012, was due to applying cash from operations against our year-end CP outstanding borrowings.

 

27



 

Our credit facility requires the maintenance of a Leverage Ratio and a Fixed Charge Coverage Ratio (our “financial covenants”).  A failure to maintain our financial covenants would impair our ability to borrow under the credit facility. These financial covenants and ratios are described below:

 

·                  Our Leverage Ratio (the ratio of Net Debt to Consolidated EBITDA, as defined in the credit facility) was 1.81 to 1 as of February 2, 2013.  If this ratio were to exceed 3.50 to 1, we would be in default of our credit facility and our ability to borrow under the facility would be impaired. In addition, our Applicable Margin on borrowings is determined by our Leverage Ratio.

 

·                  Our Fixed Charge Coverage Ratio (the ratio of Consolidated EBITDA plus Consolidated Rental Expense to Consolidated Cash Interest Expense plus Consolidated Rental Expense, as defined in the credit facility) was 4.67 to 1 as of February 2, 2013.  If this ratio fell below 1.70 to 1, we would be in default of our credit facility and our ability to borrow under the facility would be impaired.

 

Consolidated EBITDA, as defined in our credit facility, includes an adjustment for unusual gains and losses including our UFCW consolidated pension plan liability adjustment in 2012.  Our credit agreement is more fully described in Note 5 to the Consolidated Financial Statements.  We were in compliance with our financial covenants at year-end 2012.

 

The tables below illustrate our significant contractual obligations and other commercial commitments, based on year of maturity or settlement, as of February 2, 2013 (in millions of dollars):

 

 

 

2013

 

2014

 

2015

 

2016

 

2017

 

Thereafter

 

Total

 

Contractual Obligations (1)  (2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt(3)

 

$

2,700

 

$

320

 

$

517

 

$

463

 

$

607

 

$

3,869

 

$

8,476

 

Interest on long-term debt (4)

 

360

 

318

 

297

 

284

 

257

 

2,422

 

3,938

 

Capital lease obligations

 

51

 

47

 

42

 

39

 

38

 

232

 

449

 

Operating lease obligations

 

707

 

663

 

601

 

540

 

467

 

2,025

 

5,003

 

Low-income housing obligations

 

6

 

1

 

 

 

 

 

7

 

Financed lease obligations

 

13

 

13

 

13

 

13

 

13

 

116

 

181

 

Self-insurance liability (5)

 

205

 

126

 

84

 

54

 

25

 

43

 

537

 

Construction commitments

 

230

 

 

 

 

 

 

230

 

Purchase obligations

 

500

 

76

 

45

 

34

 

28

 

68

 

751

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

4,772

 

$

1,564

 

$

1,599

 

$

1,427

 

$

1,435

 

$

8,775

 

$

19,572

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other Commercial Commitments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Standby letters of credit

 

$

148

 

$

 

$

 

$

 

$

 

$

 

$

148

 

Surety bonds

 

294

 

 

 

 

 

 

294

 

Guarantees

 

6

 

 

 

 

 

 

6

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

448

 

$

 

$

 

$

 

$

 

$

 

$

448

 

 


(1)         The contractual obligations table excludes funding of pension and other postretirement benefit obligations, which totaled approximately $98 million in 2012. This table also excludes contributions under various multi-employer pension plans, which totaled $492 million in 2012, including our $258 million contribution to the UFCW consolidated pension plan. 

(2)         The liability related to unrecognized tax benefits has been excluded from the contractual obligations table because a reasonable estimate of the timing of future tax settlements cannot be determined.

(3)         As of February 2, 2013, we had $1.6 billion of borrowings of commercial paper and no borrowings under our credit agreement and money market lines.

(4)         Amounts include contractual interest payments using the interest rate as of February 2, 2013, and stated fixed and swapped interest rates, if applicable, for all other debt instruments.

(5)         The amounts included in the contractual obligations table for self-insurance liability related to workers’ compensation claims have been stated on a present value basis.

 

Our construction commitments include funds owed to third parties for projects currently under construction.  These amounts are reflected in other current liabilities in our Consolidated Balance Sheets.

 

28



 

Our purchase obligations include commitments to be utilized in the normal course of business, such as several contracts to purchase raw materials utilized in our manufacturing plants and several contracts to purchase energy to be used in our stores and manufacturing facilities.  Our obligations also include management fees for facilities operated by third parties.  Any upfront vendor allowances or incentives associated with outstanding purchase commitments are recorded as either current or long-term liabilities in our Consolidated Balance Sheets.

 

As of February 2, 2013, we maintained a $2 billion (with the ability to increase by $500 million), unsecured revolving credit facility that, unless extended, terminates on January 25, 2017.  Outstanding borrowings under the credit agreement and commercial paper borrowings, and some outstanding letters of credit, reduce funds available under the credit agreement.  In addition to the credit agreement, we maintained two uncommitted money market lines totaling $75 million in the aggregate.  The money market lines allow us to borrow from banks at mutually agreed upon rates, usually at rates below the rates offered under the credit agreement.  As of February 2, 2013, we had $1.6 billion of borrowings of commercial paper and no borrowings under our credit agreement and money market lines.  The outstanding letters of credit that reduce funds available under our credit agreement totaled $13 million as of February 2, 2013.

 

In addition to the available credit mentioned above, as of February 2, 2013, we had authorized for issuance $700 million of securities under a shelf registration statement filed with the SEC and effective on December 15, 2010.  On January 18, 2013, the Board of Directors authorized for issuance additional securities in the amount of $1.8 billion over and above the $700 million of securities available for issuance as of February 2, 2013.  Subsequent to year-end, we filed a Current Report on Form 8-K, on February 11, 2013, incorporating by reference additional exhibits to the shelf registration statement including the Board of Directors’ resolution.

 

We also maintain surety bonds related primarily to our self-insured workers’ compensation claims.  These bonds are required by most states in which we are self-insured for workers’ compensation and are placed with predominately third-party insurance providers to insure payment of our obligations in the event we are unable to meet our claim payment obligations up to our self-insured retention levels.   These bonds do not represent liabilities of Kroger, as we already have reserves on our books for the claims costs.  Market changes may make the surety bonds more costly and, in some instances, availability of these bonds may become more limited, which could affect our costs of, or access to, such bonds.  Although we do not believe increased costs or decreased availability would significantly affect our ability to access these surety bonds, if this does become an issue, we would issue letters of credit, in states where allowed, against our credit facility to meet the state bonding requirements.  This could increase our cost and decrease the funds available under our credit facility.

 

We have guaranteed half of the indebtedness of two real estate entities in which we have a 50% ownership interest.  Our share of the responsibility for this indebtedness, should the entities be unable to meet their obligations, totals approximately $6 million.  Based on the covenants underlying this indebtedness as of February 2, 2013, we believe that it is unlikely that we will be responsible for repayment of these obligations.

 

We also are contingently liable for leases that have been assigned to various third parties in connection with facility closings and dispositions.  We could be required to satisfy obligations under the leases if any of the assignees are unable to fulfill their lease obligations.  Due to the wide distribution of our assignments among third parties, and various other remedies available to us, we believe the likelihood that we will be required to assume a material amount of these obligations is remote.  We have agreed to indemnify certain third-party logistics operators for certain expenses, including pension trust fund contribution obligations and withdrawal liabilities.

 

In addition to the above, we enter into various indemnification agreements and take on indemnification obligations in the ordinary course of business.  Such arrangements include indemnities against third party claims arising out of agreements to provide services to Kroger; indemnities related to the sale of our securities; indemnities of directors, officers and employees in connection with the performance of their work; and indemnities of individuals serving as fiduciaries on benefit plans.  While Kroger’s aggregate indemnification obligation could result in a material liability, we are not aware of any current matter that could result in a material liability.

 

29



 

OUTLOOK

 

This discussion and analysis contains certain forward-looking statements about Kroger’s future performance.  These statements are based on management’s assumptions and beliefs in light of the information currently available.  Such statements relate to, among other things: projected changes in net earnings attributable to The Kroger Co.; identical supermarket sales growth; expected product cost; expected pension plan contributions; our ability to generate operating cash flows; projected capital expenditures; square footage growth; opportunities to reduce costs; cash flow requirements; and our operating plan for the future; and are indicated by words such as “comfortable,” “committed,” “will,” “expect,” “goal,” “should,” “intend,” “target,” “believe,” “anticipate,” “plan,” and similar words or phrases. These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially.

 

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.  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 below could cause actual results to differ materially.

 

·

 

We expect net earnings per diluted share in the range of $2.71-$2.79 for 2013. This equates to our long-term growth rate of 8% to 11% from our adjusted fiscal 2012 net earnings per diluted share of $2.52, which excludes the UFCW consolidated pension accrual and credit card settlement adjustments in the third quarter of 2012 and the extra week in the fourth quarter of 2012. We expect the first quarter net earnings per diluted share growth rate for 2013 to be on the low end of the range primarily due to expected inflation being lower in the first quarter of 2013, compared to 2012, and the growth of our pharmacy business not being as substantial as in the first quarter of 2012. We expect the second and third quarters net earnings per diluted share growth rate for 2013 to be at the high end to above the range primarily due to expected inflation being more comparable in the second and third quarters of 2013, compared to the second and third quarters of 2012, and expecting our identical supermarket sales to be trending upwards. We also expect the fourth quarter net earnings per diluted share growth rate for 2013 to be lower than the prior year on a 12-week to 12-week basis primarily due to a budgeted LIFO charge of $13 million compared to a LIFO credit of $41 million in the fourth quarter of 2012.

 

 

 

·

 

We expect identical supermarket sales growth, excluding fuel sales, of 2.5%-3.5% in 2013.  We expect identical supermarket sales growth to increase over time during 2013 relative to 2012. In 2012, we experienced higher levels of inflation early in the year. In the second half of the year, several branded prescription drugs came off patent, and when branded prescription drugs come off patent and are sold as generics, sales are reduced because generic equivalents have lower retail prices than branded drugs.  We do not expect these conditions to continue to have the same impact for 2013.

 

 

 

·

 

Our long-term business model seeks to produce annual earnings per diluted share growth averaging 8.0%-11.0%, plus a dividend of 2.0% to 2.5%, for a total shareholder return of approximately 10.0%-13.5%.

 

 

 

·

 

For 2013, we intend to continue to focus on improving sales growth, in accordance with our Customer 1st strategy, by making investments in gross margin and customer shopping experiences. We expect to finance these investments primarily with operating cost reductions. We expect FIFO non-fuel operating margins for 2013 to expand slightly compared to 2012, excluding the UFCW consolidated pension plan accrual and the credit card settlement adjustments in 2012.

 

 

 

·

 

For 2013, we expect our annualized LIFO charge to be approximately $55 million. This forecast is based on estimated cost changes for products in our inventory.

 

 

 

·

 

For 2013, we expect interest expense to be approximately $440 million.

 

 

 

·

 

We plan to use cash flow primarily for capital investments, to maintain our current debt coverage ratios, to pay cash dividends, and to repurchase stock. As market conditions change, we may re-evaluate these uses of cash flow.

 

 

 

·

 

We expect to obtain sales growth from new square footage, as well as from increased productivity from existing locations.

 

30



 

·

 

Capital investments reflect our strategy of growth through expansion, filling in targeted existing markets, entering a new market and focusing on productivity increases from our existing store base through remodels.  In addition, we intend to continue our emphasis on self-development and ownership of real estate, and logistics and technology improvements.  Our continued capital spending on technology is focused on improving store operations, logistics, manufacturing procurement, category management, merchandising and buying practices, and is expected to reduce merchandising costs.  We intend to continue using cash flow from operations to finance capital expenditure requirements.  We expect capital investments for 2013 to increase to the range of $2.1-$2.4 billion, excluding acquisitions and purchases of leased facilities. We also expect capital investments to increase incrementally $200 million over the next few years, excluding acquisitions and purchases of leased facilities, to accomplish our strategy. We expect total food store square footage for 2013 to grow approximately 1.5% before acquisitions and operational closings.

 

 

 

·

 

Based on current operating trends, we believe that cash flow from operations and other sources of liquidity, including borrowings under our commercial paper program and bank credit facility, will be adequate to meet anticipated requirements for working capital, capital expenditures, interest payments and scheduled principal payments for the foreseeable future. We also believe we have adequate coverage under our debt covenants to continue to respond effectively to competitive conditions.

 

 

 

·

 

We believe we have adequate sources of cash, if needed, under our credit facility and other borrowing sources for the next twelve months and for the foreseeable future beyond the next twelve months.

 

 

 

·

 

We expect that our OG&A results will be affected by increased costs, such as higher employee benefit costs and credit card fees, offset by improved productivity from process changes and leverage gained through sales increases.

 

 

 

·

 

We expect that our effective tax rate for 2013 will be approximately 35.5%, excluding the effect of the resolution of any tax issues.

 

 

 

·

 

We expect rent expense, as a percentage of total sales and excluding closed-store activity, will decrease due to the emphasis our current strategy places on ownership of real estate.

 

 

 

·

 

We believe that in 2013 there will be opportunities to reduce our operating costs in such areas as administration, productivity improvements, shrink, warehousing and transportation. We intend to invest most of these savings in our core business to drive profitable sales growth and offer improved value and shopping experiences for our customers.

 

 

 

·

 

In February 2013, we contributed $100 million to the Company-sponsored defined benefit pension plans and do not expect to make any additional contributions in 2013. We expect contributions made during 2013 will decrease our required contributions in future years.  Among other things, investment performance of plan assets, the interest rates required to be used to calculate the pension obligations, and future changes in legislation, will determine the amounts of additional contributions. We expect 2013 expense for Company-sponsored defined benefit pension plans to be approximately $80 million. In addition, we expect 401(k) Retirement Savings Account Plan cash contributions and expense from automatic and matching contributions to participants to increase slightly in 2013, compared to 2012.

 

 

 

·

 

We expect to contribute approximately $225 million to multi-employer pension plans in 2013, subject to collective bargaining. In addition, excluding all payments to the UFCW consolidated pension plan and the pension plans that were consolidated into the UFCW consolidated pension plan, we expect increases in expense as a result of increases in multi-employer pension plan contributions over the next few years.

 

 

 

·

 

We do not anticipate additional goodwill impairments in 2013.

 

 

 

·

 

In 2013, we expect to refinance $1.5 billion of debt.  We plan on refinancing our debt maturities in 2013 along with an additional issuance of approximately $500 million to replace the senior notes bearing an interest rate of 5.5% that matured in the fourth quarter of 2012.  The debt that matured in the fourth quarter of 2012 was previously refinanced with commercial paper.

 

31



 

·

 

We have various labor agreements that will be renegotiated in 2013, covering store employees in Indianapolis, Dallas, Houston, Seattle and Cincinnati, among others. Upon the expiration of our collective bargaining agreements, work stoppages by the affected workers could occur if we are unable to negotiate new contracts with labor unions. A prolonged work stoppage affecting a substantial number of locations could have a material adverse effect on our results. In all of these contracts, rising health care and pension costs will continue to be an important issue in negotiations.

 

Various uncertainties and other factors could cause us to fail to achieve our goals. 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 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.

 

 

 

·

 

Changes in market conditions could affect our cash flow.

 

 

 

·

 

Our ability to achieve sales and earnings goals may be affected by: 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, and the unemployment rate; the effect that fuel costs have on consumer spending; changes in government-funded benefit programs; 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 inconsistent pace of the economic recovery; changes in inflation or deflation in product and operating costs; stock repurchases; the effect of brand prescription drugs going off patent; our ability to retain additional pharmacy sales from third party payors; and the success of our future growth plans. The extent to which the adjustments we are making to our strategy create value for our shareholders will depend primarily on the reaction of our customers and our competitors to these adjustments, as well as operating conditions, including inflation or deflation, increased competitive activity, and cautious spending behavior of our customers. Our ability to achieve sales and earnings goals may also be affected by our ability to manage the factors identified above.

 

 

 

·

 

Our product cost inflation could vary from our estimate due to general economic conditions, weather, availability of raw materials and ingredients in the products that we sell and their packaging, and other factors beyond our control.

 

 

 

·

 

Our ability to pass on product cost increases will depend on the reactions of our customers and competitors to those increases.

 

 

 

·

 

Our ability to use free cash flow to continue to maintain our debt coverage and to reward our shareholders could be affected by unanticipated increases in net total debt, our inability to generate free cash flow at the levels anticipated, and our failure to generate expected earnings.

 

 

 

·

 

During the first three quarters of the year, our LIFO charge and the recognition of LIFO expense will be affected primarily by estimated year-end changes in product costs. Our LIFO charge for the year will be affected primarily by changes in product costs at year-end.

 

 

 

·

 

If actual results differ significantly from anticipated future results for certain reporting units including variable interest entities, an impairment loss for any excess of the carrying value of the reporting units’ goodwill over the implied fair value would have to be recognized.

 

 

 

·

 

In addition to the factors identified above, our identical store sales growth could be affected by increases in Kroger private label sales, the effect of our “sister stores” (new stores opened in close proximity to an existing store) and reductions in retail pricing.

 

 

 

·

 

Our operating margins, without fuel, could decline or fail to meet expectations if we are unable to pass on any cost increases, if we fail to deliver the cost savings contemplated or if changes in the cost of our inventory and the timing of those changes differ from our expectations.

 

32



 

·

 

We have estimated our exposure to the claims and litigation arising in the normal course of business, as well as to the material litigation facing Kroger, and believe we have made provisions where it is reasonably possible to estimate and where an adverse outcome is probable. Unexpected outcomes in these matters, however, could result in an adverse effect on our earnings.

 

 

 

·

 

Changes in the types and numbers of businesses that compete with us are likely to continue and the effects on our business, either favorable or unfavorable, cannot be foreseen.

 

 

 

·

 

Rent expense, which includes subtenant rental income, could be adversely affected by the state of the economy, increased store closure activity and future consolidation.

 

 

 

·

 

Depreciation expense, which includes the amortization of assets recorded under capital leases, is computed principally using the straight-line method over the estimated useful lives of individual assets, or the remaining terms of leases. Use of the straight-line method of depreciation creates a risk that future asset write-offs or potential impairment charges related to store closings would be larger than if an accelerated method of depreciation were followed.

 

 

 

·

 

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.

 

 

 

·

 

The actual amount of automatic and matching cash contributions to our 401(k) Retirement Savings Account Plan will depend on the number of participants, savings rate, compensation as defined by the plan, and length of service of participants.

 

 

 

·

 

The amounts of our contributions and recorded expense related to multi-employer pension funds could vary from the amounts that we expect, and could increase more than anticipated. Should asset values in these funds deteriorate, if employers withdraw from these funds without providing for their share of the liability, or should our estimates prove to be understated, our contributions could increase more rapidly than we have anticipated.

 

 

 

·

 

If the investment performance of our pension plan assets does not meet expectations due to poor performance of the financial markets or for other reasons, our contributions to Company-sponsored defined benefit pension plans could increase more than anticipated in future periods.

 

 

 

·

 

Changes in laws or regulations, including changes in accounting standards, taxation requirements and environmental laws may have a material effect on our financial statements.

 

 

 

·

 

Changes in the general business and economic conditions in our operating regions may affect the shopping habits of our customers, which could affect sales and earnings.

 

 

 

·

 

Changes in our product mix may negatively affect certain financial indicators. For example, we continue to add supermarket fuel centers to our store base. Since gasoline generates low profit margins, we expect to see our FIFO gross profit margins decline as gasoline sales increase. Although this negatively affects our FIFO gross margin, gasoline sales provide a positive effect on OG&A expense as a percentage of sales.

 

 

 

·

 

Our capital expenditures, expected square footage growth, and number of store projects completed over the next fiscal year could differ from our estimate if we are unsuccessful in acquiring suitable sites for new stores, if development costs vary from those budgeted, if our logistics and technology or store projects are not completed on budget or within the time frame projected, or if economic conditions fail to improve, or worsen.

 

 

 

·

 

Interest expense could be adversely affected by the interest rate environment, changes in our credit ratings, fluctuations in the amount of outstanding debt, decisions to incur prepayment penalties on the early redemption of debt and any factor that adversely affects our operations and results in an increase in debt.

 

 

 

·

 

Impairment losses, including goodwill, could be affected by changes in our assumptions of future cash flows, market values or business valuations in the market. Our cash flow projections include several years of projected cash flows which would be affected by changes in the economic environment, real estate market values, competitive activity, inflation and customer behavior.

 

33



 

·

 

Our estimated expense and obligation for Kroger-sponsored pension plans and other post-retirement benefits could be affected by changes in the assumptions used in calculating those amounts. These assumptions include, among others, the discount rate, the expected long-term rate of return on plan assets, average life expectancy and the rate of increases in compensation and health care costs.

 

 

 

·

 

Adverse weather conditions could increase the cost our suppliers charge for their products, or may decrease customer demand for certain products. Increases in demand for certain commodities could also increase the cost our suppliers charge for their products. Additionally, increases in the cost of inputs, such as utility costs or raw material costs, could negatively affect financial ratios and earnings.

 

 

 

·

 

Although we presently operate only in the United States, civil unrest in foreign countries in which our suppliers do business may affect the prices we are charged for imported goods. If we are unable to pass on these increases to our customers, our FIFO gross margin and net earnings would suffer.

 

 

 

·

 

Earnings and sales also may be affected by natural disasters or adverse weather conditions, particularly to the extent that they disrupt our operations or those of our suppliers; create shortages in the availability or increases in the cost of products that we sell in our stores or materials and ingredients we use in our manufacturing facilities; or raise the cost of supplying energy to our various operations, including the cost of transportation.

 

We cannot fully foresee the effects of changes in economic conditions on Kroger’s business. We have assumed economic and competitive situations will not change significantly in 2013.

 

Other factors and assumptions not identified above could also cause actual results to differ materially from those set forth in the forward-looking information. Accordingly, actual events and results may vary significantly from those included in, contemplated or implied by forward-looking statements made by us or our representatives.

 

34



 

ITEM 7A.              QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.

 

Financial Risk Management

 

We use derivative financial instruments primarily to manage our exposure to fluctuations in interest rates and, to a lesser extent, adverse fluctuations in commodity prices and other market risks.  We do not enter into derivative financial instruments for trading purposes.  As a matter of policy, all of our derivative positions are intended to reduce risk by hedging an underlying economic exposure.  Because of the high correlation between the hedging instrument and the underlying exposure, fluctuations in the value of the instruments generally are offset by reciprocal changes in the value of the underlying exposure.  The interest rate derivatives we use are straightforward instruments with liquid markets.

 

We manage our exposure to interest rates and changes in the fair value of our debt instruments primarily through the strategic use of variable and fixed rate debt and interest rate swaps.  Our current program relative to interest rate protection contemplates hedging the exposure to changes in the fair value of fixed-rate debt attributable to changes in interest rates.  To do this, we use the following guidelines: (i) use average daily outstanding borrowings to determine annual debt amounts subject to interest rate exposure, (ii) limit the average annual amount of debt subject to interest rate reset and the amount of floating rate debt to a combined total of $2.5 billion or less, (iii) include no leveraged products, and (iv) hedge without regard to profit motive or sensitivity to current mark-to-market status.

 

As of February 2, 2013, we maintained 6 interest rate swap agreements, with notional amounts totaling $475 million, to manage our exposure to changes in the fair value of our fixed rate debt resulting from interest rate movements by effectively converting a portion of our debt from fixed to variable rates.  These agreements mature at varying times between April 2013 and December 2018, and coincide with our scheduled debt maturities.  The differential between fixed and variable rates to be paid or received is accrued as interest rates change in accordance with the agreements as an adjustment to interest expense.  These interest rate swap agreements are being accounted for as fair value hedges.  As of February 2, 2013, other long-term assets totaling $1 million were recorded to reflect the fair value of these agreements, primarily offset by increases in the fair value of the underlying debt.

 

As of February 2, 2013, we maintained 17 forward-starting interest rate swap agreements with maturity dates between April 2013 and January 2014 with an aggregate notional amount totaling $850 million.  A forward-starting interest rate swap is an agreement that effectively hedges the variability in future benchmark interest payments attributable to changes in interest rates on the forecasted issuance of fixed-rate debt.  We entered into the forward-starting interest rate swaps in order to lock in fixed interest rates on our forecasted issuances of debt in fiscal year 2013.  The fixed interest rates for these forward-starting interest rate swaps range from 2.00% to 3.05%.  The variable rate component of the forward-starting interest rate swaps is 3 month LIBOR.  Accordingly, the forward-starting interest rate swaps were designated as cash-flow hedges as defined by GAAP.  As of February 2, 2013, the fair value of the interest rates swaps was recorded in other investments for $5 million and accumulated other comprehensive income for $3 million net of tax.

 

Annually, we review with the Financial Policy Committee of our Board of Directors compliance with the guidelines described above.  The guidelines may change as our business needs dictate.

 

The tables below provide information about our interest rate derivatives classified as fair value hedges and underlying debt portfolio as of February 2, 2013 and January 28, 2012.  The amounts shown for each year represent the contractual maturities of long-term debt, excluding capital leases, and the average outstanding notional amounts of interest rate derivatives classified as fair value hedges as of February 2, 2013 and January 28, 2012.  Interest rates reflect the weighted average rate for the outstanding instruments.  The variable component of each interest rate derivative and the variable rate debt is based on U.S. dollar LIBOR using the forward yield curve as of February 2, 2013 and January 28, 2012.  The Fair Value column includes the fair value of our debt instruments and interest rate derivatives classified as fair value hedges as of February 2, 2013 and January 28, 2012.  Refer to Notes 5, 6 and 7 to the Consolidated Financial Statements.

 

35



 

 

 

February 2, 2013
Expected Year of Maturity

 

 

 

2013

 

2014

 

2015

 

2016

 

2017

 

Thereafter

 

Total

 

Fair
 Value

 

 

 

(in millions)

 

Debt

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed rate

 

$

(1,010

)

$

(308

)

$

(508

)

$

(460

)

$

(607

)

$

(3,763

)

$

(6,656

)

$

(7,519

)

Average interest rate

 

5.72

%

5.67

%

5.77

%

6.04

%

6.23

%

6.38

%

 

 

 

 

Variable rate

 

$

(1,690

)

$

(12

)

$

(9

)

$

(3

)

$

 

$

(106

)

$

(1,820

)

$

(1,820

)

Average interest rate

 

1.02

%

0.73

%

0.78

%

1.02

%

1.28

%

1.77

%

 

 

 

 

 

 

 

February 2, 2013
Average Notional Amounts Outstanding

 

 

 

2013

 

2014

 

2015

 

2016

 

2017

 

Thereafter

 

February 2,
2013
Total

 

February 2,
2013 Fair
Value

 

 

 

(in millions)

 

Interest Rate Derivatives Classified as Fair Value Hedges

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed to variable

 

$

178

 

$

100

 

$

100

 

$

100

 

$

100

 

$

88

 

$

475

 

$

1

 

Average pay rate

 

4.44

%

5.97

%

6.25

%

6.70

%

7.37

%

7.96

%

 

 

 

 

Average receive rate

 

6.01

%

6.80

%

6.80

%

6.80

%

6.80

%

6.80

%

 

 

 

 

 

 

 

January 28, 2012
Expected Year of Maturity

 

 

 

2012

 

2013

 

2014

 

2015

 

2016

 

Thereafter

 

Total

 

Fair
Value

 

 

 

(In millions)

 

Debt

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed rate

 

$

(850

)

$

(1,510

)

$

(308

)

$

(508

)

$

(460

)

$

(3,519

)

$

(7,155

)

$

(8,148

)

Average interest rate

 

6.02

%

5.96

%

5.95

%

6.10

%

6.47

%

6.74

%

 

 

 

 

Variable rate

 

$

(425

)

$

(4

)

$

(66

)

$

(9

)

$

(3

)

$

(81

)

$

(588

)

$

(552

)

Average interest rate

 

0.88

%

0.89

%

0.72

%

0.25

%

0.32

%

0.41

%

 

 

 

 

 

 

 

January 28, 2012
Average Notional Amounts Outstanding

 

 

 

2012

 

2013

 

2014

 

2015

 

2016

 

Thereafter

 

January 28,
2012
Total

 

January 28,
2012 Fair
Value

 

 

 

(In millions)

 

Interest Rate Derivatives Classified as Fair Value Hedges

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fixed to variable

 

$

1,067

 

$

78

 

$

 

$

 

$

 

$

 

$

1,625

 

$

25

 

Average pay rate

 

3.38

%

2.76

%

%

 

 

 

 

 

 

 

Average receive rate

 

5.51

%

5.00

%

%

 

 

 

 

 

 

 

 

Based on our year-end 2012 variable rate debt levels, a 10 percent change in interest rates would be immaterial.  See Note 6 to the Consolidated Financial Statements for further discussion of derivatives and hedging policies.

 

Commodity Price Protection

 

We enter into purchase commitments for various resources, including raw materials utilized in our manufacturing facilities and energy to be used in our stores, warehouses, manufacturing facilities and administrative offices. We enter into commitments expecting to take delivery of and to utilize those resources in the conduct of normal business. Those commitments for which we expect to utilize or take delivery in a reasonable amount of time in the normal course of business qualify as normal purchases.

 

36



 

ITEM 8.                         FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.

 

Report of Independent Registered Public Accounting Firm

 

To the Shareowners and Board of Directors of

The Kroger Co.

 

In our opinion, the accompanying consolidated balance sheets and the related consolidated statements of operations, comprehensive income, cash flows and changes in shareowners’ equity present fairly, in all material respects, the financial position of The Kroger Co. and its subsidiaries at February 2, 2013 and January 28, 2012, and the results of their operations and their cash flows for each of the three years in the period ended February 2, 2013 in conformity with accounting principles generally accepted in the United States of America.  Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of February 2, 2013, based on criteria established in Internal Control - Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).  The Company’s management is responsible for these financial statements, for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in Management’s Report on Internal Control over Financial Reporting appearing under Item 9A.  Our responsibility is to express opinions on these financial statements and on the Company’s internal control over financial reporting based on our integrated audits.  We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States).  Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects.  Our audits of the financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation.  Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk.  Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

 

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles.  A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

 

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.  Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

 

/s/ PricewaterhouseCoopers LLP

 

Cincinnati, Ohio

 

April 2, 2013

 

 

37



 

THE KROGER CO.

 CONSOLIDATED BALANCE SHEETS

 

 

 

February 2,

 

January 28,

 

(In millions, except par values) 

 

2013

 

2012

 

ASSETS 

 

 

 

 

 

Current assets 

 

 

 

 

 

Cash and temporary cash investments 

 

$

238

 

$

188

 

Deposits in-transit 

 

955

 

786

 

Receivables 

 

1,051

 

949

 

FIFO inventory 

 

6,244

 

6,157

 

LIFO reserve 

 

(1,098

)

(1,043

)

Prepaid and other current assets 

 

569

 

288

 

Total current assets 

 

7,959

 

7,325

 

 

 

 

 

 

 

Property, plant and equipment, net 

 

14,875

 

14,464

 

Goodwill 

 

1,234

 

1,138

 

Other assets 

 

584

 

549

 

 

 

 

 

 

 

Total Assets 

 

$

24,652

 

$

23,476

 

 

 

 

 

 

 

LIABILITIES 

 

 

 

 

 

Current liabilities 

 

 

 

 

 

Current portion of long-term debt including obligations under capital leases and financing obligations

 

$

2,734

 

$

1,315

 

Trade accounts payable 

 

4,524

 

4,329

 

Accrued salaries and wages 

 

977

 

1,056

 

Deferred income taxes 

 

284

 

190

 

Other current liabilities 

 

2,538

 

2,215

 

Total current liabilities 

 

11,057

 

9,105

 

 

 

 

 

 

 

Long-term debt including obligations under capital leases and financing obligations 

 

 

 

 

 

Face-value of long-term debt including obligations under capital leases and financing obligations 

 

6,141

 

6,826

 

Adjustment related to fair-value of interest rate hedges 

 

4

 

24

 

Long-term debt including obligations under capital leases and financing obligations 

 

6,145

 

6,850

 

 

 

 

 

 

 

Deferred income taxes 

 

800

 

647

 

Pension and postretirement benefit obligations

 

1,291

 

1,393

 

Other long-term liabilities 

 

1,145

 

1,515

 

 

 

 

 

 

 

Total Liabilities 

 

20,438

 

19,510

 

 

 

 

 

 

 

Commitments and contingencies (see Note 11)

 

 

 

 

 

 

 

 

 

 

 

SHAREOWNERS’ EQUITY 

 

 

 

 

 

 

 

 

 

 

 

Preferred shares, $100 par per share, 5 shares authorized and unissued 

 

¾

 

¾

 

Common shares, $1 par per share, 1,000 shares authorized; 959 shares issued in 2012 and 2011

 

959

 

959

 

Additional paid-in capital 

 

3,451

 

3,427

 

Accumulated other comprehensive loss 

 

(753

)

(844

)

Accumulated earnings 

 

9,787

 

8,571

 

Common stock in treasury, at cost, 445 shares in 2012 and 398 shares in 2011 

 

(9,237

)

(8,132

)

 

 

 

 

 

 

Total Shareowners’ Equity - The Kroger Co.

 

4,207

 

3,981

 

Noncontrolling interests 

 

7

 

(15

)

 

 

 

 

 

 

Total Equity 

 

4,214

 

3,966

 

 

 

 

 

 

 

Total Liabilities and Equity 

 

$

24,652

 

$

23,476

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

38



 

THE KROGER CO.

 CONSOLIDATED STATEMENTS OF OPERATIONS

 

Years Ended February 2, 2013, January 28, 2012 and January 29, 2011

 

(In millions, except per share amounts)

 

2012
(53 weeks)

 

2011
(52 weeks)

 

2010
(52 weeks)

 

Sales

 

$

96,751

 

$

90,374

 

$

82,049

 

Merchandise costs, including advertising, warehousing, and transportation, excluding items shown separately below

 

76,858

 

71,494

 

63,803

 

Operating, general and administrative

 

14,849

 

15,345

 

13,823

 

Rent

 

628

 

619

 

623

 

Depreciation and amortization

 

1,652

 

1,638

 

1,600

 

Goodwill impairment charge

 

¾

 

¾

 

18

 

 

 

 

 

 

 

 

 

Operating Profit

 

2,764

 

1,278

 

2,182

 

Interest expense

 

462

 

435

 

448

 

 

 

 

 

 

 

 

 

Earnings before income tax expense

 

2,302

 

843

 

1,734

 

Income tax expense

 

794

 

247

 

601

 

 

 

 

 

 

 

 

 

Net earnings including noncontrolling interests

 

1,508

 

596

 

1,133

 

Net earnings (loss) attributable to noncontrolling interests

 

11

 

(6

)

17

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co.

 

$

1,497

 

$

602

 

$

1,116

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co. per basic common share

 

$

2.78

 

$

1.01

 

$

1.75

 

 

 

 

 

 

 

 

 

Average number of common shares used in basic calculation

 

533

 

590

 

635

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co. per diluted common share

 

$

2.77

 

$

1.01

 

$

1.74

 

 

 

 

 

 

 

 

 

Average number of common shares used in diluted calculation

 

537

 

593

 

638

 

 

 

 

 

 

 

 

 

Dividends declared per common share

 

$

0.53

 

$

0.44

 

$

0.40

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

39



 

THE KROGER CO.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

 

Years Ended February 2, 2013, January 28, 2012 and January 29, 2011

 

(In millions)

 

2012
(53 weeks)

 

2011
(52 weeks)

 

2010
(52 weeks)

 

Net earnings including noncontrolling interests

 

$

1,508

 

$

596

 

$

1,133

 

 

 

 

 

 

 

 

 

Other comprehensive income

 

 

 

 

 

 

 

Unrealized gain on available for sale securities, net of income tax(1)  

 

¾

 

2

 

5

 

Change in pension and other postretirement defined benefit plans, net of income tax(2)

 

75

 

(271

)

36

 

Unrealized gain (loss) on cash flow hedging activities, net of income tax(3)

 

13

 

(26

)

¾

 

Amortization of unrealized gains and losses on cash flow hedging activities, net of income tax(4)

 

3

 

1

 

2

 

 

 

 

 

 

 

 

 

Total other comprehensive income (loss)

 

91

 

(294

)

43

 

 

 

 

 

 

 

 

 

Comprehensive income

 

1,599

 

302

 

1,176

 

Comprehensive income (loss) attributable to noncontrolling interests

 

11

 

(6

)

17

 

Comprehensive income attributable to The Kroger Co.

 

$

1,588

 

$

308

 

$

1,159

 

 


(1)   Amount is net of tax of $1 in 2011 and $4 in 2010.

(2)   Amount is net of tax of $45 in 2012, $(154) in 2011 and $21 in 2010.

(3)   Amount is net of tax of $7 in 2012 and $(15) in 2011.

(4)   Amount is net of tax of $2 in 2012 and $1 in both 2011 and 2010.

 

The accompanying notes are an integral part of the consolidated financial statements.

 

40



 

THE KROGER CO.

 CONSOLIDATED STATEMENTS OF CASH FLOWS

 

Years Ended February 2, 2013, January 28, 2012 and January 29, 2011

 

(In millions)

 

2012
(53 weeks)

 

2011
(52 weeks)

 

2010
(52 weeks)

 

Cash Flows From Operating Activities:

 

 

 

 

 

 

 

Net earnings including noncontrolling interests

 

$

1,508

 

$

596

 

$

1,133

 

Adjustments to reconcile net earnings to net cash provided by operating activities:

 

 

 

 

 

 

 

Depreciation and amortization

 

1,652

 

1,638

 

1,600

 

Goodwill impairment charge

 

¾

 

¾

 

18

 

Asset impairment charge

 

18

 

37

 

25

 

LIFO charge

 

55

 

216

 

57

 

Stock-based employee compensation

 

82

 

81

 

79

 

Expense for Company-sponsored pension plans

 

89

 

70

 

65

 

Deferred income taxes

 

176

 

31

 

37

 

Other

 

17

 

8

 

8

 

Changes in operating assets and liabilities net of effects from acquisitions of businesses:

 

 

 

 

 

 

 

Store deposits in-transit

 

(169

)

(120

)

(12

)

Inventories

 

(78

)

(361

)

(88

)

Receivables

 

(126

)

(63

)

(11

)

Prepaid expenses

 

(257

)

52

 

290

 

Trade accounts payable

 

58

 

82

 

315

 

Accrued expenses

 

76

 

216

 

71

 

Income taxes receivable and payable

 

164

 

(106

)

133

 

Contribution to Company-sponsored pension plans

 

(71

)

(52

)

(141

)

Other

 

(361

)

333

 

(213

)

 

 

 

 

 

 

 

 

Net cash provided by operating activities

 

2,833

 

2,658

 

3,366

 

 

 

 

 

 

 

 

 

Cash Flows From Investing Activities:

 

 

 

 

 

 

 

Payments for capital investments

 

(2,062

)

(1,898

)

(1,919

)

Proceeds from sale of assets

 

49

 

51

 

55

 

Payments for acquisitions

 

(122

)

(51

)

(7

)

Other

 

(48

)

(10

)

(90

)

 

 

 

 

 

 

 

 

Net cash used by investing activities

 

(2,183

)

(1,908

)

(1,961

)

 

 

 

 

 

 

 

 

Cash Flows From Financing Activities:

 

 

 

 

 

 

 

Proceeds from issuance of long-term debt

 

863

 

453

 

381

 

Payments on long-term debt

 

(1,445

)

(547

)

(553

)

Net borrowings of commercial paper

 

1,275

 

370

 

¾

 

Proceeds from issuance of capital stock

 

110

 

118

 

29

 

Treasury stock purchases

 

(1,261

)

(1,547

)

(545

)

Dividends paid

 

(267

)

(257

)

(250

)

Investment in the remaining interest of a variable interest entity

 

¾

 

¾

 

(86

)

Other

 

125

 

23

 

20

 

 

 

 

 

 

 

 

 

Net cash used by financing activities

 

(600

)

(1,387

)

(1,004

)

 

 

 

 

 

 

 

 

Net increase (decrease) in cash and temporary cash investments

 

50

 

(637

)

401

 

 

 

 

 

 

 

 

 

Cash and temporary cash investments:

 

 

 

 

 

 

 

Beginning of year

 

188

 

825

 

424

 

End of year

 

$

238

 

$

188

 

$

825

 

 

 

 

 

 

 

 

 

Reconciliation of capital investments:

 

 

 

 

 

 

 

Payments for capital investments

 

$

(2,062

)

$

(1,898

)

$

(1,919

)

Changes in construction-in-progress payables

 

(1

)

(60

)

22

 

Total capital investments

 

$

(2,063

)

$

(1,958

)

$

(1,897

)

 

 

 

 

 

 

 

 

Disclosure of cash flow information:

 

 

 

 

 

 

 

Cash paid during the year for interest

 

$

438

 

$

457

 

$

486

 

Cash paid during the year for income taxes

 

$

468

 

$

296

 

$

664

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

41



 

THE KROGER CO.

 CONSOLIDATED STATEMENT OF CHANGES IN SHAREOWNERS’ EQUITY

 

Years Ended February 2, 2013, January 28, 2012 and January 29, 2011

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

Additional

 

 

 

 

 

Other

 

 

 

 

 

 

 

 

 

Common Stock

 

Paid-In

 

Treasury Stock

 

Comprehensive

 

Accumulated

 

Noncontrolling

 

 

 

(In millions, except per share amounts)

 

Shares

 

Amount

 

Capital

 

Shares

 

Amount

 

Gain (Loss)

 

Earnings

 

Interest

 

Total

 

Balances at January 30, 2010

 

958

 

$

958

 

$

3,361

 

316

 

$

(6,238

)

$

(593

)

$

7,364

 

$

74

 

$

4,926

 

Issuance of common stock:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options exercised

 

1

 

1

 

9

 

(2

)

19

 

 

 

 

29

 

Restricted stock issued

 

 

 

(54

)

(1

)

37

 

 

 

 

(17

)

Treasury stock activity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Treasury stock purchases, at cost

 

 

 

 

24

 

(505

)

 

 

 

(505

)

Stock options exchanged

 

 

 

 

2

 

(40

)

 

 

 

(40

)

Investment in the remaining interest of a variable interest entity net of income tax of $(14)

 

 

 

(8

)

 

 

 

 

(67

)

(75

)

Share-based employee compensation

 

 

 

79

 

 

 

 

 

 

79

 

Other comprehensive gain net of income tax of $26

 

 

 

 

 

 

43

 

 

 

43

 

Other

 

 

 

7

 

 

(5

)

 

¾

 

(22

)

(20

)

Cash dividends declared ($0.40 per common share)

 

 

 

 

 

 

 

(255

)

 

(255

)

Net earnings including non-controlling interests

 

 

 

 

 

 

 

1,116

 

17

 

1,133

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances at January 29, 2011

 

959

 

$

959

 

$

3,394

 

339

 

$

(6,732

)

$

(550

)

$

8,225

 

$

2

 

$

5,298

 

Issuance of common stock:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options exercised

 

¾

 

¾

 

¾

 

(6

)

118

 

 

 

 

118

 

Restricted stock issued

 

 

 

(55

)

(2

)

34

 

 

 

 

(21

)

Treasury stock activity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Treasury stock purchases, at cost

 

 

 

 

61

 

(1,420

)

 

 

 

(1,420

)

Stock options exchanged

 

 

 

 

6

 

(127

)

 

 

 

(127

)

Share-based employee compensation

 

¾

 

¾

 

81

 

¾

 

¾

 

¾

 

¾

 

¾

 

81

 

Other comprehensive loss net of income tax of $(167)

 

 

 

¾

 

 

 

(294

)

 

 

(294

)

Other

 

 

 

7

 

 

(5

)

¾

 

 

(11

)

(9

)

Cash dividends declared ($0.44 per common share)

 

 

 

¾

 

 

¾

 

 

(256

)

¾

 

(256

)

Net earnings (loss) including non-controlling interests

 

 

 

 

 

 

 

602

 

(6

)

596

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances at January 28, 2012

 

959

 

$

959

 

$

3,427

 

398

 

$

(8,132

)

$

(844

)

$

8,571

 

$

(15

)

$

3,966

 

Issuance of common stock:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Stock options exercised

 

 

 

 

(7

)

110

 

 

 

 

110

 

Restricted stock issued

 

 

 

(59

)

(2

)

40

 

 

 

 

(19

)

Treasury stock activity:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Treasury stock purchases, at cost

 

 

 

 

51

 

(1,165

)

 

 

 

(1,165

)

Stock options exchanged

 

 

 

 

5

 

(96

)

 

 

 

(96

)

Share-based employee compensation

 

 

 

82

 

 

 

 

 

 

82

 

Other comprehensive gain net of income tax of $54

 

 

 

 

 

 

91

 

 

 

91

 

Other

 

 

 

1

 

 

6

 

 

 

11

 

18

 

Cash dividends declared ($0.53 per common share)

 

 

 

 

 

 

 

(281

)

 

(281

)

Net earnings including non-controlling interests

 

 

 

 

 

 

 

1,497

 

11

 

1,508

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances at February 2, 2013

 

959

 

$

959

 

$

3,451

 

445

 

$

(9,237

)

$

(753

)

$

9,787

 

$

7

 

$

4,214

 

 

The accompanying notes are an integral part of the consolidated financial statements.

 

42



 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

 

All dollar amounts are in millions except share and per share amounts.

Certain prior-year amounts have been reclassified to conform to current year presentation.

 

1.              ACCOUNTING POLICIES

 

The following is a summary of the significant accounting policies followed in preparing these financial statements.

 

Description of Business, Basis of Presentation and Principles of Consolidation

 

The Kroger Co. (the “Company”) was founded in 1883 and incorporated in 1902.  As of February 2, 2013, the Company was one of the largest retailers in the United States based on annual sales.  The Company also manufactures and processes food for sale by its supermarkets.  The accompanying financial statements include the consolidated accounts of the Company, its wholly-owned subsidiaries and the Variable Interest Entities (“VIEs”) in which the Company is the primary beneficiary.  Significant intercompany transactions and balances have been eliminated.

 

Fiscal Year

 

The Company’s fiscal year ends on the Saturday nearest January 31.  The last three fiscal years consist of the 53-week period ended February 2, 2013 and the 52-week periods ended January 28, 2012 and January 29, 2011.

 

Pervasiveness of Estimates

 

The preparation of financial statements in conformity with generally accepted accounting principles (“GAAP”) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities.  Disclosure of contingent assets and liabilities as of the date of the consolidated financial statements and the reported amounts of consolidated revenues and expenses during the reporting period also is required.  Actual results could differ from those estimates.

 

Inventories

 

Inventories are stated at the lower of cost (principally on a last-in, first-out “LIFO” basis) or market.  In total, approximately 96% and 97% of inventories for 2012 and 2011, respectively, were valued using the LIFO method.  Cost for the balance of the inventories, including substantially all fuel inventories, was determined using the first-in, first-out (“FIFO”) method.  Replacement cost was higher than the carrying amount by $1,098 at February 2, 2013 and $1,043 at January 28, 2012.  The Company follows the Link-Chain, Dollar-Value LIFO method for purposes of calculating its LIFO charge or credit.

 

The item-cost method of accounting to determine inventory cost before the LIFO adjustment is followed for substantially all store inventories at the Company’s supermarket divisions.  This method involves counting each item in inventory, assigning costs to each of these items based on the actual purchase costs (net of vendor allowances and cash discounts) of each item and recording the cost of items sold. The item-cost method of accounting allows for more accurate reporting of periodic inventory balances and enables management to more precisely manage inventory when compared to the retail method of accounting.  In addition, substantially all of the Company’s inventory consists of finished goods and is recorded at actual purchase costs (net of vendor allowances and cash discounts).

 

The Company evaluates inventory shortages throughout the year based on actual physical counts in its facilities.  Allowances for inventory shortages are recorded based on the results of these counts to provide for estimated shortages as of the financial statement date.

 

43



 

Property, Plant and Equipment

 

Property, plant and equipment are recorded at cost.  Depreciation expense, which includes the amortization of assets recorded under capital leases, is computed principally using the straight-line method over the estimated useful lives of individual assets.  Buildings and land improvements are depreciated based on lives varying from 10 to 40 years.  All new purchases of store equipment are assigned lives varying from three to nine years.  Leasehold improvements are amortized over the shorter of the lease term to which they relate, which varies from four to 25 years, or the useful life of the asset.  Manufacturing plant and distribution center equipment is depreciated over lives varying from three to 15 years.  Information technology assets are generally depreciated over five years.  Depreciation and amortization expense was $1,652 in 2012, $1,638 in 2011 and $1,600 in 2010.

 

Interest costs on significant projects constructed for the Company’s own use are capitalized as part of the costs of the newly constructed facilities.  Upon retirement or disposal of assets, the cost and related accumulated depreciation are removed from the balance sheet and any gain or loss is reflected in net earnings.

 

Deferred Rent

 

The Company recognizes rent holidays, including the time period during which the Company has access to the property for construction of buildings or improvements and escalating rent provisions on a straight-line basis over the term of the lease.  The deferred amount is included in Other Current Liabilities and Other Long-Term Liabilities on the Company’s Consolidated Balance Sheets.

 

Goodwill

 

The Company reviews goodwill for impairment during the fourth quarter of each year, and also upon the occurrence of trigger events.  The reviews are performed at the operating division level.  Generally, fair value is determined using a multiple of earnings, or discounted projected future cash flows, and is compared to the carrying value of a division for purposes of identifying potential impairment.  Projected future cash flows are based on management’s knowledge of the current operating environment and expectations for the future.  If potential for impairment is identified, the fair value of a division is measured against the fair value of its underlying assets and liabilities, excluding goodwill, to estimate an implied fair value of the division’s goodwill.  Goodwill impairment is recognized for any excess of the carrying value of the division’s goodwill over the implied fair value.  Results of the goodwill impairment reviews performed during 2012, 2011 and 2010 are summarized in Note 2 to the Consolidated Financial Statements.

 

Impairment of Long-Lived Assets

 

The Company monitors the carrying value of long-lived assets for potential impairment each quarter based on whether certain trigger events have occurred.  These events include current period losses combined with a history of losses or a projection of continuing losses or a significant decrease in the market value of an asset.  When a trigger event occurs, an impairment calculation is performed, comparing projected undiscounted future cash flows, utilizing current cash flow information and expected growth rates related to specific stores, to the carrying value for those stores.  If the Company identifies impairment for long-lived assets to be held and used, the Company compares the assets’ current carrying value to the assets’ fair value.  Fair value is based on current market values or discounted future cash flows.  The Company records impairment when the carrying value exceeds fair market value.  With respect to owned property and equipment held for sale, the value of the property and equipment is adjusted to reflect recoverable values based on previous efforts to dispose of similar assets and current economic conditions.  Impairment is recognized for the excess of the carrying value over the estimated fair market value, reduced by estimated direct costs of disposal.  The Company recorded asset impairments in the normal course of business totaling $18, $37 and $25 in 2012, 2011 and 2010, respectively.  Costs to reduce the carrying value of long-lived assets for each of the years presented have been included in the Consolidated Statements of Operations as “Operating, general and administrative” expense.

 

44



 

Store Closing Costs

 

The Company provides for closed store liabilities relating to the present value of the estimated remaining non-cancellable lease payments after the closing date, net of estimated subtenant income.  The Company estimates the net lease liabilities using a discount rate to calculate the present value of the remaining net rent payments on closed stores.  The closed store lease liabilities usually are paid over the lease terms associated with the closed stores, which generally have remaining terms ranging from one to 20 years.  Adjustments to closed store liabilities primarily relate to changes in subtenant income and actual exit costs differing from original estimates.  Adjustments are made for changes in estimates in the period in which the change becomes known.  Store closing liabilities are reviewed quarterly to ensure that any accrued amount that is not a sufficient estimate of future costs, or that no longer is needed for its originally intended purpose, is adjusted to income in the proper period.

 

Owned stores held for disposal are reduced to their estimated net realizable value.  Costs to reduce the carrying values of property, equipment and leasehold improvements are accounted for in accordance with the Company’s policy on impairment of long-lived assets.  Inventory write-downs, if any, in connection with store closings, are classified in “Merchandise costs.”  Costs to transfer inventory and equipment from closed stores are expensed as incurred.

 

The following table summarizes accrual activity for future lease obligations of stores that were closed in the normal course of business:

 

 

 

Future Lease
 Obligations

 

Balance at January 29, 2011

 

$

52

 

Additions

 

9

 

Payments

 

(11

)

Other

 

5

 

 

 

 

 

Balance at January 28, 2012

 

55

 

Additions

 

6

 

Payments

 

(10

)

Other

 

(7

)

 

 

 

 

Balance at February 2, 2013

 

$

44

 

 

Interest Rate Risk Management

 

The Company uses derivative instruments primarily to manage its exposure to changes in interest rates.  The Company’s current program relative to interest rate protection and the methods by which the Company accounts for its derivative instruments are described in Note 6.

 

Commodity Price Protection

 

The Company enters into purchase commitments for various resources, including raw materials utilized in its manufacturing facilities and energy to be used in its stores, manufacturing facilities and administrative offices.  The Company enters into commitments expecting to take delivery of and to utilize those resources in the conduct of the normal course of business.  The Company’s current program relative to commodity price protection and the methods by which the Company accounts for its purchase commitments are described in Note 6.

 

Benefit Plans and Multi-Employer Pension Plans

 

The Company recognizes the funded status of its retirement plans on the Consolidated Balance Sheet.  Actuarial gains or losses, prior service costs or credits and transition obligations that have not yet been recognized as part of net periodic benefit cost are required to be recorded as a component of Accumulated Other Comprehensive Income (“AOCI”).  All plans are measured as of the Company’s fiscal year end.

 

45



 

The determination of the obligation and expense for Company-sponsored pension plans and other post-retirement benefits is dependent on the selection of assumptions used by actuaries and the Company in calculating those amounts.  Those assumptions are described in Note 13 and include, among others, the discount rate, the expected long-term rate of return on plan assets and the rates of increase in compensation and health care costs.  Actual results that differ from the assumptions are accumulated and amortized over future periods and, therefore, generally affect the recognized expense and recorded obligation in future periods.  While the Company believes that the assumptions are appropriate, significant differences in actual experience or significant changes in assumptions may materially affect the pension and other post-retirement obligations and future expense.

 

The Company also participates in various multi-employer plans for substantially all union employees.  Pension expense for these plans is recognized as contributions are funded.  Refer to Note 14 for additional information regarding the Company’s participation in these various multi-employer plans and the United Food and Commercial Workers International Union (“UFCW”) consolidated fund.

 

The Company administers and makes contributions to the employee 401(k) retirement savings accounts.  Contributions to the employee 401(k) retirement savings accounts are expensed when contributed.  Refer to Note 13 for additional information regarding the Company’s benefit plans.

 

Stock Based Compensation

 

The Company accounts for stock options under fair value recognition provisionsUnder this method, the Company recognizes compensation expense for all share-based payments granted.  The Company recognizes share-based compensation expense, net of an estimated forfeiture rate, over the requisite service period of the award.  In addition, the Company records expense for restricted stock awards in an amount equal to the fair market value of the underlying stock on the grant date of the award, over the period the awards lapse.

 

Deferred Income Taxes

 

Deferred income taxes are recorded to reflect the tax consequences of differences between the tax basis of assets and liabilities and their financial reporting basis.  Refer to Note 4 for the types of differences that give rise to significant portions of deferred income tax assets and liabilities.  Deferred income taxes are classified as a net current or noncurrent asset or liability based on the classification of the related asset or liability for financial reporting purposes.  A deferred tax asset or liability that is not related to an asset or liability for financial reporting is classified according to the expected reversal date.

 

Uncertain Tax Positions

 

The Company reviews the tax positions taken or expected to be taken on tax returns to determine whether and to what extent a benefit can be recognized in its consolidated financial statements.  Refer to Note 4 for the amount of unrecognized tax benefits and other related disclosures related to uncertain tax positions.

 

Various taxing authorities periodically audit the Company’s income tax returns.  These audits include questions regarding the Company’s tax filing positions, including the timing and amount of deductions and the allocation of income to various tax jurisdictions.  In evaluating the exposures connected with these various tax filing positions, including state and local taxes, the Company records allowances for probable exposures.  A number of years may elapse before a particular matter, for which an allowance has been established, is audited and fully resolved.  As of February 2, 2013, the Internal Revenue Service had concluded its field examination of the Company’s 2008 and 2009 federal tax returns.  The Company has filed an administrative appeal within the Internal Revenue Service protesting certain adjustments proposed by the Internal Revenue Service as a result of their field work.

 

The assessment of the Company’s tax position relies on the judgment of management to estimate the exposures associated with the Company’s various filing positions.

 

Self-Insurance Costs

 

The Company is primarily self-insured for costs related to workers’ compensation and general liability claims.  Liabilities are actuarially determined and are recognized based on claims filed and an estimate of claims incurred but not reported.  The liabilities for workers’ compensation claims are accounted for on a present value basis.  The Company has purchased stop-loss coverage to limit its exposure to any significant exposure on a per claim basis.  The Company is insured for covered costs in excess of these per claim limits.

 

46



 

The following table summarizes the changes in the Company’s self-insurance liability through February 2, 2013.

 

 

 

2012

 

2011

 

2010

 

Beginning balance

 

$

529

 

$

514

 

$

485

 

Expense

 

215

 

215

 

210

 

Claim payments

 

(207

)

(200

)

(181

)

Ending balance

 

537

 

529

 

514

 

Less: Current portion

 

(205

)

(197

)

(181

)

Long-term portion

 

$

332

 

$

332

 

$

333

 

 

The current portion of the self-insured liability is included in “Other current liabilities,” and the long-term portion is included in “Other long-term liabilities” in the Consolidated Balance Sheets.

 

The Company is also similarly self-insured for property-related losses.  The Company maintains stop loss coverage to limit its property loss exposures including coverage for earthquake, wind, flood and other catastrophic events.

 

Revenue Recognition

 

Revenues from the sale of products are recognized at the point of sale.  Discounts provided to customers by the Company at the time of sale, including those provided in connection with loyalty cards, are recognized as a reduction in sales as the products are sold.  Discounts provided by vendors, usually in the form of paper coupons, are not recognized as a reduction in sales provided the coupons are redeemable at any retailer that accepts coupons.  The Company records a receivable from the vendor for the difference in sales price and cash received.  Pharmacy sales are recorded when provided to the customer.  Sales taxes are recorded as other accrued liabilities and not as a component of sales.  The Company does not recognize a sale when it sells its own gift cards and gift certificates.  Rather, it records a deferred liability equal to the amount received.  A sale is then recognized when the gift card or gift certificate is redeemed to purchase the Company’s products.  Gift card and certificate breakage is recognized when redemption is deemed remote and there is no legal obligation to remit the value of the unredeemed gift card.  The amount of breakage has not been material for 2012, 2011 and 2010.

 

Merchandise Costs

 

The “Merchandise costs” line item of the Consolidated Statements of Operations includes product costs, net of discounts and allowances; advertising costs (see separate discussion below); inbound freight charges; warehousing costs, including receiving and inspection costs; transportation costs; and manufacturing production and operational costs.  Warehousing, transportation and manufacturing management salaries are also included in the “Merchandise costs” line item; however, purchasing management salaries and administration costs are included in the “Operating, general, and administrative” line item along with most of the Company’s other managerial and administrative costs.  Rent expense and depreciation expense are shown separately in the Consolidated Statements of Operations.

 

Warehousing and transportation costs include distribution center direct wages, repairs and maintenance, utilities, inbound freight and, where applicable, third party warehouse management fees, as well as transportation direct wages and repairs and maintenance.  These costs are recognized in the periods the related expenses are incurred.

 

The Company believes the classification of costs included in merchandise costs could vary widely throughout the industry.  The Company’s approach is to include in the “Merchandise costs” line item the direct, net costs of acquiring products and making them available to customers in its stores.  The Company believes this approach most accurately presents the actual costs of products sold.

 

The Company recognizes all vendor allowances as a reduction in merchandise costs when the related product is sold.  When possible, vendor allowances are applied to the related product cost by item and, therefore, reduce the carrying value of inventory by item.  When the items are sold, the vendor allowance is recognized.  When it is not possible, due to systems constraints, to allocate vendor allowances to the product by item, vendor allowances are recognized as a reduction in merchandise costs based on inventory turns and, therefore, recognized as the product is sold.

 

47



 

Advertising Costs

 

The Company’s advertising costs are recognized in the periods the related expenses are incurred and are included in the “Merchandise costs” line item of the Consolidated Statements of Operations.  The Company’s pre-tax advertising costs totaled $553 in 2012, $532 in 2011 and $533 in 2010.  The Company does not record vendor allowances for co-operative advertising as a reduction of advertising expense.

 

Deposits In-Transit

 

Deposits in-transit generally represent funds deposited to the Company’s bank accounts at the end of the year related to sales, a majority of which were paid for with credit cards and checks, to which the Company does not have immediate access but that settle within a few days of the sales transaction.

 

Consolidated Statements of Cash Flows

 

For purposes of the Consolidated Statements of Cash Flows, the Company considers all highly liquid debt instruments purchased with an original maturity of three months or less to be temporary cash investments.  Book overdrafts, which are included in accounts payable, represent disbursements that are funded as the item is presented for payment.  Book overdrafts totaled $839, $718 and $699 as of February 2, 2013, January 28, 2012 and January 29, 2011, respectively, and are reflected as a financing activity in the Consolidated Statements of Cash Flows.

 

Accumulated Other Comprehensive (Loss) Income

 

Accumulated other comprehensive (loss) income, net of applicable taxes, consisted of the following at year-end:

 

 

 

2012

 

2011

 

2010

 

Unrealized gain on available for sale securities  

 

$

7

 

$

7

 

$

5

 

Pension and other postretirement defined benefit plans

 

(746

)

(821

)

(550

)

Unrealized gain (loss) on cash flow hedging activities

 

(14

)

(30

)

(5

)

 

 

 

 

 

 

 

 

Total

 

$

(753

)

$

(844

)

$

(550

)

 

Segments

 

The Company operates retail food and drug stores, multi-department stores, jewelry stores, and convenience stores throughout the United States.  The Company’s retail operations, which represent over 99% of the Company’s consolidated sales and EBITDA, are its only reportable segment.  The Company’s retail operating divisions have been aggregated into one reportable segment due to the operating divisions having similar economic characteristics with similar long-term financial performance.  In addition, the Company’s operating divisions offer to its customers similar products, have similar distribution methods, operate in similar regulatory environments, purchase the majority of the Company’s merchandise for retail sale from similar (and in many cases identical) vendors on a coordinated basis from a centralized location, serve similar types of customers, and are allocated capital from a centralized location.  The Company’s operating divisions reflect the manner in which the business is managed and how the Company’s Chief Executive Officer and Chief Operating Officer, who act as the Company’s chief operating decision makers, assess performance internally.  All of the Company’s operations are domestic.

 

48



 

The following table presents sales revenue by type of product for 2012, 2011 and 2010.

 

 

 

2012

 

2011

 

2010

 

 

 

Amount

 

% of total

 

Amount

 

% of total

 

Amount

 

% of total

 

Non Perishable (1)

 

$

48,663

 

50.3

%

$

46,494

 

51.4

%

$

44,615

 

54.4

%

Perishable (2)

 

19,893

 

20.6

%

18,693

 

20.7

%

17,532

 

21.4

%

Fuel

 

18,896

 

19.5

%

16,901

 

18.7

%

12,081

 

14.7

%

Pharmacy

 

8,018

 

8.3

%

7,322

 

8.1

%

6,929

 

8.4

%

Other (3)

 

1,281

 

1.3

%

964

 

1.1

%

892

 

1.1

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Sales and other revenue

 

$

96,751

 

100.0

%

$

90,374

 

100.0

%

$

82,049

 

100.0

%

 


(1) Consists primarily of grocery, general merchandise, health and beauty care and natural foods.

(2) Consists primarily of produce, floral, meat, seafood, deli and bakery.

(3) Consists primarily of jewelry store sales, outside manufacturing sales and sales from entities not controlled by the Company.

 

2.              GOODWILL

 

The following table summarizes the changes in the Company’s net goodwill balance through February 2, 2013.

 

 

 

2012

 

2011

 

Balance beginning of year

 

 

 

 

 

Goodwill

 

$

3,670

 

$

3,672

 

Accumulated impairment losses

 

(2,532

)

(2,532

)

 

 

1,138

 

1,140

 

 

 

 

 

 

 

Activity during the year

 

 

 

 

 

Acquisitions

 

96

 

¾

 

Disposition

 

¾

 

(2

)

 

 

 

 

 

 

Balance end of year

 

 

 

 

 

Goodwill

 

3,766

 

3,670

 

Accumulated impairment losses

 

(2,532

)

(2,532

)

 

 

$

1,234

 

$

1,138

 

 

In 2012, the Company acquired an interest in one of its suppliers and all the outstanding shares of Axium Pharmacy, a leading specialty pharmacy that provides specialized drug therapies and support services for patients with complex medical conditions, resulting in combined additional goodwill of $96.

 

Testing for impairment must be performed annually, or on an interim basis upon the occurrence of a triggering event or a change in circumstances that would more likely than not reduce the fair value of a reporting unit below its carrying amount.  The annual evaluation of goodwill performed during the fourth quarter of 2012 and 2011 did not result in impairment.

 

The annual evaluation of goodwill performed during the fourth quarter of 2010 resulted in an impairment charge of $18.  Based on the results of the Company’s step one analysis in the fourth quarter of 2010, a supermarket reporting unit with a small number of stores indicated potential impairment.  Due to estimated future expected cash flows being lower than in the past, the estimated fair value of the reporting unit decreased.  Management concluded that the carrying value of goodwill for this reporting unit exceeded its implied fair value, resulting in a pre-tax impairment charge of $18 ($12 after-tax).  In 2009, the Company disclosed that a 10% reduction in fair value of this supermarket reporting unit would indicate a potential for impairment.  Subsequent to the impairment, no goodwill remains at this reporting unit.

 

49



 

Based on current and future expected cash flows, the Company believes goodwill impairments are not reasonably possible.  A 10% reduction in fair value of the Company’s reporting units would not indicate a potential for impairment of the Company’s remaining goodwill balance.

 

3.              PROPERTY, PLANT AND EQUIPMENT, NET

 

Property, plant and equipment, net consists of:

 

 

 

2012

 

2011

 

Land

 

$

2,450

 

$

2,253

 

Buildings and land improvements

 

8,276

 

7,799

 

Equipment

 

10,267

 

10,110

 

Leasehold improvements

 

6,545

 

6,119

 

Construction-in-progress

 

1,239

 

1,202

 

Leased property under capital leases and financing obligations

 

593

 

588

 

 

 

 

 

 

 

Total property, plant and equipment

 

29,370

 

28,071

 

Accumulated depreciation and amortization

 

(14,495

)

(13,607

)

 

 

 

 

 

 

Property, plant and equipment, net

 

$

14,875

 

$

14,464

 

 

Accumulated depreciation for leased property under capital leases was $321 at February 2, 2013 and $327 at January 28, 2012.

 

Approximately $236 and $220, original cost, of Property, Plant and Equipment collateralized certain mortgages at February 2, 2013 and January 28, 2012, respectively.

 

4.             TAXES BASED ON INCOME

 

The provision for taxes based on income consists of:

 

 

 

2012

 

2011

 

2010

 

Federal

 

 

 

 

 

 

 

Current

 

$

563

 

$

146

 

$

697

 

Deferred

 

154

 

78

 

(136

)

 

 

 

 

 

 

 

 

 

 

717

 

224

 

561

 

State and local

 

 

 

 

 

 

 

Current

 

46

 

42

 

95

 

Deferred

 

31

 

(19

)

(55

)

 

 

 

 

 

 

 

 

 

 

77

 

23

 

40

 

 

 

 

 

 

 

 

 

Total

 

$

794

 

$

247

 

$

601

 

 

A reconciliation of the statutory federal rate and the effective rate follows:

 

 

 

2012

 

2011

 

2010

 

Statutory rate

 

35.0

%

35.0

%

35.0

%

State income taxes, net of federal tax benefit

 

2.2

%

1.8

%

1.5

%

Credits

 

(1.4

)%

(3.6

)%

(1.3

)%

Favorable resolution of issues

 

(0.5

)%

(3.4

)%

(.8

)%

Other changes, net

 

(0.8

)%

(0.5

)%

0.3

%

 

 

 

 

 

 

 

 

 

 

34.5

%

29.3

%

34.7

%

 

50



 

The 2011 effective tax rate was significantly lower than 2012 and 2010 due to the effect on pre-tax income of the UFCW consolidated pension plan charge of $953 ($591 after-tax) in 2011.  The effect of the UFCW consolidated pension plan charge reduced pre-tax income thereby increasing the effect of  credits and of the favorable resolution of tax issues on our 2011 effective tax rate.

 

The tax effects of significant temporary differences that comprise tax balances were as follows:

 

 

 

2012

 

2011

 

Current deferred tax assets:

 

 

 

 

 

Net operating loss and credit carryforwards

 

$

4

 

$

1

 

Compensation related costs

 

79

 

171

 

 

 

 

 

 

 

Total current deferred tax assets

 

83

 

172

 

 

 

 

 

 

 

Current deferred tax liabilities:

 

 

 

 

 

Insurance related costs

 

(116

)

(111

)

Inventory related costs

 

(234

)

(220

)

Other

 

(17

)

(31

)

 

 

 

 

 

 

Total current deferred tax liabilities

 

(367

)

(362

)

 

 

 

 

 

 

Current deferred taxes

 

$

(284

)

$

(190

)

 

 

 

 

 

 

Long-term deferred tax assets:

 

 

 

 

 

Compensation related costs

 

$

564

 

$

749

 

Lease accounting

 

87

 

93

 

Closed store reserves

 

56

 

66

 

Insurance related costs

 

77

 

76

 

Net operating loss and credit carryforwards

 

82

 

86

 

Other

 

2

 

23

 

 

 

 

 

 

 

Subtotal

 

868

 

1,093

 

Valuation allowance

 

(32

)

(42

)

 

 

 

 

 

 

Total long-term deferred tax assets

 

836

 

1,051

 

Long-term deferred tax liabilities:

 

 

 

 

 

Depreciation

 

(1,636

)

(1,698

)

 

 

 

 

 

 

Long-term deferred taxes

 

$

(800

)

$

(647

)

 

At February 2, 2013, the Company had net operating loss carryforwards for state income tax purposes of $1,275.  These net operating loss carryforwards expire from 2014 through 2032.  The utilization of certain of the Company’s net operating loss carryforwards may be limited in a given year.  Further, based on the analysis described below, the Company has recorded a valuation allowance against some of the deferred tax assets resulting from its net operating losses.

 

At February 2, 2013, the Company had state credit carryforwards of $24, some of which expire from 2013 through 2027.  The utilization of certain of the Company’s credits may be limited in a given year.

 

The Company regularly reviews all deferred tax assets on a tax filer and jurisdictional basis to estimate whether these assets are more likely than not to be realized based on all available evidence.  This evidence includes historical taxable income, projected future taxable income, the expected timing of the reversal of existing temporary differences and the implementation of tax planning strategies.  Projected future taxable income is based on expected results and assumptions as to the jurisdiction in which the income will be earned.  The expected timing of the reversals of existing temporary differences is based on current tax law and the Company’s tax methods of accounting.  Unless deferred tax assets are more likely than not to be realized, a valuation allowance is established to reduce the carrying value of the deferred tax asset until such time that realization becomes more likely than not.  Increases and decreases in these valuation allowances are included in “Income tax expense” in the Consolidated Statements of Operations.

 

51



 

A reconciliation of the beginning and ending amount of unrecognized tax benefits, including positions impacting only the timing of tax benefits, is as follows:

 

 

 

2012

 

2011

 

2010

 

Beginning balance

 

$

310

 

$

285

 

$

544

 

Additions based on tax positions related to the current year

 

45

 

24

 

38

 

Reductions based on tax positions related to the current year

 

(9

)

¾

 

(273

)

Additions for tax positions of prior years

 

1

 

24

 

13

 

Reductions for tax positions of prior years

 

(27

)

(11

)

(21

)

Settlements

 

(21

)

(12

)

(16

)

Ending balance

 

$

299

 

$

310

 

$

285

 

 

In prior periods, the above table included state net operating losses which the Company believed would expire unused.  These net operating losses are no longer included in the above table.  Instead, the tax benefit of these losses has been included in the deferred tax table shown above and a valuation allowance has been recorded against them as described above.

 

The Company does not anticipate that changes in the amount of unrecognized tax benefits over the next twelve months will have a significant impact on its results of operations or financial position.

 

As of February 2, 2013, January 28, 2012 and January 29, 2011, the amount of unrecognized tax benefits that, if recognized, would impact the effective tax rate was $70, $81 and $85 respectively.  The Company’s disclosure of these amounts for 2011 and 2010 has changed due to the Company reclassifying state operating losses as described above.

 

To the extent interest and penalties would be assessed by taxing authorities on any underpayment of income tax, such amounts have been accrued and classified as a component of income tax expense.  During the years ended February 2, 2013, January 28, 2012 and January 29, 2011, the Company recognized approximately $(8), $(24) and $(2), respectively, in interest and penalties (recoveries).  The Company had accrued approximately $33 and $54 for the payment of interest and penalties as of February 2, 2013 and January 28, 2012, respectively.

 

As of February 2, 2013, the Internal Revenue Service had concluded its field examination of the Company’s 2008 and 2009 federal tax returns and is currently auditing years 2010 and 2011.  The 2010 and 2011 audit is expected to be completed in 2014.  The Company has filed an administrative appeal within the Internal Revenue Service protesting certain adjustments proposed by the Internal Revenue Service as a result of their field work.

 

5.             DEBT OBLIGATIONS

 

Long-term debt consists of:

 

 

 

2012

 

2011

 

0.40% to 0.48% Commercial paper due through March 2013

 

$

1,645

 

$

370

 

2.20% to 8.00% Senior notes due through 2042

 

6,587

 

7,078

 

5.00% to 12.75% Mortgages due in varying amounts through 2034

 

60

 

65

 

Other

 

184

 

230

 

 

 

 

 

 

 

Total debt

 

8,476

 

7,743

 

Less current portion

 

(2,700

)

(1,275

)

 

 

 

 

 

 

Total long-term debt

 

$

5,776

 

$

6,468

 

 

In 2011, the Company issued $450 of senior notes bearing an interest rate of 2.20% due in fiscal year 2016.  The proceeds of this issuance of senior notes were used to fund a portion of the Company’s obligations under the UFCW consolidated multi-employer pension fund.  In 2011, the Company repaid $478 of senior notes bearing an interest rate of 6.80%.

 

In 2012, the Company issued $500 of senior notes due in fiscal year 2022 bearing an interest rate of 3.40% and $350 of senior notes due in fiscal year 2042 bearing an interest rate of 5.00%.  In 2012, the Company repaid upon their maturity $491 of senior notes bearing an interest rate of 6.75%, $346 of senior notes bearing an interest rate of 6.20% and $500 of senior notes bearing an interest rate of 5.50%.

 

52


 


 

On January 25, 2012, the Company amended and extended its $2,000 unsecured revolving credit facility.  The Company entered into the amended credit facility to amend and extend the Company’s existing credit facility which would have terminated on May 15, 2014.  The amended credit facility provides for a $2,000 unsecured revolving credit facility (the “Credit Agreement”), with a termination date of January 25, 2017, unless extended as permitted under the Credit Agreement.  The Company has the ability to increase the size of the Credit Agreement by up to an additional $500, subject to certain conditions.

 

Borrowings under the Credit Agreement bear interest at the Company’s option, at either (i) LIBOR plus a market rate spread, based on the Company’s Leverage Ratio or (ii) the base rate, defined as the highest of (a) the Bank of America prime rate, (b) the Federal Funds rate plus 0.5%, and (c) one-month LIBOR plus 1.0%, plus a market rate spread based on the Company’s Leverage Ratio.  The Company will also pay a Commitment Fee based on the Leverage Ratio and Letter of Credit fees equal to a market rate spread based on the Company’s Leverage Ratio.  The Credit Agreement contains covenants, which, among other things, require the maintenance of a Leverage Ratio of not greater than 3.50:1.00 and a Fixed Charge Coverage Ratio of not less than 1.70:1.00.  In the first quarter of 2012, the covenants were amended to exclude up to $1,000 in expense related to the Company’s commitment to fund the UFCW consolidated pension plan.  The Company may repay the Credit Agreement in whole or in part at any time without premium or penalty.  The Credit Agreement is not guaranteed by the Company’s subsidiaries.

 

In addition to the Credit Agreement, the Company maintained two uncommitted money market lines totaling $75 in the aggregate.  The money market lines allow the Company to borrow from banks at mutually agreed upon rates, usually at rates below the rates offered under the credit agreement.  As of February 2, 2013, the Company had $1,645 of borrowings of commercial paper and no borrowings under its Credit Agreement and money market lines.

 

As of February 2, 2013, the Company had outstanding letters of credit in the amount of $192, of which $13 reduce funds available under the Company’s Credit Agreement.  The letters of credit are maintained primarily to support performance, payment, deposit or surety obligations of the Company.

 

Most of the Company’s outstanding public debt is subject to early redemption at varying times and premiums, at the option of the Company.  In addition, subject to certain conditions, some of the Company’s publicly issued debt will be subject to redemption, in whole or in part, at the option of the holder upon the occurrence of a redemption event, upon not less than five days’ notice prior to the date of redemption, at a redemption price equal to the default amount, plus a specified premium.  “Redemption Event” is defined in the indentures as the occurrence of (i) any person or group, together with any affiliate thereof, beneficially owning 50% or more of the voting power of the Company, (ii) any one person or group, or affiliate thereof, succeeding in having a majority of its nominees elected to the Company’s Board of Directors, in each case, without the consent of a majority of the continuing directors of the Company or (iii) both a change of control and a below investment grade rating.

 

The aggregate annual maturities and scheduled payments of long-term debt, as of year-end 2012, and for the years subsequent to 2012 are:

 

2013

 

$

2,700

 

2014

 

320

 

2015

 

517

 

2016

 

463

 

2017

 

607

 

Thereafter

 

3,869

 

 

 

 

 

Total debt

 

$

8,476

 

 

6.              DERIVATIVE FINANCIAL INSTRUMENTS

 

GAAP defines derivatives, requires that derivatives be carried at fair value on the balance sheet, and provides for hedge accounting when certain conditions are met.  The Company’s derivative financial instruments are recognized on the balance sheet at fair value.  Changes in the fair value of derivative instruments designated as “cash flow” hedges, to the extent the hedges are highly effective, are recorded in other comprehensive income, net of tax effects.  Ineffective portions of cash flow hedges, if any, are recognized in current period earnings.  Other comprehensive income or loss is reclassified into current period earnings when the hedged transaction affects earnings.  Changes in the fair value of derivative instruments designated as “fair value” hedges, along with corresponding changes in the fair values of the hedged assets or liabilities, are recorded in current period earnings.  Ineffective portions of fair value hedges, if any, are recognized in current period earnings.

 

53



 

The Company assesses, both at the inception of the hedge and on an ongoing basis, whether derivatives used as hedging instruments are highly effective in offsetting the changes in the fair value or cash flow of the hedged items.  If it is determined that a derivative is not highly effective as a hedge or ceases to be highly effective, the Company discontinues hedge accounting prospectively.

 

Interest Rate Risk Management

 

The Company is exposed to market risk from fluctuations in interest rates.  The Company manages its exposure to interest rate fluctuations through the use of interest rate swaps (fair value hedges) and forward-starting interest rate swaps (cash flow hedges).  The Company’s current program relative to interest rate protection contemplates hedging the exposure to changes in the fair value of fixed-rate debt attributable to changes in interest rates.  To do this, the Company uses the following guidelines: (i) use average daily outstanding borrowings to determine annual debt amounts subject to interest rate exposure, (ii) limit the average annual amount subject to interest rate reset and the amount of floating rate debt to a combined total of $2,500 or less, (iii) include no leveraged products, and (iv) hedge without regard to profit motive or sensitivity to current mark-to-market status.

 

The Company reviews compliance with these guidelines annually with the Financial Policy Committee of the Board of Directors.  These guidelines may change as the Company’s needs dictate.

 

Fair Value Interest Rate Swaps

 

The table below summarizes the outstanding interest rate swaps designated as fair value hedges as of February 2, 2013, and January 28, 2012.

 

 

 

2012

 

2011

 

 

 

Pay
Floating

 

Pay
Fixed

 

Pay
Floating

 

Pay
Fixed

 

Notional amount

 

$

475

 

$

 

$

1,625

 

$

 

Number of contracts

 

6

 

 

18

 

 

Duration in years

 

1.41

 

 

0.74

 

 

Average variable rate

 

3.29

%

 

3.84

%

 

Average fixed rate

 

5.38

%

 

5.87

%

 

Maturity

 

Between April 2013 and December 2018

 

Between April 2012 and April 2013

 

 

During 2012, fourteen of the Company’s fair value swaps, with a notional amount of $1,250, matured.

 

In 2012, the Company entered into two fair value swaps with a total notional amount of $100.

 

The gain or loss on these derivative instruments as well as the offsetting gain or loss on the hedged items attributable to the hedged risk are recognized in current income as “Interest expense.”  These gains and losses for 2012 and 2011 were as follows:

 

 

 

Year-To-Date

 

 

 

February 2, 2013

 

January 28, 2012

 

Income Statement Classification

 

Gain/(Loss) on
Swaps

 

Gain/(Loss) on
Borrowings

 

Gain/(Loss) on
Swaps

 

Gain/(Loss) on
Borrowings

 

Interest Expense

 

$

(24

)

$

16

 

$

(20

)

$

22

 

 

54



 

The following table summarizes the location and fair value of derivative instruments designated as fair value hedges on the Company’s Consolidated Balance Sheets:

 

 

 

Asset Derivatives

 

 

 

Fair Value

 

 

 

Derivatives Designated as Fair Value Hedging Instruments

 

February 2,
2013

 

January 28,
2012

 

Balance Sheet Location

 

Interest Rate Hedges

 

$

1

 

$

25

 

Other Assets

 

 

Cash Flow Forward-Starting Interest Rate Swaps

 

As of February 2, 2013, the Company had 17 forward-starting interest rate swap agreements with maturity dates between April 2013 and January 2014 with an aggregate notional amount totaling $850.  In 2012, the Company entered into seven of these forward-starting interest rate swap agreements with an aggregate notional amount totaling $350.  A forward-starting interest rate swap is an agreement that effectively hedges the variability in future benchmark interest payments attributable to changes in interest rates on the forecasted issuance of fixed-rate debt.  The Company entered into the forward-starting interest rate swaps in order to lock in fixed interest rates on its forecasted issuances of debt in fiscal year 2013.  Accordingly, the forward-starting interest rate swaps were designated as cash-flow hedges as defined by GAAP.  As of February 2, 2013, the fair value of the interest rates swaps was recorded in other investments for $5 and accumulated other comprehensive income for $3 net of tax.

 

As of January 28, 2012, the Company maintained 24 forward-starting interest rate swap derivatives with maturity dates between May 2012 and April 2013 with an aggregate notional amount totaling $1,200.  The Company entered into the forward-starting interest rate swaps in order to lock in fixed interest rates on its forecasted issuances of debt in fiscal years 2012 and 2013.  Accordingly, the forward-starting interest rate swaps were designated as cash-flow hedges as defined by GAAP.  As of January 28, 2012, the fair value of the interest rates swaps was recorded in other long-term liabilities for $41 and accumulated other comprehensive loss for $26 net of tax.

 

During 2012, the Company terminated 14 forward-starting interest rate swap agreements with maturity dates of May 2012 with an aggregate notional amount totaling $700.  These forward-starting interest rate swap agreements were hedging the variability in future benchmark interest payments attributable to changing interest rates on the forecasted issuance of fixed-rate debt issued in 2012.  As discussed in Note 5, the Company issued $850 of senior notes in 2012.  Since these forward-starting interest rate swap agreements were classified as cash flow hedges, the unamortized loss of $27 has been deferred net of tax in accumulated other comprehensive income (“AOCI”) and will be amortized to earnings as the interest payments are made.

 

The following table summarizes the effect of the Company’s derivative instruments designated as cash flow hedges for 2012 and 2011:

 

 

 

Year-To-Date

 

 

 

Derivatives in Cash Flow Hedging

 

Amount of Gain/(Loss) in
AOCI on Derivative
(Effective Portion)

 

Amount of Gain/(Loss)
Reclassified from AOCI into
Income (Effective Portion)

 

Location of Gain/(Loss)
Reclassified into Income

 

Relationships

 

2012

 

2011

 

2012

 

2011

 

(Effective Portion)

 

Forward-Starting Interest Rate Swaps, net of tax*

 

$

(14

)

$

(30

)

$

(3

)

$

(1

)

Interest expense

 

 


*The amounts of Gain/(Loss) in AOCI on derivatives include unamortized proceeds and payments from forward-starting interest rate swaps once classified as cash flow hedges that were terminated prior to end of 2012.

 

Commodity Price Protection

 

The Company enters into purchase commitments for various resources, including raw materials utilized in its manufacturing facilities and energy to be used in its stores, warehouses, manufacturing facilities and administrative offices.  The Company enters into commitments expecting to take delivery of and to utilize those resources in the conduct of normal business.  Those commitments for which the Company expects to utilize or take delivery in a reasonable amount of time in the normal course of business qualify as normal purchases and normal sales.

 

55



 

7.              FAIR VALUE MEASUREMENTS

 

GAAP establishes a fair value hierarchy that prioritizes the inputs used to measure fair value.  The three levels of the fair value hierarchy defined in the standards are as follows:

 

Level 1 — Quoted prices are available in active markets for identical assets or liabilities;

 

Level 2 — Pricing inputs are other than quoted prices in active markets included in Level 1, which are either directly or indirectly observable;

 

Level 3 — Unobservable pricing inputs in which little or no market activity exists, therefore requiring an entity to develop its own assumptions about the assumptions that market participants would use in pricing an asset or liability.

 

For items carried at (or adjusted to) fair value in the consolidated financial statements, the following tables summarize the fair value of these instruments at February 2, 2013 and January 28, 2012:

 

February 2, 2013 Fair Value Measurements Using

 

 

 

Quoted Prices in
Active Markets
for Identical
Assets

(Level 1)

 

Significant Other
Observable Inputs

(Level 2)

 

Significant
Unobservable
Inputs

(Level 3)

 

Total

 

Available-for-Sale Securities

 

$

8

 

$

 

$

20

 

$

28

 

Long-Lived Assets

 

 

 

8

 

8

 

Interest Rate Hedges

 

 

6

 

 

6

 

Total

 

$

8

 

$

6

 

$

28

 

$

42

 

 

January 28, 2012 Fair Value Measurements Using

 

 

 

Quoted Prices in
Active Markets
for Identical
Assets

(Level 1)

 

Significant Other
Observable Inputs

(Level 2)

 

Significant
Unobservable
Inputs

(Level 3)

 

Total

 

Available-for-Sale Securities

 

$

8

 

$

 

$

20

 

$

28

 

Long-Lived Assets

 

 

 

23

 

23

 

Interest Rate Hedges

 

 

(16

)

 

(16

)

Total

 

$

8

 

$

(16

)

$

43

 

$

35

 

 

The Company values interest rate hedges using observable forward yield curves.  These forward yield curves are classified as Level 2 inputs.

 

Fair value measurements of non-financial assets and non-financial liabilities are primarily used in the impairment analysis of goodwill, other intangible assets, long-lived assets and in the valuation of store lease exit costs.  The Company reviews goodwill and other intangible assets for impairment annually, during the fourth quarter of each fiscal year, and as circumstances indicate the possibility of impairment.  See Note 2 for further discussion related to the Company’s carrying value of goodwill and its goodwill impairment charge in 2010.  Long-lived assets and store lease exit costs were measured at fair value on a nonrecurring basis using Level 3 inputs as defined in the fair value hierarchy.  See Note 1 for further discussion of the Company’s policies and recorded amounts for impairments of long-lived assets and valuation of store lease exit costs.  In 2012, long-lived assets with a carrying amount of $26 were written down to their fair value of $8, resulting in an impairment charge of $18.  In 2011, long-lived assets with a carrying amount of $60 were written down to their fair value of $23, resulting in an impairment charge of $37.

 

In 2011, unrealized gains on Level 3 Available-for-Sale Securities totaled $3.

 

56



 

Fair Value of Other Financial Instruments

 

Current and Long-term Debt

 

The fair value of the Company’s long-term debt, including current maturities, was estimated based on the quoted market prices for the same or similar issues adjusted for illiquidity based on available market evidence.  If quoted market prices were not available, the fair value was based upon the net present value of the future cash flow using the forward interest rate yield curve in effect at respective year-ends.  At February 2, 2013, the fair value of total debt was $9,339 compared to a carrying value of $8,476.  At January 28, 2012, the fair value of total debt was $8,700 compared to a carrying value of $7,743.

 

Cash and Temporary Cash Investments, Deposits In-Transit, Receivables, Prepaid and Other Current Assets, Trade Accounts Payable, Accrued Salaries and Wages and Other Current Liabilities

 

The carrying amounts of these items approximated fair value.

 

Long-term Investments

 

The fair values of these investments were estimated based on quoted market prices for those or similar investments, or estimated cash flows, if appropriate.  At February 2, 2013 and January 28, 2012, the carrying and fair value of long-term investments for which fair value is determinable were $44 and $50, respectively.

 

8.              LEASES AND LEASE-FINANCED TRANSACTIONS

 

While the Company’s current strategy emphasizes ownership of store real estate, the Company operates primarily in leased facilities. Lease terms generally range from 10 to 20 years with options to renew for varying terms. Terms of certain leases include escalation clauses, percentage rent based on sales or payment of executory costs such as property taxes, utilities or insurance and maintenance.  Rent expense for leases with escalation clauses or other lease concessions are accounted for on a straight-line basis beginning with the earlier of the lease commencement date or the date the Company takes possession.  Portions of certain properties are subleased to others for periods generally ranging from one to 20 years.

 

Rent expense (under operating leases) consists of:

 

 

 

2012

 

2011

 

2010

 

Minimum rentals

 

$

727

 

$

715

 

$

721

 

Contingent payments

 

13

 

13

 

11

 

Tenant income

 

(112

)

(109

)

(109

)

 

 

 

 

 

 

 

 

Total rent expense

 

$

628

 

$

619

 

$

623

 

 

57



 

Minimum annual rentals and payments under capital leases and lease-financed transactions for the five years subsequent to 2012 and in the aggregate are:

 

 

 

Capital
Leases

 

Operating
Leases

 

Lease-
Financed
Transactions

 

2013

 

$

51

 

$

707

 

$

6

 

2014

 

47

 

663

 

6

 

2015

 

42

 

601

 

7

 

2016

 

39

 

540

 

7

 

2017

 

38

 

467

 

8

 

Thereafter

 

232

 

2,025

 

87

 

 

 

 

 

 

 

 

 

 

 

449

 

$

5,003

 

$

121

 

 

 

 

 

 

 

 

 

Less estimated executory costs included in capital leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net minimum lease payments under capital leases

 

449

 

 

 

 

 

Less amount representing interest

 

171

 

 

 

 

 

 

 

 

 

 

 

 

 

Present value of net minimum lease payments under capital leases

 

$

278

 

 

 

 

 

 

Total future minimum rentals under noncancellable subleases at February 2, 2013, were $243.

 

9.              EARNINGS PER COMMON SHARE

 

Net earnings attributable to The Kroger Co. per basic common share equals net earnings attributable to The Kroger Co. less income allocated to participating securities divided by the weighted average number of common shares outstanding.  Net earnings attributable to The Kroger Co. per diluted common share equals net earnings attributable to The Kroger Co. less income allocated to participating securities divided by the weighted average number of common shares outstanding, after giving effect to dilutive stock options.  The following table provides a reconciliation of net earnings attributable to The Kroger Co. and shares used in calculating net earnings attributable to The Kroger Co. per basic common share to those used in calculating net earnings attributable to The Kroger Co. per diluted common share:

 

 

 

For the year ended
February 2, 2013

 

For the year ended
January 28, 2012

 

For the year ended
January 29, 2011

 

(in millions, except per share amounts)

 

Earnings
(Numerator)

 

Shares
(Denominator)

 

Per
Share
Amount

 

Earnings
(Numerator)

 

Shares
(Denominator)

 

Per
Share
Amount

 

Earnings
(Numerator)

 

Shares
(Denominator)

 

Per
Share
Amount

 

Net earnings attributable to The Kroger Co. per basic common share

 

$

1,485

 

533

 

$

2.78

 

$

598

 

590

 

$

1.01

 

$

1,109

 

635

 

$

1.75

 

Dilutive effect of stock options

 

 

 

4

 

 

 

 

 

3

 

 

 

 

 

3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co. per diluted common share

 

$

1,485

 

537

 

$

2.77

 

$

598

 

593

 

$

1.01

 

$

1,109

 

638

 

$

1.74

 

 

The Company had undistributed and distributed earnings to participating securities totaling $12, $4 and $7 in 2012, 2011 and 2010, respectively.

 

For the years ended February 2, 2013, January 28, 2012 and January 29, 2011, there were options outstanding for approximately 12.2 million, 12.2 million and 21.2 million common shares, respectively, that were excluded from the computation of net earnings attributable to The Kroger Co. per diluted common share.  These shares were excluded because their inclusion would have had an anti-dilutive effect on EPS.

 

58



 

10.       STOCK OPTION PLANS

 

The Company grants options for common shares (“stock options”) to employees, as well as to its non-employee directors, under various plans at an option price equal to the fair market value of the stock at the date of grant.  The Company accounts for stock options under the fair value recognition provisionsUnder this method, the Company recognizes compensation expense for all share-based payments granted.  The Company recognizes share-based compensation expense, net of an estimated forfeiture rate, over the requisite service period of the award.  Equity awards may be made at one of four meetings of its Board of Directors occurring shortly after the Company’s release of quarterly earnings.  The 2012 primary grant was made in conjunction with the June meeting of the Company’s Board of Directors.

 

Stock options typically expire 10 years from the date of grant.  Stock options vest between one and five years from the date of grant.  At February 2, 2013, approximately 15 million common shares were available for future option grants under these plans.

 

In addition to the stock options described above, the Company awards restricted stock to employees under various plans.  The restrictions on these awards generally lapse between one and five years from the date of the awards.  The Company records expense for restricted stock awards in an amount equal to the fair market value of the underlying shares on the grant date of the award, over the period the awards lapse.  As of February 2, 2013, approximately 8 million common shares were available under the 2005, 2008 and 2011 Long-Term Incentive Plans (the “Plans”) for future restricted stock awards or shares issued to the extent performance criteria are achieved.  The Company has the ability to convert shares available for stock options under the Plans to shares available for restricted stock awards.  Under some of the Plans, four shares available for option awards can be converted into one share available for restricted stock awards.

 

All awards become immediately exercisable upon certain changes of control of the Company.

 

Stock Options

 

Changes in options outstanding under the stock option plans are summarized below:

 

 

 

Shares
subject
to option
(in millions)

 

Weighted-
average
exercise
price

 

Outstanding, year-end 2009

 

34.7

 

$

21.30

 

Granted

 

3.7

 

$

20.23

 

Exercised

 

(2.0

)

$

16.31

 

Canceled or Expired

 

(0.5

)

$

22.12

 

 

 

 

 

 

 

Outstanding, year-end 2010

 

35.9

 

$

21.45

 

Granted

 

3.9

 

$

24.69

 

Exercised

 

(5.9

)

$

20.28

 

Canceled or Expired

 

(2.9

)

$

24.43

 

 

 

 

 

 

 

Outstanding, year-end 2011

 

31.0

 

$

21.80

 

Granted

 

4.1

 

$

22.04

 

Exercised

 

(6.7

)

$

18.35

 

Canceled or Expired

 

(1.9

)

$

23.28

 

 

 

 

 

 

 

Outstanding, year-end 2012

 

26.5

 

$

22.61

 

 

59



 

A summary of options outstanding and exercisable at February 2, 2013 follows:

 

Range of Exercise Prices

 

Number
outstanding

 

Weighted-
average
remaining
contractual life

 

Weighted-
average
 exercise price

 

Options
exercisable

 

Weighted-average
exercise price

 

 

 

(in millions)

 

(in years)

 

 

 

(in millions)

 

 

 

$

13.78 - $17.30

 

2.8

 

2.22

 

$

16.38

 

2.8

 

$

16.38

 

$

17.31 - $20.15

 

4.1

 

2.38

 

$

18.68

 

4.0

 

$

18.67

 

$

20.16 - $22.33

 

6.9

 

8.52

 

$

21.21

 

1.6

 

$

20.21

 

$

22.34 - $26.13

 

6.4

 

7.45

 

$

23.71

 

3.6

 

$

23.32

 

$

26.14 - $28.62

 

6.3

 

4.84

 

$

28.35

 

6.0

 

$

28.36

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

13.78 - $28.62

 

26.5

 

5.77

 

$

22.61

 

18.0

 

$

22.57

 

 

The weighted-average remaining contractual life for options exercisable at February 2, 2013, was approximately 4.5 years.  The intrinsic value of options outstanding and exercisable at February 2, 2013 was $143 and $99, respectively.

 

Restricted stock

 

Changes in restricted stock outstanding under the restricted stock plans are summarized below:

 

 

 

Restricted
shares
outstanding
(in millions)

 

Weighted-average
grant-date
fair value

 

Outstanding, year-end 2009

 

4.4

 

$

24.25

 

Granted

 

2.4

 

$

20.25

 

Lapsed

 

(2.3

)

$

23.62

 

Canceled or Expired

 

(0.1

)

$

23.13

 

 

 

 

 

 

 

Outstanding, year-end 2010

 

4.4

 

$

22.39

 

Granted

 

2.5

 

$

24.63

 

Lapsed

 

(2.5

)

$

21.96

 

Canceled or Expired

 

(0.2

)

$

23.80

 

 

 

 

 

 

 

Outstanding, year-end 2011

 

4.2

 

$

23.92

 

Granted

 

2.6

 

$

22.23

 

Lapsed

 

(2.4

)

$

24.34

 

Canceled or Expired

 

(0.1

)

$

23.28

 

 

 

 

 

 

 

Outstanding, year-end 2012

 

4.3

 

$

22.67

 

 

The weighted-average fair value of stock options granted during 2012, 2011 and 2010 was $4.39, $6.00 and $5.12, respectively.  The fair value of each stock option grant was estimated on the date of grant using the Black-Scholes option-pricing model, based on the assumptions shown in the table below.  The Black-Scholes model utilizes extensive judgment and financial estimates, including the term employees are expected to retain their stock options before exercising them, the volatility of the Company’s stock price over that expected term, the dividend yield over the term and the number of awards expected to be forfeited before they vest.  Using alternative assumptions in the calculation of fair value would produce fair values for stock option grants that could be different than those used to record stock-based compensation expense in the Consolidated Statements of Operations.  The decrease in the fair value of the stock options granted during 2012, compared to 2011, resulted primarily from a decrease in the Company’s share price, a decrease in the weighted average risk-free interest rate and an increase in the expected dividend yield.  The increase in the fair value of the stock options granted in 2011, compared to 2010, resulted primarily from an increase in the Company’s share price.

 

60



 

The following table reflects the weighted-average assumptions used for grants awarded to option holders:

 

 

 

2012

 

2011

 

2010

 

Weighted average expected volatility

 

26.49

%

26.31

%

26.87

%

Weighted average risk-free interest rate

 

0.97

%

2.16

%

2.57

%

Expected dividend yield

 

2.49

%

1.90

%

2.00

%

Expected term (based on historical results)

 

6.9 years

 

6.9 years

 

6.9 years

 

 

The weighted-average risk-free interest rate was based on the yield of a treasury note as of the grant date, continuously compounded, which matures at a date that approximates the expected term of the options.  The dividend yield was based on our history and expectation of dividend payouts.  Expected volatility was determined based upon historical stock volatilities; however, implied volatility was also considered.  Expected term was determined based upon a combination of historical exercise and cancellation experience as well as estimates of expected future exercise and cancellation experience.

 

Total stock compensation recognized in 2012, 2011 and 2010 was $82, $81 and $79, respectively.  Stock option compensation recognized in 2012, 2011 and 2010 was $22, $22 and $25, respectively.  Restricted shares compensation recognized in 2012, 2011 and 2010 was $60, $59 and $54 respectively.

 

The total intrinsic value of options exercised was $44, $24 and $11 in 2012, 2011 and 2010, respectively.  The total amount of cash received in 2012 by the Company from the exercise of options granted under share-based payment arrangements was $110.  As of February 2, 2013, there was $96 of total unrecognized compensation expense remaining related to non-vested share-based compensation arrangements granted under the Company’s equity award plans.  This cost is expected to be recognized over a weighted-average period of approximately two years.  The total fair value of options that vested was $23, $33 and $37 in 2012, 2011 and 2010, respectively.

 

Shares issued as a result of stock option exercises may be newly issued shares or reissued treasury shares.  Proceeds received from the exercise of options, and the related tax benefit, may be utilized to repurchase the Company’s common shares under a stock repurchase program adopted by the Company’s Board of Directors.  During 2012, the Company repurchased approximately four million common shares in such a manner.

 

11.       COMMITMENTS AND CONTINGENCIES

 

The Company continuously evaluates contingencies based upon the best available evidence.

 

The Company believes that allowances for loss have been provided to the extent necessary and that its assessment of contingencies is reasonable.  To the extent that resolution of contingencies results in amounts that vary from the Company’s estimates, future earnings will be charged or credited.

 

The principal contingencies are described below:

 

Insurance — The Company’s workers’ compensation risks are self-insured in most states. In addition, other workers’ compensation risks and certain levels of insured general liability risks are based on retrospective premium plans, deductible plans, and self-insured retention plans.  The liability for workers’ compensation risks is accounted for on a present value basis.  Actual claim settlements and expenses incident thereto may differ from the provisions for loss.  Property risks have been underwritten by a subsidiary and are all reinsured with unrelated insurance companies.  Operating divisions and subsidiaries have paid premiums, and the insurance subsidiary has provided loss allowances, based upon actuarially determined estimates.

 

Litigation — On October 6, 2006, the Company petitioned the Tax Court (Ralphs Grocery Company and Subsidiaries, formerly known as Ralphs Supermarkets, Inc. v. Commissioner of Internal Revenue, Docket No. 20364-06) for a redetermination of deficiencies asserted by the Commissioner of Internal Revenue.  The dispute at issue involved a 1992 transaction in which Ralphs Holding Company acquired the stock of Ralphs Grocery Company and made an election under Section 338(h)(10) of the Internal Revenue Code.  The Commissioner determined that the acquisition of the stock was not a purchase as defined by Section 338(h)(3) of the Internal Revenue Code and that the acquisition therefore did not qualify for a Section 338(h)(10) election.  On January 27, 2011, the Tax Court issued its opinion upholding the Company’s position that the acquisition of the stock qualified as a purchase, granting the Company’s motion for partial summary judgment and denying the Tax Commissioner’s motion.  All remaining issues in the matter had been resolved and the Tax Court entered its decision on May 2, 2012.  On July 24, 2012, the Tax Commissioner filed a notice with the United States Court of Appeals for the 9th Circuit to appeal the decision of the Tax Court.

 

61



 

Subsequent to the filing of the notice to appeal the government requested the dismissal of the case.  On November 14, 2012, the United States Court of Appeals for the 9th Circuit issued its dismissal order with prejudice, finally resolving all issues in the matter.

 

Various claims and lawsuits arising in the normal course of business, including suits charging violations of certain antitrust, wage and hour, or civil rights laws, are pending against the Company.  Some of these suits purport or have been determined to be class actions and/or seek substantial damages.  Any damages that may be awarded in antitrust cases will be automatically trebled.  Although it is not possible at this time to evaluate the merits of all of these claims and lawsuits, nor their likelihood of success, the Company is of the belief that any resulting liability will not have a material adverse effect on the Company’s financial position, results of operations, or cash flows.

 

The Company continually evaluates its exposure to loss contingencies arising from pending or threatened litigation and believes it has made provisions where it is reasonably possible to estimate and where an adverse outcome is probable.  Nonetheless, assessing and predicting the outcomes of these matters involves substantial uncertainties.  Management currently believes that the aggregate range of loss for the Company’s exposure is not material to the Company.  It remains possible that despite management’s current belief, material differences in actual outcomes or changes in management’s evaluation or predictions could arise that could have a material adverse effect on the Company’s financial condition, results of operations, or cash flows.

 

Assignments — The Company is contingently liable for leases that have been assigned to various third parties in connection with facility closings and dispositions.  The Company could be required to satisfy the obligations under the leases if any of the assignees is unable to fulfill its lease obligations.  Due to the wide distribution of the Company’s assignments among third parties, and various other remedies available, the Company believes the likelihood that it will be required to assume a material amount of these obligations is remote.

 

12.       STOCK

 

Preferred Shares

 

The Company has authorized five million shares of voting cumulative preferred shares; two million shares were available for issuance at February 2, 2013.  The shares have a par value of $100 per share and are issuable in series.

 

Common Shares

 

The Company has authorized one billion common shares, $1 par value per share.  On May 20, 1999, the shareholders authorized an amendment to the Amended Articles of Incorporation to increase the number of authorized common shares from one billion to two billion when the Board of Directors determines it to be in the best interest of the Company.

 

Common Stock Repurchase Program

 

The Company maintains stock repurchase programs that comply with Securities Exchange Act Rule 10b5-1 to allow for the orderly repurchase of The Kroger Co. common shares, from time to time.  The Company made open market purchases totaling $1,165, $1,420 and $505 under these repurchase programs in 2012, 2011 and 2010, respectively.  In addition to these repurchase programs, in December 1999, the Company began a program to repurchase common shares to reduce dilution resulting from its employee stock option plans.  This program is solely funded by proceeds from stock option exercises and the related tax benefit.  The Company repurchased approximately $96, $127 and $40 under the stock option program during 2012, 2011 and 2010, respectively.

 

13.       COMPANY- SPONSORED BENEFIT PLANS

 

The Company administers non-contributory defined benefit retirement plans for substantially all non-union employees and some union-represented employees as determined by the terms and conditions of collective bargaining agreements.  These include several qualified pension plans (the “Qualified Plans”) and a non-qualified plan (the “Non-Qualified Plan”).  The Non-Qualified Plan pays benefits to any employee that earns in excess of the maximum allowed for the Qualified Plans by Section 415 of the Internal Revenue Code.  The Company only funds obligations under the Qualified Plans.  Funding for the pension plans is based on a review of the specific requirements and on evaluation of the assets and liabilities of each plan.

 

In addition to providing pension benefits, the Company provides certain health care benefits for retired employees.  The majority of the Company’s employees may become eligible for these benefits if they reach normal retirement age while employed by the Company.  Funding of retiree health care benefits occurs as claims or premiums are paid.

 

62



 

The Company recognizes the funded status of its retirement plans on the Consolidated Balance Sheet.  Actuarial gains or losses, prior service costs or credits and transition obligations that have not yet been recognized as part of net periodic benefit cost are required to be recorded as a component of AOCI.  All plans are measured as of the Company’s fiscal year end.

 

Amounts recognized in AOCI as of February 2, 2013 and January 28, 2012 consist of the following (pre-tax):

 

 

 

Pension Benefits

 

Other Benefits

 

Total

 

 

 

2012

 

2011

 

2012

 

2011

 

2012

 

2011

 

Net actuarial loss (gain)

 

$

1,206

 

$

1,329

 

$

(15

)

$

(21

)

$

1,191

 

$

1,308

 

Prior service cost (credit)

 

3

 

3

 

(8

)

(12

)

(5

)

(9

)

Transition obligation

 

 

1

 

 

 

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,209

 

$

1,333

 

$

(23

)

$

(33

)

$

1,186

 

$

1,300

 

 

Amounts in AOCI expected to be recognized as components of net periodic pension or postretirement benefit costs in the next fiscal year are as follows (pre-tax):

 

 

 

Pension Benefits

 

Other Benefits

 

Total

 

 

 

2013

 

2013

 

2013

 

Net actuarial loss

 

$

101

 

$

 

$

101

 

Prior service cost (credit)

 

1

 

(4

)

(3

)

 

 

 

 

 

 

 

 

Total

 

$

102

 

$

(4

)

$

98

 

 

Other changes recognized in other comprehensive income in 2012, 2011, and 2010 were as follows (pre-tax):

 

 

 

Pension Benefits

 

Other Benefits

 

Total

 

 

 

2012

 

2011

 

2010

 

2012

 

2011

 

2010

 

2012

 

2011

 

2010

 

Incurred net actuarial loss (gain)

 

$

(33

)

$

451

 

$

(18

)

$

5

 

$

32

 

$

4

 

$

(28

)

$

483

 

$

(14

)

Amortization of prior service credit (cost)

 

 

(1

)

(1

)

5

 

5

 

5

 

5

 

4

 

4

 

Amortization of net actuarial gain (loss)

 

(97

)

(64

)

(50

)

 

2

 

3

 

(97

)

(62

)

(47

)

Total recognized in other comprehensive income

 

(130

)

386

 

(69

)

10

 

39

 

12

 

(120

)

425

 

(57

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total recognized in net periodic benefit cost and other comprehensive income

 

$

(41

)

$

456

 

$

(4

)

$

38

 

$

62

 

$

33

 

$

(3

)

$

518

 

$

29

 

 

63



 

Information with respect to change in benefit obligation, change in plan assets, the funded status of the plans recorded in the Consolidated Balance Sheets, net amounts recognized at the end of fiscal years, weighted average assumptions and components of net periodic benefit cost follow:

 

 

 

Pension Benefits

 

 

 

 

 

 

 

Qualified Plans

 

Non-Qualified Plan

 

Other Benefits

 

 

 

2012

 

2011

 

2012

 

2011

 

2012

 

2011

 

Change in benefit obligation:

 

 

 

 

 

 

 

 

 

 

 

 

 

Benefit obligation at beginning of fiscal year

 

$

3,348

 

$

2,923

 

$

217

 

$

192

 

$

378

 

$

330

 

Service cost

 

44

 

41

 

3

 

3

 

16

 

13

 

Interest cost

 

146

 

158

 

9

 

10

 

16

 

17

 

Plan participants’ contributions

 

 

 

 

 

9

 

9

 

Actuarial loss

 

33

 

344

 

3

 

21

 

6

 

32

 

Benefits paid

 

(131

)

(122

)

(11

)

(9

)

(23

)

(23

)

Other

 

3

 

4

 

 

¾

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Benefit obligation at end of fiscal year

 

$

3,443

 

$

3,348

 

$

221

 

$

217

 

$

402

 

$

378

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Change in plan assets:

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair value of plan assets at beginning of fiscal year

 

$

2,523

 

$

2,472

 

$

 

$

 

$

 

$

 

Actual return on plan assets

 

278

 

117

 

 

 

 

 

Employer contributions

 

71

 

52

 

11

 

9

 

14

 

14

 

Plan participants’ contributions

 

 

 

 

 

9

 

9

 

Benefits paid

 

(131

)

(122

)

(11

)

(9

)

(23

)

(23

)

Other

 

5

 

4

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair value of plan assets at end of fiscal year

 

$

2,746

 

$

2,523

 

$

 

$

 

$

 

$

 

Funded status at end of fiscal year

 

$

(697

)

$

(825

)

$

(221

)

$

(217

)

$

(402

)

$

(378

)

Net liability recognized at end of fiscal year

 

$

(697

)

$

(825

)

$

(221

)

$

(217

)

$

(402

)

$

(378

)

 

As of February 2, 2013 and January 28, 2012, other current liabilities include $29 and $27, respectively, of net liability recognized for the above benefit plans.

 

As of February 2, 2013 and January 28, 2012, pension plan assets do not include common shares of The Kroger Co.

 

 

 

Pension Benefits

 

Other Benefits

 

Weighted average assumptions

 

2012

 

2011

 

2010

 

2012

 

2011

 

2010

 

Discount rate — Benefit obligation

 

4.29

%

4.55

%

5.60

%

4.11

%

4.40

%

5.40

%

Discount rate — Net periodic benefit cost

 

4.55

%

5.60

%

6.00

%

4.40

%

5.40

%

5.80

%

Expected return on plan assets

 

8.50

%

8.50

%

8.50

%

 

 

 

 

 

 

Rate of compensation increase — Net periodic benefit cost

 

2.82

%

2.88

%

2.92

%

 

 

 

 

 

 

Rate of compensation increase — Benefit Obligation

 

2.77

%

2.82

%

2.88

%

 

 

 

 

 

 

 

64



 

The Company’s discount rate assumptions were intended to reflect the rates at which the pension benefits could be effectively settled.  They take into account the timing and amount of benefits that would be available under the plans.  The Company’s policy for selecting the discount rates as of year-end 2012 changed from the policy as of year-end 2011 and 2010.  In 2012, the Company’s policy was to match the plan’s cash flows to that of a hypothetical bond portfolio whose cash flow from coupons and maturities match the plan’s projected benefit cash flows.  The discount rates are the single rates that produce the same present value of cash flows.  The selection of the 4.29% and 4.11% discount rates as of year-end 2012 for pension and other benefits, respectively, represents the hypothetical bond portfolio using bonds with an AA or better rating constructed with the assistance of an outside consultant.  In 2011 and 2010, the Company’s policy was to match the plan’s cash flows to that of a yield curve that provides the equivalent yields on zero-coupon corporate bonds for each maturity.  Benefit cash flows due in a particular year can theoretically be “settled” by “investing” them in the zero-coupon bond that matures in the same year.  The discount rates are the single rates that produce the same present value of cash flows.  The selection of the 4.55% and 4.40% discount rates as of year-end 2011 for pension and other benefits, respectively, represents the equivalent single rates constructed under a broad-market AA yield curve constructed with the assistance of an outside consultant.  A 100 basis point increase in the discount rate would decrease the projected pension benefit obligation as of February 2, 2013, by approximately $412.

 

To determine the expected rate of return on pension plan assets, the Company considers current and anticipated plan asset allocations as well as historical and forecasted rates of return on various asset categories.  For 2012, 2011 and 2010, the Company assumed a pension plan investment return rate of 8.5%.  The Company pension plan’s average rate of return was 9.7% for the 10 calendar years ended December 31, 2012, net of all investment management fees and expenses.  The rate of return for the Company-sponsored defined benefit pension plans for the calendar year ending December 31, 2012 was 15.0%, net of investment management fees and expenses.  For the past 20 years, the Company’s average annual rate of return has been 9.9%, and the average annual rate of return for the S&P 500 has been 8.5%.  Based on the above information and forward looking assumptions for investments made in a manner consistent with the Company’s target allocations, the Company believes an 8.5% rate of return assumption is reasonable.

 

The Company calculates its expected return on plan assets by using the market-related value of plan assets.  The market-related value of plan assets is determined by adjusting the actual fair value of plan assets for gains or losses on plan assets.  Gains or losses represent the difference between actual and expected returns on plan investments for each plan year.  Gains or losses on plan assets are recognized evenly over a five year period.  Using a different method to calculate the market-related value of plan assets would provide a different expected return on plan assets.

 

The funded status increased in 2012, compared to 2011, due mostly to the return on plan assets, offset slightly by a decrease in the discount rate used to calculate the present value of the Company’s benefit obligation.

 

The Company uses the RP-2000 projected 2018 mortality table in calculating the pension obligation.

 

 

 

Pension Benefits

 

 

 

 

 

 

 

 

 

Qualified Plans

 

Non-Qualified Plan

 

Other Benefits

 

 

 

2012

 

2011

 

2010

 

2012

 

2011

 

2010

 

2012

 

2011

 

2010

 

Components of net periodic benefit cost:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Service cost

 

$

44

 

$

41

 

$

40

 

$

3

 

$

3

 

$

2

 

$

16

 

$

13

 

$

12

 

Interest cost

 

146

 

158

 

158

 

9

 

10

 

12

 

16

 

17

 

17

 

Expected return on plan assets

 

(210

)

(207

)

(196

)

 

 

 

 

 

 

Amortization of:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Prior service cost (credit)

 

 

 

 

 

1

 

(1

)

(4

)

(5

)

(5

)

Actuarial (gain) loss

 

88

 

57

 

44

 

9

 

7

 

6

 

 

(2

)

(3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net periodic benefit cost

 

$

68

 

$

49

 

$

46

 

$

21

 

$

21

 

$

19

 

$

28

 

$

23

 

$

21

 

 

The following table provides the projected benefit obligation (“PBO”), accumulated benefit obligation (“ABO”) and the fair value of plan assets for all Company-sponsored pension plans.

 

 

 

Qualified Plans

 

Non-Qualified Plan

 

 

 

2012

 

2011

 

2012

 

2011

 

PBO at end of fiscal year

 

$

3,443

 

$

3,348

 

$

221

 

$

217

 

ABO at end of fiscal year

 

$

3,278

 

$

3,147

 

$

211

 

$

209

 

Fair value of plan assets at end of year

 

$

2,746

 

$

2,523

 

$

 

$

 

 

65



 

The following table provides information about the Company’s estimated future benefit payments.

 

 

 

Pension
 Benefits

 

Other
 Benefits

 

2013

 

$

151

 

$

18

 

2014

 

$

160

 

$

20

 

2015

 

$

170

 

$

22

 

2016

 

$

181

 

$

23

 

2017

 

$

193

 

$

26

 

2018 – 2022

 

$

1,121

 

$

157

 

 

The following table provides information about the target and actual pension plan asset allocations.

 

 

 

Target allocations

 

Actual
 Allocations

 

 

 

2012

 

2012

 

2011

 

Pension plan asset allocation

 

 

 

 

 

 

 

Global equity securities

 

18.5

%

19.2

%

20.9

%

Emerging market equity securities

 

8.8

 

8.9

 

8.8

 

Investment grade debt securities

 

9.5

 

8.1

 

10.8

 

High yield debt securities

 

16.4

 

17.3

 

14.1

 

Private equity

 

6.3

 

6.0

 

6.3

 

Hedge funds

 

27.5

 

27.2

 

23.3

 

Real estate

 

3.0

 

3.3

 

3.2

 

Other

 

10.0

 

10.0

 

12.6

 

 

 

 

 

 

 

 

 

Total

 

100.0

%

100.0

%

100.0

%

 

Investment objectives, policies and strategies are set by the Pension Investment Committee (the “Committee”) appointed by the CEO.  The primary objectives include holding and investing the assets and distributing benefits to participants and beneficiaries of the pension plans.  Investment objectives have been established based on a comprehensive review of the capital markets and each underlying plan’s current and projected financial requirements.  The time horizon of the investment objectives is long-term in nature and plan assets are managed on a going-concern basis.

 

Investment objectives and guidelines specifically applicable to each manager of assets are established and reviewed annually.  Derivative instruments may be used for specified purposes, including rebalancing exposures to certain asset classes.  Any use of derivative instruments for a purpose or in a manner not specifically authorized is prohibited, unless approved in advance by the Committee.

 

The current target allocations shown represent 2012 targets that were established in 2011.  The Company will rebalance by liquidating assets whose allocation materially exceeds target, if possible, and investing in assets whose allocation is materially below target.  If markets are illiquid, the Company may not be able to rebalance to target quickly.  To maintain actual asset allocations consistent with target allocations, assets are reallocated or rebalanced periodically.  In addition, cash flow from employer contributions and participant benefit payments can be used to fund underweight asset classes and divest overweight asset classes, as appropriate.  The Company expects that cash flow will be sufficient to meet most rebalancing needs.

 

In February 2013, the Company contributed $100 to the Company-sponsored defined benefit pension plans and does not expect to make additional contributions in 2013.  The Company expects contributions made during 2013 will decrease its required contributions in future years.  Among other things, investment performance of plan assets, the interest rates required to be used to calculate the pension obligations, and future changes in legislation, will determine the amounts of any additional contributions.  The Company expects 2013 expense for Company-sponsored defined benefit pension plans to be approximately $80.  In addition, the Company expects 401(k) Retirement Savings Account Plan cash contributions and expense from automatic and matching contributions to participants to increase slightly in 2013, compared to 2012.

 

66



 

Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans.  The Company used a 7.20% initial health care cost trend rate and a 4.50% ultimate health care cost trend rate to determine its expense.  A one-percentage-point change in the assumed health care cost trend rates would have the following effects:

 

 

 

1% Point
 Increase

 

1% Point
 Decrease

 

Effect on total of service and interest cost components

 

$

5

 

$

(4

)

Effect on postretirement benefit obligation

 

$

46

 

$

(44

)

 

The following table sets forth by level, within the fair value hierarchy, the Plan’s assets at fair value as of February 2, 2013 and January 28, 2012:

 

Assets at Fair Value as of February 2, 2013

 

 

 

Quoted Prices in
Active Markets for
Identical Assets

(Level 1)

 

Significant Other
Observable Inputs

(Level 2)

 

Significant
Unobservable
Inputs

(Level 3)

 

Total

 

Cash and cash equivalents

 

$

17

 

$

 

$

 

$

17

 

Corporate Stocks

 

375

 

 

 

375

 

Corporate Bonds

 

 

72

 

 

72

 

U.S. Government Securities

 

 

66

 

 

66

 

Mutual Funds/Collective Trusts

 

130

 

559

 

 

689

 

Partnerships/Joint Ventures

 

 

378

 

 

378

 

Hedge Funds

 

 

 

739

 

739

 

Private Equity

 

 

 

180

 

180

 

Real Estate

 

 

 

91

 

91

 

Other

 

 

139

 

 

139

 

Total

 

$

522

 

$

1,214

 

$

1,010

 

$

2,746

 

 

Assets at Fair Value as of January 28, 2012

 

 

 

Quoted Prices in
Active Markets for
Identical Assets

(Level 1)

 

Significant Other
Observable Inputs

(Level 2)

 

Significant
Unobservable
Inputs

(Level 3)

 

Total

 

Cash and cash equivalents

 

$

¾

 

$

 

$

 

$

¾

 

Corporate Stocks

 

306

 

 

 

306

 

Corporate Bonds

 

 

82

 

 

82

 

U.S. Government Securities

 

 

91

 

 

91

 

Mutual Funds/Collective Trusts

 

143

 

476

 

 

619

 

Partnerships/Joint Ventures

 

 

454

 

 

454

 

Hedge Funds

 

 

 

579

 

579

 

Private Equity

 

 

 

159

 

159

 

Real Estate

 

 

 

81

 

81

 

Other

 

 

152

 

 

152

 

Total

 

$

449

 

$

1,255

 

$

819

 

$

2,523

 

 

67



 

For measurements using significant unobservable inputs (Level 3) during 2012 and 2011, a reconciliation of the beginning and ending balances is as follows:

 

 

 

Hedge Funds

 

Private Equity

 

Real Estate

 

Ending balance, January 29, 2011

 

$

580

 

$

150

 

$

62

 

Contributions into Fund

 

6

 

27

 

17

 

Realized gains

 

 

18

 

3

 

Unrealized gains (losses)

 

(7

)

3

 

8

 

Distributions

 

 

(45

)

(10

)

Other

 

 

6

 

1

 

 

 

 

 

 

 

 

 

Ending balance, January 28, 2012

 

579

 

159

 

81

 

Contributions into Fund

 

175

 

49

 

23

 

Realized gains

 

11

 

15

 

3

 

Unrealized gains

 

55

 

 

2

 

Distributions

 

(81

)

(49

)

(22

)

Other

 

 

6

 

4

 

 

 

 

 

 

 

 

 

Ending balance, February 2, 2013

 

$

739

 

$

180

 

$

91

 

 

See Note 7 for a discussion of the levels of the fair value hierarchy.  The assets’ fair value measurement level above is based on the lowest level of any input that is significant to the fair value measurement.

 

The following is a description of the valuation methods used for the plan’s assets measured at fair value in the above tables:

 

·      Cash and cash equivalents: The carrying value approximates fair value.

 

·                  Corporate Stocks: The fair values of these securities are based on observable market quotations for identical assets and are valued at the closing price reported on the active market on which the individual securities are traded.

 

·                  Corporate Bonds: The fair values of these securities are primarily based on observable market quotations for similar bonds, valued at the closing price reported on the active market on which the individual securities are traded.  When such quoted prices are not available, the bonds are valued using a discounted cash flow approach using current yields on similar instruments of issuers with similar credit ratings, including adjustments for certain risks that may not be observable, such as credit and liquidity risks.

 

·                  U.S. Government Securities: Certain U.S. Government securities are valued at the closing price reported in the active market in which the security is traded. Other U.S. government securities are valued based on yields currently available on comparable securities of issuers with similar credit ratings. When quoted prices are not available for similar securities, the security is valued under a discounted cash flow approach that maximizes observable inputs, such as current yields of similar instruments, but includes adjustments for certain risks that may not be observable, such as credit and liquidity risks.

 

·                  Mutual Funds/Collective Trusts: The mutual funds/collective trust funds are public investment vehicles valued using a Net Asset Value (NAV) provided by the manager of each fund.  The NAV is based on the underlying net assets owned by the fund, divided by the number of shares outstanding.  The NAV’s unit price is quoted on a private market that is not active.  However, the NAV is based on the fair value of the underlying securities within the fund, which are traded on an active market, and valued at the closing price reported on the active market on which those individual securities are traded.

 

·                  Partnerships/Joint Ventures: These funds consist primarily of U.S. government securities, Corporate Bonds, Corporate Stocks, and derivatives, which are valued in a manner consistent with these types of investments, noted above.

 

68



 

·                  Hedge Funds: Hedge funds are private investment vehicles valued using a Net Asset Value (NAV) provided by the manager of each fund.  The NAV is based on the underlying net assets owned by the fund, divided by the number of shares outstanding.  The NAV’s unit price is quoted on a private market that is not active.  The NAV is based on the fair value of the underlying securities within the funds, which are typically traded on an active market, and valued at the closing price reported on the active market on which those individual securities are traded.  For investments not traded on an active market, or for which a quoted price is not publicly available, a variety of unobservable valuation methodologies, including discounted cash flow, market multiple and cost valuation approaches, are employed by the fund manager to value investments.  Fair values of all investments are adjusted annually, if necessary, based on audits of the Hedge Fund financial statements; such adjustments are reflected in the fair value of the plan’s assets.

 

·                  Private Equity: Private Equity investments are valued based on the fair value of the underlying securities within the fund, which include investments both traded on an active market and not traded on an active market. For those investments that are traded on an active market, the values are based on the closing price reported on the active market on which those individual securities are traded.  For investments not traded on an active market, or for which a quoted price is not publicly available, a variety of unobservable valuation methodologies, including discounted cash flow, market multiple and cost valuation approaches, are employed by the fund manager to value investments.  Fair values of all investments are adjusted annually, if necessary, based on audits of the private equity fund financial statements; such adjustments are reflected in the fair value of the plan’s assets.

 

·                  Real Estate: Real estate investments include investments in real estate funds managed by a fund manager.  These investments are valued using a variety of unobservable valuation methodologies, including discounted cash flow, market multiple and cost valuation approaches.

 

The methods described above may produce a fair value calculation that may not be indicative of net realizable value or reflective of future fair values.  Furthermore, while the plan believes its valuation methods are appropriate and consistent with other market participants, the use of different methodologies or assumptions to determine the fair value of certain financial instruments could result in a different fair value measurement.

 

The Company contributed and expensed $140, $130 and $119 to employee 401(k) retirement savings accounts in 2012, 2011 and 2010, respectively.  The 401(k) retirement savings account plan provides to eligible employees both matching contributions and automatic contributions from the Company based on participant contributions, compensation as defined by the plan, and length of service.

 

The Company also administers other defined contribution plans for eligible employees.  The cost of these plans was $7, $6 and $7 for 2012, 2011 and 2010, respectively.

 

14.       MULTI-EMPLOYER PENSION PLANS

 

The Company contributes to various multi-employer pension plans based on obligations arising from collective bargaining agreements.  These plans provide retirement benefits to participants based on their service to contributing employers.  The benefits are paid from assets held in trust for that purpose.  Trustees are appointed in equal number by employers and unions.  The trustees typically are responsible for determining the level of benefits to be provided to participants as well as for such matters as the investment of the assets and the administration of the plans.

 

In the fourth quarter of 2011, the Company entered into a memorandum of understanding (“MOU”) with 14 locals of the UFCW that participated in four multi-employer pension funds.  The MOU established a process that amended each of the collective bargaining agreements between the Company and the UFCW locals under which the Company made contributions to these funds and consolidated the four multi-employer pension funds into one multi-employer pension fund.

 

69



 

Under the terms of the MOU, the locals of the UFCW agreed to a future pension benefit formula through 2021.  The Company was designated as the named fiduciary of the new consolidated pension plan with sole investment authority over the assets.  The Company committed to contribute sufficient funds to cover the actuarial cost of current accruals and to fund the pre-consolidation Unfunded Actuarial Accrued Liability (“UAAL”) that existed as of December 31, 2011, in a series of installments on or before March 31, 2018.  At January 1, 2012, the UAAL was estimated to be $911 (pre-tax).  In accordance with GAAP, the Company expensed $911 in 2011 related to the UAAL.  The expense was based on a preliminary estimate of the contractual commitment.  In 2012, the Company finalized the UAAL contractual commitment and recorded an adjustment that reduced the 2011 estimated commitment by $53 (pre-tax).  The final UAAL contractual commitment, at January 1, 2012, was $858 (pre-tax).  In the fourth quarter of 2011, the Company contributed $650 to the consolidated multi-employer pension plan of which $600 was allocated to the UAAL and $50 was allocated to service and interest costs and expensed in 2011.  In the fourth quarter of 2012, the Company contributed $258 to the consolidated multi-employer pension plan to fully fund the Company’s UAAL contractual commitment.  Future contributions will be dependent, among other things, on the investment performance of assets in the plan.  The funding commitments under the MOU replace the prior commitments under the four existing funds to pay an agreed upon amount per hour worked by eligible employees.

 

The Company recognizes expense in connection with these plans as contributions are funded, or in the case of the UFCW consolidated pension plan, when commitments are made.  The Company made contributions to these funds of $492 in 2012, $946 in 2011 and $262 in 2010.  The cash contributions for 2012 and 2011 include the Company’s $258 and $650 contributions described above, respectively, to the UFCW consolidated pension plan in the fourth quarter of each year.

 

The risks of participating in multi-employer pension plans are different from the risks of participating in single-employer pension plans in the following respects:

 

a.              Assets contributed to the multi-employer plan by one employer may be used to provide benefits to employees of other participating employers.

 

b.              If a participating employer stops contributing to the plan, the unfunded obligations of the plan allocable to such withdrawing employer may be borne by the remaining participating employers.

 

c.               If the Company stops participating in some of its multi-employer pension plans, the Company may be required to pay those plans an amount based on its allocable share of the underfunded status of the plan, referred to as a withdrawal liability.

 

The Company’s participation in these plans is outlined in the following tables.  The EIN / Pension Plan Number column provides the Employer Identification Number (“EIN”) and the three-digit pension plan number.  The most recent Pension Protection Act Zone Status available in 2012 and 2011 is for the plan’s year-end at December 31, 2011 and December 31, 2010, respectively.  Among other factors, generally, plans in the red zone are less than 65 percent funded, plans in the yellow zone are less than 80 percent funded and plans in the green zone are at least 80 percent funded.  The FIP/RP Status Pending / Implemented Column indicates plans for which a funding improvement plan (“FIP”) or a rehabilitation plan (“RP”) is either pending or has been implemented.  Unless otherwise noted, the information for these tables was obtained from the Forms 5500 filed for each plan’s year-end at December 31, 2011 and December 31, 2010.  The multi-employer contributions listed in the table below are the Company’s multi-employer contributions made in fiscal years 2012, 2011 and 2010.

 

70



 

The following table contains information about the Company’s multi-employer pension plans:

 

 

 

 

 

 

 

 

 

FIP/RP

 

 

 

 

 

 

 

 

 

 

 

 

 

Pension Protection

 

Status

 

 

 

 

 

 

 

 

 

 

 

EIN / Pension

 

Act Zone Status

 

Pending/

 

Multi-Employer Contributions

 

Surcharge

 

Pension Fund

 

Plan Number

 

2012

 

2011

 

Implemented

 

2012

 

2011

 

2010

 

Imposed(7)

 

SO CA UFCW Unions & Food Employers Joint Pension Trust Fund(1) (2)

 

95-1939092 - 001

 

Red

 

Red

 

Implemented

 

$

43

 

$

40

 

$

41

 

No

 

BD of Trustees of UNTD Food and Commercial(1)(5)

 

58-6101602 - 001

 

Red

 

Red

 

Implemented

 

 

59

 

47

 

No

 

Desert States Employers & UFCW Unions Pension Plan(1)

 

84-6277982 - 001

 

Green

 

Yellow

 

Implemented

 

22

 

20

 

17

 

No

 

UFCW Unions and Food Employers Pension Plan of Central Ohio(1) (5)

 

31-6089168 - 001

 

Green

 

Red

 

Implemented

 

 

23

 

21

 

No

 

Sound Retirement Trust (formerly Retail Clerks Pension Plan)(1) (3)

 

91-6069306 — 001

 

Red

 

Green

 

Implemented

 

12

 

10

 

9

 

No

 

Rocky Mountain UFCW Unions and Employers Pension Plan(1)

 

84-6045986 - 001

 

Green

 

Red

 

Implemented

 

17

 

16

 

16

 

No

 

Indiana UFCW Unions and Retail Food Employers Pension Plan(1) (5)

 

35-6244695 - 001

 

Red

 

Red

 

Implemented

 

 

5

 

5

 

No

 

Oregon Retail Employees Pension Plan(1)

 

93-6074377 - 001

 

Red

 

Red

 

Implemented

 

7

 

6

 

6

 

No

 

Bakery and Confectionary Union & Industry International Pension Fund(1)

 

52-6118572 - 001

 

Red

 

Green

 

Pending

 

10

 

9

 

6

 

Yes

 

Washington Meat Industry Pension Trust(1) (4)

 

91-6134141 - 001

 

Red

 

Red

 

Implemented

 

3

 

2

 

2

 

No

 

Retail Food Employers & UFCW Local 711 Pension(1)

 

51-6031512 - 001

 

Red

 

Red

 

Implemented

 

8

 

7

 

7

 

No

 

Denver Area Meat Cutters and Employers Pension Plan(1)

 

84-6097461 - 001

 

Green

 

Red

 

Implemented

 

8

 

8

 

8

 

No

 

United Food & Commercial Workers Intl Union — Industry Pension Fund(1) (4)

 

51-6055922 - 001

 

Green

 

Green

 

No

 

33

 

33

 

30

 

No

 

Northwest Ohio UFCW Union and Employers Joint Pension Fund(1) (5)

 

34-0947187 - 001

 

Green

 

Red

 

Implemented

 

 

2

 

2

 

No

 

Western Conference of Teamsters Pension Plan

 

91-6145047 - 001

 

Green

 

Green

 

No

 

30

 

31

 

30

 

No

 

Central States, Southeast & Southwest Areas Pension Plan

 

36-6044243 - 001

 

Red

 

Red

 

Implemented

 

12

 

14

 

8

 

No

 

UFCW Consolidated Pension Plan(1) (6)

 

58-6101602 — 001

 

N/A

 

N/A

 

N/A

 

275

 

650

 

¾

 

No

 

Other

 

 

 

 

 

 

 

 

 

12

 

11

 

7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total Contributions

 

 

 

 

 

 

 

 

 

$

492

 

$

946

 

$

262

 

 

 

 


(1)          The Company’s multi-employer contributions to these respective funds represent more than 5% of the total contributions received by the pension funds.

(2)          The information for this fund was obtained from the Form 5500 filed for the plan’s year-end at March 31, 2012 and March 31, 2011.

(3)          The information for this fund was obtained from the Form 5500 filed for the plan’s year-end at September 30, 2011 and September 30, 2010.

(4)          The information for this fund was obtained from the Form 5500 filed for the plan’s year-end at June 30, 2011 and June 30, 2010.

(5)          As of December 31, 2011, these four pension funds were consolidated into the UFCW consolidated pension plan.  See the above information regarding this multi-employer pension fund consolidation.

(6)          The UFCW consolidated pension plan was formed on January 1, 2012, as the result of the merger of four existing multi-employer pension plans.  See the above information regarding this multi-employer pension fund consolidation.

(7)          Under the Pension Protection Act, a surcharge may be imposed when employers make contributions under a collective bargaining agreement that is not in compliance with a rehabilitation plan.  As of February 2, 2013, the collective bargaining agreements under which the Company was making contributions were in compliance with rehabilitation plans adopted by the applicable pension fund, except for the pension fund noted above with an imposed surcharge.

 

71



 

The following table describes (a) the expiration date of the Company’s collective bargaining agreements and (b) the expiration date of the Company’s most significant collective bargaining agreements for each of the material multi-employer funds in which the Company participates.

 

 

 

Expiration Date

 

Most Significant Collective

 

 

 

of Collective

 

Bargaining Agreements(1)

 

 

 

Bargaining

 

(not in millions)

 

Pension Fund

 

Agreement

 

Count

 

Expiration

 

SO CA UFCW Unions & Food Employers Joint Pension Trust Fund

 

March 2014 to June 2014

 

2

 

March 2014 to June 2014

 

UFCW Consolidated Pension Plan(3)

 

May 2012(2) to August 2015

 

8

 

May 2012(2) to August 2015

 

Desert States Employers & UFCW Unions Pension Plan

 

June 2014 to October 2014

 

1

 

October 2014

 

Sound Retirement Trust (formerly Retail Clerks Pension Plan)

 

May 2013 to December 2013

 

2

 

May 2013 to August 2013

 

Rocky Mountain UFCW Unions and Employers Pension Plan

 

September 2015

 

1

 

September 2015

 

Oregon Retail Employees Pension Plan

 

February 2011(2) to April 2015

 

3

 

July 2012(2) to June 2013

 

Bakery and Confectionary Union & Industry International Pension Fund

 

May 2011(2) to July 2017

 

4

 

August 2012(2) to July 2015

 

Washington Meat Industry Pension Trust

 

April 2013 to January 2015

 

1

 

May 2013

 

Retail Food Employers & UFCW Local 711 Pension

 

April 2013 to March 2015

 

2

 

March 2015

 

Denver Area Meat Cutters and Employers Pension Plan

 

September 2015

 

1

 

September 2015

 

United Food & Commercial Workers Intl Union — Industry Pension Fund

 

April 2012(2) to September 2015

 

2

 

June 2013 to April 2015

 

Western Conference of Teamsters Pension Plan

 

April 2014 to April 2018

 

5

 

August 2014 to September 2015

 

Central States, Southeast & Southwest Areas Pension Plan

 

September 2014

 

2

 

September 2014

 

 


(1)         This column represents the number of significant collective bargaining agreements and their expiration date for each of the Company’s pension funds listed above.  For purposes of this table, the “significant collective bargaining agreements” are the largest based on covered employees that, when aggregated, cover the majority of the employees for which we make multi-employer contributions for the referenced pension fund.

 

(2)         Certain collective bargaining agreements for each of these pension funds are operating under an extension.

 

(3)         As of January 1, 2012, four multi-employer pension funds were consolidated into the UFCW consolidated pension plan.  See the above information regarding this multi-employer pension fund consolidation.

 

Based on the most recent information available to it, the Company believes that the present value of actuarial accrued liabilities in most of these multi-employer plans substantially exceeds the value of the assets held in trust to pay benefits.  Moreover, if the Company were to exit certain markets or otherwise cease making contributions to these funds, the Company could trigger a substantial withdrawal liability.  Any adjustment for withdrawal liability will be recorded when it is probable that a liability exists and can be reasonably estimated.

 

The Company also contributes to various other multi-employer benefit plans that provide health and welfare benefits to active and retired participants. Total contributions made by the Company to these other multi-employer benefit plans were approximately $1,100 in 2012, $1,000 in 2011 and $900 in 2010.

 

72



 

15.       RECENTLY ADOPTED ACCOUNTING STANDARDS

 

In June 2011, the Financial Accounting Standards Board (“FASB”) amended its rules regarding the presentation of comprehensive income.  The objective of this amendment is to improve the comparability, consistency and transparency of financial reporting and to increase the prominence of items reported in other comprehensive income.  Specifically, this amendment requires that all non-owner changes in shareholders’ equity be presented either in a single continuous statement of comprehensive income or in two separate but consecutive statements.  The new rules became effective for interim and annual periods beginning after December 15, 2011.  In December 2011, the FASB deferred certain aspects of this standard beyond the December 15, 2011 effective date, specifically the provisions dealing with reclassification adjustments.  The Company adopted this amended standard effective January 29, 2012 by presenting separate Consolidated Statements of Comprehensive Income immediately following the Consolidated Statements of Operations.  Because this standard only affects the display of comprehensive income and does not affect what is included in comprehensive income, this standard did not have a material effect on the Company’s Consolidated Financial Statements.

 

In May 2011, the FASB amended its rules for disclosure requirements for common fair value measurement.  These amendments, effective for the interim and annual periods beginning on or after December 15, 2011 (early adoption was prohibited), result in a common definition of fair value and common requirements for fair value measurement and disclosure between GAAP and International Financial Accounting Standards.  Consequently, the amendments change some fair value measurement principles and disclosure requirements.  The implementation of the amended accounting guidance did not have a material effect on the Company’s consolidated financial position or results of operations.

 

16.       RECENTLY ISSUED ACCOUNTING STANDARDS

 

In February 2013, the FASB amended its standards on comprehensive income by requiring disclosure in the footnotes of information about amounts reclassified out of accumulated other comprehensive income by component. Specifically, the amendment will require disclosure of the line items of net income in which the item was reclassified only if it is reclassified to net income in its entirety in the same reporting period. It will also require cross reference to other disclosures for amounts that are not reclassified in their entirety in the same reporting period.  The new disclosures will be required for the Company prospectively only for annual periods beginning February 3, 2013 and interim periods within those annual periods.  The implementation of the amended accounting guidance will not have a material effect on the Company’s consolidated financial position or results of operations.

 

73



 

17.       QUARTERLY DATA (UNAUDITED)

 

The two tables that follow reflect the unaudited results of operations for 2012 and 2011.

 

 

 

Quarter

 

 

 

2012

 

First
 (16 Weeks)

 

Second
 (12 Weeks)

 

Third
 (12 Weeks)

 

Fourth
 (13 Weeks)

 

Total Year
 (53 Weeks)

 

Sales

 

$

29,065

 

$

21,726

 

$

21,807

 

$

24,153

 

$

96,751

 

Merchandise costs, including advertising, warehousing, and transportation, excluding items shown separately below

 

23,095

 

17,278

 

17,383

 

19,102

 

76,858

 

Operating, general, and administrative

 

4,464

 

3,391

 

3,305

 

3,689

 

14,849

 

Rent

 

191

 

139

 

141

 

157

 

628

 

Depreciation and amortization

 

501

 

383

 

382

 

386

 

1,652

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating profit

 

814

 

535

 

596

 

819

 

2,764

 

Interest expense

 

141

 

106

 

103

 

112

 

462

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings before income tax expense

 

673

 

429

 

493

 

707

 

2,302

 

Income tax expense

 

232

 

148

 

175

 

239

 

794

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings including noncontrolling interests

 

441

 

281

 

318

 

468

 

1,508

 

Net earnings attributable to noncontrolling interests

 

2

 

2

 

1

 

6

 

11

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co.

 

$

439

 

$

279

 

$

317

 

$

462

 

$

1,497

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co. per basic common share

 

$

0.78

 

$

0.52

 

$

0.61

 

$

0.89

 

$

2.78

 

 

 

 

 

 

 

 

 

 

 

 

 

Average number of shares used in basic calculation

 

556

 

538

 

518

 

514

 

533

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings attributable to The Kroger Co. per diluted common share

 

$

0.78

 

$

0.51

 

$

0.60

 

$

0.88

 

$

2.77

 

 

 

 

 

 

 

 

 

 

 

 

 

Average number of shares used in diluted calculation

 

559

 

541

 

522

 

518

 

537

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividends declared per common share

 

$

0.115

 

$

0.115

 

$

0.15

 

$

0.15

 

$

0.53

 

 

Annual amounts may not sum due to rounding.

 

74



 

 

 

Quarter

 

 

 

2011

 

First
 (16 Weeks)

 

Second
 (12 Weeks)

 

Third
 (12 Weeks)

 

Fourth
 (12 Weeks)

 

Total Year
 (52 Weeks)

 

Sales

 

$

27,461

 

$

20,913

 

$

20,594

 

$

21,406

 

$

90,374

 

Merchandise costs, including advertising, warehousing, and transportation, excluding items shown separately below

 

21,624

 

16,555

 

16,358

 

16,957

 

71,494

 

Operating, general, and administrative

 

4,335

 

3,353

 

3,318

 

4,339

 

15,345

 

Rent

 

192

 

143

 

141

 

143

 

619

 

Depreciation and amortization

 

499

 

374

 

372

 

393

 

1,638

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating profit (loss)

 

811

 

488

 

405

 

(426

)

1,278

 

Interest expense

 

138

 

97

 

99

 

101

 

435

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings (loss) before income tax expense (benefit)

 

673

 

391

 

306

 

(527

)

843

 

Income tax expense (benefit)

 

252

 

108

 

108

 

(221

)

247

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings (loss) including noncontrolling interests

 

421

 

283

 

198

 

(306

)

596

 

Net earnings (loss) attributable to noncontrolling interests

 

(11

)

2

 

2

 

1

 

(6

)

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings (loss) attributable to The Kroger Co.

 

$

432

 

$

281

 

$

196

 

$

(307

)

$

602

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings (loss) attributable to The Kroger Co. per basic common share

 

$

0.71

 

$

0.47

 

$

0.33

 

$

(0.54

)

$

1.01

 

 

 

 

 

 

 

 

 

 

 

 

 

Average number of shares used in basic calculation

 

608

 

596

 

583

 

565

 

590

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings (loss) attributable to The Kroger Co. per diluted common share

 

$

0.70

 

$

0.46

 

$

0.33

 

$

(0.54

)

$

1.01

 

 

 

 

 

 

 

 

 

 

 

 

 

Average number of shares used in diluted calculation

 

612

 

600

 

586

 

565

 

593

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividends declared per common share

 

$

0.105

 

$

0.105

 

$

0.115

 

$

0.115

 

$

0.44

 

 

Annual amounts may not sum due to rounding.

 

18.       SUBSEQUENT EVENT

 

In February 2013, the Company made a $100 contribution to the Company-sponsored defined benefit pension plans and does not expect to make additional contributions in 2013.

 

75



 

ITEM 9.                        CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE.

 

None.

 

ITEM 9A.               CONTROLS AND PROCEDURES.

 

As of February 2, 2013, the Chief Executive Officer and the Chief Financial Officer, together with a disclosure review committee appointed by the Chief Executive Officer, evaluated Kroger’s disclosure controls and procedures.  Based on that evaluation, Kroger’s Chief Executive Officer and Chief Financial Officer concluded that Kroger’s disclosure controls and procedures were effective as of February 2, 2013.

 

CHANGES IN INTERNAL CONTROL OVER FINANCIAL REPORTING

 

There was no change in Kroger’s internal control over financial reporting during the fiscal quarter ended February 2, 2013, that has materially affected, or is reasonably likely to materially affect, Kroger’s internal control over financial reporting.

 

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

 

The management of the Company is responsible for establishing and maintaining adequate internal control over financial reporting for the Company.  With the participation of the Chief Executive Officer and the Chief Financial Officer, our management conducted an evaluation of the effectiveness of our internal control over financial reporting based on the framework and criteria established in Internal Control — Integrated Framework, issued by the Committee of Sponsoring Organizations of the Treadway Commission.  Based on this evaluation, our management has concluded that the Company’s internal control over financial reporting was effective as of February 2, 2013.

 

The effectiveness of the Company’s internal control over financial reporting as of February 2, 2013, has been audited by PricewaterhouseCoopers LLP, an independent registered public accounting firm, as stated in their report, which can be found in Item 8 of this Form 10-K.

 

ITEM 9B.               OTHER INFORMATION.

 

None.

 

76



 

PART III

 

ITEM 10.                 DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE.

 

The information required by this Item not otherwise set forth below is set forth under the headings Election of Directors and Information Concerning the Board of Directors in the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.

 

SECTION 16(a) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE

 

Based solely on its review of the copies of all Section 16(a) forms received by the Company, and any written representations from certain persons that no Forms 5 were required by those persons, the Company believes that all filing requirements applicable to its officers, directors and 10% beneficial owners were timely satisfied during and with respect to 2012, with the following exception.  In January 2013, Mr. Ellis filed an amended Form 3 to report ownership of 750 additional shares that were inadvertently omitted from his original Form 3 and subsequent Form 4 filing.

 

EXECUTIVE OFFICERS OF THE COMPANY

 

The following is a list of the names and ages of the executive officers and the positions held by each such person or those chosen to become executive officers as of April 2, 2013.  Except as otherwise noted, each person has held office for at least five years.  Each officer will hold office at the discretion of the Board for the ensuing year until removed or replaced.

 

Name

 

Age

 

Recent Employment History

Kathleen S. Barclay

 

57

 

Ms. Barclay joined the Company and was elected Senior Vice President of Human Resources on December 10, 2009. Prior to her election, she headed Global Human Resources for General Motors Corporation, a multinational automotive corporation, for more than ten years.

 

 

 

 

 

Robert W. Clark

 

47

 

Mr. Clark was promoted to Group Vice President of Non-Perishables effective March 14, 2013. Prior to this, he served as Vice President of Merchandising for the Company’s Fred Meyer division from October 2011 to March 2013. From August 2010 to October 2011 he served as Vice President of Operations for the Company’s Columbus division. Prior to that, from May 2002 to August 2010, he served as Vice President of Merchandising for the Company’s Fry’s division. From 1985 to 2002, Mr. Clark held various leadership positions in store and district management, as well as grocery merchandising. Mr. Clark began his career with the Company in 1985 as a courtesy clerk at Fry’s.

 

 

 

 

 

Geoffrey J. Covert

 

61

 

Mr. Covert was promoted to Senior Vice President, responsible for the oversight of several of the Company’s retail divisions, effective October 24, 2012. Prior to this, he was Senior Vice President of Retail Operations from January 2011 to October 2012. Prior to that, he was President of the Company’s Cincinnati division from December 2004 to December 2010. Prior to that, Mr. Covert served as Senior Vice President from April 1999 to December 2004, and as Group Vice President and President of Kroger Manufacturing from April 1998 to April 1999. He joined the Company in March 1996 as Vice President, Grocery Products Group. Prior to joining the Company, Mr. Covert worked for 23 years in a number of management positions with Procter & Gamble.

 

 

 

 

 

David B. Dillon

 

62

 

Mr. Dillon was elected Chairman of the Board on June 24, 2004 and Chief Executive Officer effective June 26, 2003. Prior to this, he was elected President and Chief Operating Officer effective January 26, 2000. Upon the merger with Fred Meyer, Inc., he was named President of the combined Company. Prior thereto, Mr. Dillon was elected President and Chief Operating Officer of Kroger effective June 18, 1995. Prior to this he was elected Executive Vice President on September 13, 1990, Chairman of the Board of Dillon Companies, Inc. on September 8, 1992, and President of Dillon Companies, Inc. on April 22, 1986.

 

77



 

Michael L. Ellis

 

54

 

Mr. Ellis was elected Senior Vice President effective December 6, 2012. He is responsible for the oversight of several of the Company’s retail divisions. Prior to this, he served as President of the Company’s Fred Meyer division since 2006. Mr. Ellis has held a number of leadership positions in the Company, including Group Vice President for grocery, drug, general merchandise, pharmacy and advertising for The Kroger Co., and Vice President, Food Group for Fred Meyer Stores. Mr. Ellis joined the Company in 1975 as a parcel clerk at Fred Meyer.

 

 

 

 

 

Kevin M. Dougherty

 

60

 

Mr. Dougherty was elected Group Vice President of Logistics effective May 6, 2004. Mr. Dougherty joined the Company as Vice President, Supply Chain Operations in 2001. Before joining the Company, he maintained an independent consulting practice focusing on logistics and operational performance.

 

 

 

 

 

Michael J. Donnelly

 

54

 

Mr. Donnelly was elected Senior Vice President of Merchandising effective July 1, 2011. Prior to his election, Mr. Donnelly held a variety of key management positions with the Company, including President of Ralphs Grocery Company, President of Fry’s Food Stores, and Senior Vice President, Drug/GM Merchandising and Procurement. Mr. Donnelly joined the Company in 1978 as a clerk.

 

 

 

 

 

Paul W. Heldman

 

61

 

Mr. Heldman was elected Executive Vice President, Secretary and General Counsel effective May 5, 2006, Senior Vice President effective October 5, 1997, Secretary on May 21, 1992, and Vice President and General Counsel effective June 18, 1989. Prior to his election, he held various positions in the Company’s Law Department. Mr. Heldman joined the Company in 1982.

 

 

 

 

 

Scott M. Henderson

 

57

 

Mr. Henderson was elected Vice President effective June 26, 2003 and Treasurer effective January 6, 2002. Mr. Henderson joined the Company in 1981 as Manager of Financial Reporting. He held a variety of management positions and was promoted to Vice President of Planning in February 2000.

 

 

 

 

 

Christopher T. Hjelm

 

51

 

Mr. Hjelm joined the Company on August 28, 2005 as Senior Vice President and Chief Information Officer. From February 2005 to July 2005, he was Chief Information Officer of Travel Distribution Services for Cendant Corporation. From July 2003 to November 2004, Mr. Hjelm served as Chief Technology Officer for Orbitz LLC, which was acquired by Cendant Corporation in November 2004. Mr. Hjelm served as Senior Vice President for Technology at eBay Inc. from March 2002 to June 2003, and served as Executive Vice President for Broadband Network Services for At Home Company from June 2001 to February 2002. From January 2000 to June 2001, Mr. Hjelm served as Chairman, President and Chief Executive Officer of ZOHO Corporation. Prior to that, he held various key roles for 14 years with Federal Express Corporation, including that of Senior Vice President and Chief Information Officer.

 

 

 

 

 

Calvin J. Kaufman

 

50

 

Mr. Kaufman was elected Group Vice President and President of Kroger Manufacturing on May 8, 2008. Prior to his election, Mr. Kaufman was appointed as Senior Director of Logistics in 2006. He joined the Fred Meyer logistics group in 1994 and was appointed Group Vice President of Logistics in 2002 and Vice President of Distribution Engineering in 1999. Before joining the Company, Mr. Kaufman worked for United Parcel Service first as operations manager and then as engineering department manager.

 

 

 

 

 

Lynn Marmer

 

60

 

Ms. Marmer was elected Group Vice President of Corporate Affairs effective January 19, 1998. Prior to her election, Ms. Marmer was an attorney in the Company’s Law Department. Ms. Marmer joined the Company in 1997. Before joining the Company she was a partner in the law firm of Dinsmore & Shohl.

 

78



 

W. Rodney McMullen

 

52

 

Mr. McMullen was elected President and Chief Operating Officer effective August 1, 2009. Prior to that he was elected Vice Chairman effective June 26, 2003, Executive Vice President, Strategy, Planning and Finance effective January 26, 2000, Executive Vice President and Chief Financial Officer effective May 20, 1999, Senior Vice President effective October 5, 1997, and Group Vice President and Chief Financial Officer effective June 18, 1995. Before that he was appointed Vice President, Control and Financial Services on March 4, 1993, and Vice President, Planning and Capital Management effective December 31, 1989. Mr. McMullen joined the Company in 1978 as a part-time stock clerk.

 

 

 

 

 

M. Marnette Perry

 

61

 

Ms. Perry was promoted to Senior Vice President of Retail Operations effective October 24, 2012. Prior to this, she was elected Senior Vice President overseeing several of the Company’s retail divisions effective July 2003 to October 2012. Prior to that she was elected Group Vice President of Perishables Merchandising and Procurement on March 3, 2003. Prior to this she held a variety of significant positions with the Company, including President of the Company’s Michigan division, and President of the Company’s Columbus Marketing Area. Ms. Perry joined the Company in 1972.

 

 

 

 

 

J. Michael Schlotman

 

55

 

Mr. Schlotman was elected Senior Vice President and Chief Financial Officer effective June 26, 2003, and Group Vice President and Chief Financial Officer effective January 26, 2000. Prior to that he was elected Vice President and Corporate Controller in 1995, and served in various positions in corporate accounting since joining the Company in 1985.

 

 

 

 

 

M. Elizabeth Van Oflen

 

55

 

Ms. Van Oflen was elected Vice President and Controller on April 11, 2003. Prior to her election, she held various positions in the Company’s Finance and Tax Departments. Ms. Van Oflen joined the Company in 1982.

 

 

 

 

 

R. Pete Williams

 

58

 

Mr. Williams was elected Senior Vice President on August 19, 2007. He is responsible for the oversight of several of the Company’s retail divisions. Prior to his election, Mr. Williams held a variety of key management positions with the Company, including President of the Company’s Mid-Atlantic division, Vice President of Operations, Vice President of Merchandising, and Director of Labor Relations. He joined the Company in 1977.

 

79



 

ITEM 11.                 EXECUTIVE COMPENSATION.

 

The information required by this Item is set forth in the sections entitled Compensation Discussion and Analysis, Compensation Committee Report, Executive Compensation, and Compensation Policies as they Relate to Risk Management in the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.

 

ITEM 12.                 SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS.

 

The following table provides information regarding shares outstanding and available for issuance under the Company’s existing equity compensation plans.

 

Equity Compensation Plan Information

 

 

 

(a)

 

(b)

 

(c)

 

Plan Category

 

Number of securities to
be issued upon exercise
of outstanding options,
warrants and rights (1)

 

Weighted-average
exercise price of
outstanding options,
warrants and rights

 

Number of securities
remaining for future
issuance under equity
compensation plans
(excluding securities
reflected in column (a))

 

 

 

 

 

 

 

 

 

Equity compensation plans approved by security holders

 

27,605,310

 

$

22.61

 

23,390,884

 

Equity compensation plans not approved by security holders

 

 

$

 

 

Total

 

27,605,310

 

$

22.61

 

23,390,884

 

 


(1)                                 The total number of securities reported includes the maximum number of common shares, 1,115,221, that may be issued under performance units granted under one or more long-term incentive plans.  The nature of the awards is more particularly described in the Compensation Discussion and Analysis-Equity section of the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.  The weighted-average exercise price in column (b) does not take these performance unit awards into account.  Based on historical data, or in the case of the award made in 2010 and earned in 2012 the actual payout percentage, the Company’s best estimate of the number of securities that will be issued under the performance unit agreements is approximately 494,242.

 

The remainder of the information required by this Item is set forth in the Beneficial Ownership of Common Stock table in the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.

 

ITEM 13.                 CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE.

 

This information required by this Item is set forth in the sections entitled Related Person Transactions and Information Concerning the Board of Directors-Independence in the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.

 

ITEM 14.                 PRINCIPAL ACCOUNTING FEES AND SERVICES.

 

The information required by this Item is set forth in the section entitled Selection of Auditors — Disclosure of Auditor Fees in the definitive proxy statement to be filed by the Company with the Securities and Exchange Commission and is hereby incorporated by reference into this Form 10-K.

 

80



 

PART IV

 

ITEM 15.                 EXHIBITS, FINANCIAL STATEMENT SCHEDULES.

 

(a)1.

 

Financial Statements:

 

 

Report of Independent Registered Public Accounting Firm

 

 

Consolidated Balance Sheets as of February 2, 2012 and January 28, 2012

 

 

Consolidated Statements of Operations for the years ended February 2, 2012, January 28, 2012 and January 29, 2011

 

 

Consolidated Statements of Cash Flows for the years ended February 2, 2012, January 28, 2012 and January 29, 2011

 

 

Consolidated Statement of Changes in Shareowners’ Equity

 

 

Notes to Consolidated Financial Statements

 

 

 

(a)2.

 

Financial Statement Schedules:

 

 

There are no Financial Statement Schedules included with this filing for the reason that they are not applicable or are not required or the information is included in the financial statements or notes thereto.

 

 

 

(a)3.(b)

 

Exhibits

 

 

 

3.1

 

Amended Articles of Incorporation are hereby incorporated by reference to Exhibit 3.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 22, 2010.

 

 

 

3.2

 

The Company’s regulations are hereby incorporated by reference to Exhibit 3.2 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 26, 2007.

 

 

 

4.1

 

Instruments defining the rights of holders of long-term debt of the Company and its subsidiaries are not filed as Exhibits because the amount of debt under each instrument is less than 10% of the consolidated assets of the Company.  The Company undertakes to file these instruments with the Commission upon request.

 

 

 

10.1*

 

Non-Employee Directors’ Deferred Compensation Plan. Incorporated by reference to Appendix J to Exhibit 99.1 of Fred Meyer, Inc.’s Current Report on Form 8-K dated September 9, 1997, SEC File No. 1-13339, filed with the SEC on September 12, 1997.

 

 

 

10.2*

 

The Kroger Co. Deferred Compensation Plan for Independent Directors.  Incorporated by reference to Exhibit 10.3 to the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.3*

 

The Kroger Co. Executive Deferred Compensation Plan.  Incorporated by reference to Exhibit 10.4 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.4*

 

The Kroger Co. 401(k) Retirement Savings Account Restoration Plan. Incorporated by reference to Exhibit 10.4 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.5*

 

Dillon Companies, Inc. Excess Benefit Pension Plan. Incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.6*

 

The Kroger Co. Supplemental Retirement Plans for Certain Retirement Benefit Plan Participants. Incorporated by reference to Exhibit 10.6 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.7*

 

The Kroger Co. 2006 Long-Term Bonus Plan. Incorporated by reference to Exhibit 10.7 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2010.

 

 

 

10.8*

 

The Kroger Co. 2005 Long-Term Incentive Plan.  Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 23, 2005.

 

 

 

10.9*

 

Form of Restricted Stock Grant Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.9 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

81



 

10.10*

 

Form of Non-Qualified Stock Option Grant Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 24, 2008.

 

 

 

10.11

 

Amended and Restated Credit Agreement dated as of January 25, 2012, among The Kroger Co., the initial lenders named therein, Bank of America, N.A., as administrative agent, Citibank, N.A., as syndication agent, and The Royal Bank of Scotland plc, U.S. Bank National Association and Wells Fargo Bank, National Association, as co-documentation agents, incorporated by reference to Exhibit 99.1 of the Company’s Current Report on Form 8-K filed with the SEC on January 26, 2012, amended by Amendment No.1 dated as of February 29, 2012 incorporated by reference to Exhibit 99.1 of the Company’s Current Report on Form 8-K filed with the SEC on March 2, 2012.

 

 

 

10.12

 

4(2) Commercial Paper Dealer Agreement between The Kroger Co., as Issuer and Banc of America Securities, LLC, as Dealer dated as of December 3, 2003, as amended on July 23, 2004, incorporated by reference to Exhibit 10.15 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.13

 

4(2) Commercial Paper Dealer Agreement between The Kroger Co., as Issuer and Citigroup Global Markets Inc., as Dealer dated as of December 3, 2003, as amended on June 9, 2004, incorporated by reference to Exhibit 10.16 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.14*

 

The Kroger Co. Employee Protection Plan dated December 13, 2007. Incorporated by reference to Exhibit 10.15 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 2, 2008.

 

 

 

10.15*

 

The Kroger Co. 2008 Long-Term Bonus Plan. Incorporated by reference to Exhibit 10.16 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 2, 2008.

 

 

 

10.16*

 

The Kroger Co. 2008 Long-Term Incentive and Cash Bonus Plan. Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 26, 2008.

 

 

 

10.17*

 

Letter Agreement dated June 24, 2009 between the Company and Don W. McGeorge. Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended August 15, 2009.

 

 

 

10.18*

 

Form of Performance Unit Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.19 of the Company’s Quarterly Report on Form 10-Q for the quarter ended August 11, 2012.

 

 

 

10.19*

 

The Kroger Co. 2010 Long-Term Bonus Plan. Incorporated by reference to Exhibit 10.20 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2011.

 

 

 

10.20*

 

The Kroger Co. 2011 Long-Term Cash Bonus Plan. Incorporated by reference to Exhibit 10.20 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 28, 2012.

 

 

 

10.21*

 

The Kroger Co. 2011 Long-Term Incentive and Cash Bonus Plan. Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 23, 2011.

 

 

 

12.1

 

Schedule of Computation of Ratio of Earnings to Fixed Charges.

 

 

 

21.1

 

Subsidiaries of the Registrant.

 

 

 

23.1

 

Consent of Independent Registered Public Accounting Firm.

 

 

 

24.1

 

Powers of Attorney.

 

 

 

31.1

 

Rule 13a-14(a)/15d-14(a) Certification.

 

 

 

31.2

 

Rule 13a-14(a)/15d-14(a) Certification.

 

 

 

32.1

 

Section 1350 Certifications

 

 

 

101.INS

 

XBRL Instance Document.

 

 

 

101.SCH

 

XBRL Taxonomy Extension Schema Document.

 

82



 

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document.

 

 

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document.

 

 

 

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document.

 

 

 

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document.

 


* Management contract or compensatory plan or arrangement.

 

83



 

SIGNATURES

 

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Company has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

 

 

THE KROGER CO.

 

 

 

Dated: April 2, 2013

By

*/s/ David B. Dillon

 

David B. Dillon

 

Chief Executive Officer

 

(principal executive officer)

 

Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Company and in the capacities indicated on the 2nd of April 2013.

 

*/s/ Reuben V. Anderson

 

Director

Reuben V. Anderson

 

 

 

 

 

*/s/ Robert D. Beyer

 

Director

Robert D. Beyer

 

 

 

 

 

*/s/ David B. Dillon

 

Chairman, Chief Executive Officer and Director

David B. Dillon

 

 

 

 

 

*/s/ Susan J. Kropf

 

Director

Susan J. Kropf

 

 

 

 

 

*/s/ John T. LaMacchia

 

Director

John T. LaMacchia

 

 

 

 

 

*/s/ David B. Lewis

 

Director

David B. Lewis

 

 

 

 

 

*/s/ W. Rodney McMullen

 

President, Chief Operating Officer and Director

W. Rodney McMullen

 

 

 

 

 

*/s/ Jorge P. Montoya

 

Director

Jorge P. Montoya

 

 

 

 

 

*/s/ Clyde R. Moore

 

Director

Clyde R. Moore

 

 

 

 

 

*/s/ Susan M. Phillips

 

Director

Susan M. Phillips

 

 

 

 

 

*/s/ Steven R. Rogel

 

Director

Steven R. Rogel

 

 

 

 

 

*/s/ James A. Runde

 

Director

James A. Runde

 

 

 

 

 

*/s/ Ronald L. Sargent

 

Director

Ronald L. Sargent

 

 

 

 

 

*/s/ J. Michael Schlotman

 

Chief Financial Officer

J. Michael Schlotman

 

(principal financial officer)

 

84



 

*/s/ Bobby S. Shackouls

 

Director

Bobby S. Shackouls

 

 

 

 

 

*/s/ M. Elizabeth Van Oflen

 

Vice President & Controller

M. Elizabeth Van Oflen

 

(principal accounting officer)

 

 

 

By:

*/s/ Bruce M. Gack

 

 

 

Bruce M. Gack

 

 

Attorney-in-fact

 

 

85



 

EXHIBIT INDEX

 

Exhibit No.

 

 

 

 

 

3.1

 

Amended Articles of Incorporation are hereby incorporated by reference to Exhibit 3.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 22, 2010.

 

 

 

3.2

 

The Company’s regulations are hereby incorporated by reference to Exhibit 3.2 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 26, 2007.

 

 

 

4.1

 

Instruments defining the rights of holders of long-term debt of the Company and its subsidiaries are not filed as Exhibits because the amount of debt under each instrument is less than 10% of the consolidated assets of the Company.  The Company undertakes to file these instruments with the Commission upon request.

 

 

 

10.1*

 

Non-Employee Directors’ Deferred Compensation Plan. Incorporated by reference to Appendix J to Exhibit 99.1 of Fred Meyer, Inc.’s Current Report on Form 8-K dated September 9, 1997, SEC File No. 1-13339, filed with the SEC on September 12, 1997.

 

 

 

10.2*

 

The Kroger Co. Deferred Compensation Plan for Independent Directors.  Incorporated by reference to Exhibit 10.3 to the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.3*

 

The Kroger Co. Executive Deferred Compensation Plan.  Incorporated by reference to Exhibit 10.4 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.4*

 

The Kroger Co. 401(k) Retirement Savings Account Restoration Plan. Incorporated by reference of Exhibit 10.4 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.5*

 

Dillon Companies, Inc. Excess Benefit Pension Plan. Incorporated by reference to Exhibit 10.5 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.6*

 

The Kroger Co. Supplemental Retirement Plans for Certain Retirement Benefit Plan Participants. Incorporated by reference to Exhibit 10.6 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.7*

 

The Kroger Co. 2006 Long Term Bonus Plan. Incorporated by reference to Exhibit 10.7 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2010.

 

 

 

10.8*

 

The Kroger Co. 2005 Long-Term Incentive Plan.  Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 23, 2005.

 

 

 

10.9*

 

Form of Restricted Stock Grant Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.9 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 3, 2007.

 

 

 

10.10*

 

Form of Non-Qualified Stock Option Grant Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 24, 2008.

 

 

 

10.11

 

Amended and Restated Credit Agreement dated as of January 25, 2012, among The Kroger Co., the initial lenders named therein, Bank of America, N.A., as administrative agent, Citibank, N.A., as syndication agent, and The Royal Bank of Scotland plc, U.S. Bank National Association and Wells Fargo Bank, National Association, as co-documentation agents, incorporated by reference to Exhibit 99.1 of the Company’s Current Report on Form 8-K filed with the SEC on January 26, 2012, amended by Amendment No.1 dated as of February 29, 2012 incorporated by reference to Exhibit 99.1 of the Company’s Current Report on Form 8-K filed with the SEC on March 2, 2012.

 

 

 

10.12

 

4(2) Commercial Paper Dealer Agreement between The Kroger Co., as Issuer and Banc of America Securities, LLC, as Dealer dated as of December 3, 2003, as amended on July 23, 2004, incorporated by reference to Exhibit 10.15 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

86



 

10.13

 

4(2) Commercial Paper Dealer Agreement between The Kroger Co., as Issuer and Citigroup Global Markets Inc., as Dealer dated as of December 3, 2003, as amended on June 9, 2004, incorporated by reference to Exhibit 10.16 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2005.

 

 

 

10.14*

 

The Kroger Co. Employee Protection Plan dated December 13, 2007. Incorporated by reference to Exhibit 10.15 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 2, 2008.

 

 

 

10.15*

 

The Kroger Co. 2008 Long-Term Bonus Plan. Incorporated by reference to Exhibit 10.16 of the Company’s Annual Report on Form 10-K for the fiscal year ended February 2, 2008.

 

 

 

10.16*

 

The Kroger Co. 2008 Long-Term Incentive and Cash Bonus Plan. Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 26, 2008.

 

 

 

10.17*

 

Letter Agreement dated June 24, 2009 between the Company and Don W. McGeorge. Incorporated by reference to Exhibit 10.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended August 15, 2009.

 

 

 

10.18*

 

Form of Performance Unit Agreement under Long-Term Incentive Plans. Incorporated by reference to Exhibit 10.19 of the Company’s Quarterly Report on Form 10-Q for the quarter ended August 11, 2012.

 

 

 

10.19*

 

The Kroger Co. 2010 Long-Term Bonus Plan. Incorporated by reference to Exhibit 10.20 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 29, 2011.

 

 

 

10.20*

 

The Kroger Co. 2011 Long-Term Cash Bonus Plan. Incorporated by reference to Exhibit 10.20 of the Company’s Annual Report on Form 10-K for the fiscal year ended January 28, 2012.

 

 

 

10.21*

 

The Kroger Co. 2011 Long-Term Incentive and Cash Bonus Plan. Incorporated by reference to Exhibit 4.2 of the Company’s Form S-8 filed with the SEC on June 23, 2011.

 

 

 

12.1

 

Schedule of Computation of Ratio of Earnings to Fixed Charges.

 

 

 

21.1

 

Subsidiaries of the Registrant.

 

 

 

23.1

 

Consent of Independent Registered Public Accounting Firm.

 

 

 

24.1

 

Powers of Attorney.

 

 

 

31.1

 

Rule 13a-14(a)/15d-14(a) Certification.

 

 

 

31.2

 

Rule 13a-14(a)/15d-14(a) Certification.

 

 

 

32.1

 

Section 1350 Certifications

 

 

 

101.INS

 

XBRL Instance Document.

 

 

 

101.SCH

 

XBRL Taxonomy Extension Schema Document.

 

 

 

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document.

 

 

 

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document.

 

 

 

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document.

 

 

 

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document.

 


* Management contract or compensatory plan or arrangement.

 

87