UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
☒
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended November 6, 2021
OR
☐
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
(I.R.S. Employer
incorporation or organization)
Identification No.)
1014 Vine Street, Cincinnati, Ohio 45202
(Address of principal executive offices)
(Zip Code)
(513) 762-4000
(Registrant’s telephone number, including area code)
Unchanged
(Former name, former address and former fiscal year, if changed since last report)
Securities registered pursuant to Section 12(b) of the Act:
Title of each class
Trading Symbol
Name of each exchange on which registered
Common, $1.00 Par Value
KR
New York Stock Exchange
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 the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule 12b-2 of the Exchange Act.
Large accelerated filer
Accelerated filer
Non-accelerated filer
Smaller reporting company
Emerging growth company
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒.
There were 735,255,564 shares of Common Stock ($1 par value) outstanding as of December 7, 2021.
PART I – FINANCIAL INFORMATION
Item 1.
Financial Statements.
THE KROGER CO.
CONSOLIDATED STATEMENTS OF OPERATIONS
(unaudited)
Third Quarter Ended
Three Quarters Ended
November 6,
November 7,
(In millions, except per share amounts)
2021
2020
Sales
$
31,860
29,723
104,840
101,761
Operating expenses
Merchandise costs, including advertising, warehousing, and transportation, excluding items shown separately below
24,959
22,901
81,820
77,906
Operating, general and administrative
5,177
5,194
17,692
18,162
Rent
197
205
648
682
Depreciation and amortization
659
631
2,168
2,073
Operating profit
868
792
2,512
2,938
Other income (expense)
Interest expense
(135)
(129)
(438)
Non-service component of company-sponsored pension plan costs
(77)
9
(44)
28
(Loss) gain on investments
(94)
162
(694)
952
Net earnings before income tax expense
562
834
1,336
3,480
Income tax expense
77
202
239
816
Net earnings including noncontrolling interests
485
632
1,097
2,664
Net income attributable to noncontrolling interests
2
1
7
Net earnings attributable to The Kroger Co.
483
1,090
2,662
Net earnings attributable to The Kroger Co. per basic common share
0.64
0.81
1.44
3.39
Average number of common shares used in basic calculation
742
772
747
777
Net earnings attributable to The Kroger Co. per diluted common share
0.80
1.43
3.35
Average number of common shares used in diluted calculation
752
780
757
785
The accompanying notes are an integral part of the Consolidated Financial Statements.
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
(In millions)
Other comprehensive income (loss)
Change in pension and other postretirement defined benefit plans, net of income tax(1)
132
22
134
Unrealized gains and losses on cash flow hedging activities, net of income tax(2)
—
(12)
Amortization of unrealized gains and losses on cash flow hedging activities, net of income tax(3)
5
3
Total other comprehensive income
30
139
19
Comprehensive income
619
662
1,236
2,683
Comprehensive income attributable to noncontrolling interests
Comprehensive income attributable to The Kroger Co.
617
661
1,229
2,681
CONSOLIDATED BALANCE SHEETS
January 30,
(In millions, except par amounts)
ASSETS
Current assets
Cash and temporary cash investments
2,288
1,687
Store deposits in-transit
1,140
1,096
Receivables
1,914
1,781
FIFO inventory
9,070
8,436
LIFO reserve
(1,550)
(1,373)
Prepaid and other current assets
518
876
Total current assets
13,380
12,503
Property, plant and equipment, net
23,316
22,386
Operating lease assets
6,655
6,796
Intangibles, net
954
997
Goodwill
3,076
Other assets
2,448
2,904
Total Assets
49,829
48,662
LIABILITIES
Current liabilities
Current portion of long-term debt including obligations under finance leases
1,048
911
Current portion of operating lease liabilities
642
667
Trade accounts payable
7,879
6,679
Accrued salaries and wages
1,458
1,413
Other current liabilities
5,771
5,696
Total current liabilities
16,798
15,366
Long-term debt including obligations under finance leases
12,673
12,502
Noncurrent operating lease liabilities
6,343
6,507
Deferred income taxes
1,619
1,542
Pension and postretirement benefit obligations
490
535
Other long-term liabilities
2,415
2,660
Total Liabilities
40,338
39,112
Commitments and contingencies see Note 7
SHAREHOLDERS’ EQUITY
Preferred shares, $100 par per share, 5 shares authorized and unissued
Common shares, $1 par per share, 2,000 shares authorized; 1,918 shares issued in 2021 and 2020
1,918
Additional paid-in capital
3,590
3,461
Accumulated other comprehensive loss
(491)
(630)
Accumulated earnings
23,658
23,018
Common shares in treasury, at cost, 1,180 shares in 2021 and 1,160 shares in 2020
(19,156)
(18,191)
Total Shareholders’ Equity - The Kroger Co.
9,519
9,576
Noncontrolling interests
(28)
(26)
Total Equity
9,491
9,550
Total Liabilities and Equity
4
CONSOLIDATED STATEMENTS OF CASH FLOWS
Cash Flows from Operating Activities:
Adjustments to reconcile net earnings including noncontrolling interests to net cash provided by operating activities:
Operating lease asset amortization
468
481
LIFO charge
177
Share-based employee compensation
159
147
Company-sponsored pension plans
56
34
219
Gain on the sale of assets
(34)
(24)
Loss (gain) on investments
694
(952)
Other
106
119
Changes in operating assets and liabilities:
(80)
42
Inventories
(673)
(471)
371
(56)
1,200
1,006
Accrued expenses
(40)
469
Income taxes receivable and payable
(54)
89
Operating lease liabilities
(532)
(464)
(282)
413
Net cash provided by operating activities
4,791
5,897
Cash Flows from Investing Activities:
Payments for property and equipment, including payments for lease buyouts
(2,008)
(2,062)
Proceeds from sale of assets
99
(90)
(85)
Net cash used by investing activities
(1,959)
(2,048)
Cash Flows from Financing Activities:
Proceeds from issuance of long-term debt
43
537
Payments on long-term debt including obligations under finance leases
(915)
(41)
Net payments on commercial paper
(1,150)
Dividends paid
(433)
(395)
Proceeds from issuance of capital stock
118
98
Treasury stock purchases
(1,049)
(989)
Proceeds from financing arrangement
166
(161)
(128)
Net cash used by financing activities
(2,231)
(2,068)
Net increase in cash and temporary cash investments
601
Cash and temporary cash investments:
Beginning of year
399
End of period
2,180
Reconciliation of capital investments:
Payments for lease buyouts
Changes in construction-in-progress payables
(144)
Total capital investments, excluding lease buyouts
(2,152)
(2,064)
Disclosure of cash flow information:
Cash paid during the year for interest
493
474
Cash paid during the year for income taxes
364
495
CONSOLIDATED STATEMENTS OF CHANGES IN SHAREOWNERS’ EQUITY
Accumulated
Additional
Common Stock
Paid-In
Treasury Stock
Comprehensive
Noncontrolling
Shares
Amount
Capital
Loss
Earnings
Interest
Total
Balances at February 1, 2020
3,337
1,130
(16,991)
(640)
20,978
(29)
8,573
Issuance of common stock:
Stock options exercised
(4)
57
Restricted stock issued
(20)
10
(10)
Treasury stock activity:
Treasury stock purchases, at cost
12
(355)
Stock options exchanged
(67)
63
Other comprehensive loss net of income tax of ($8)
(18)
17
(17)
Cash dividends declared ($0.16 per common share)
1,212
Balances at May 23, 2020
3,397
(17,363)
(658)
22,062
9,328
(1)
(109)
(3)
(52)
6
(212)
(35)
44
Other comprehensive income net of income tax of $2
47
(47)
Cash dividends declared ($0.18 per common share)
(137)
819
820
Balances at August 15, 2020
3,379
1,143
(17,570)
(651)
22,744
(27)
9,793
11
(2)
(304)
(16)
40
Other comprehensive income net of income tax of $3
(141)
Balances at November 7, 2020
3,420
1,152
(17,881)
(621)
23,234
10,044
29
(325)
38
Other comprehensive loss net of income tax of $4
(9)
(7)
(139)
(76)
Balances at January 30, 2021
1,160
31
(338)
(64)
23
(23)
(138)
140
143
Balances at May 22, 2021
3,505
1,169
(18,568)
(627)
23,021
9,229
54
(99)
(43)
8
(299)
(50)
52
Other comprehensive income net of income tax of $4
69
(69)
Cash dividends declared ($0.21 per common share)
(154)
467
Balances at August 14, 2021
3,527
1,174
(18,876)
(625)
23,334
9,258
33
(251)
51
Other comprehensive income net of income tax of $37
15
(15)
(11)
(158)
Balances at November 6, 2021
1,180
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
All amounts in the Notes to the Unaudited Consolidated Financial Statements are in millions except per share amounts.
1.
ACCOUNTING POLICIES
Basis of Presentation and Principles of Consolidation
The accompanying financial statements include the consolidated accounts of The Kroger Co., its wholly-owned subsidiaries and other consolidated entities. The January 30, 2021 balance sheet was derived from audited financial statements and, due to its summary nature, does not include all disclosures required by generally accepted accounting principles (“GAAP”). Significant intercompany transactions and balances have been eliminated. References to the “Company” in these Consolidated Financial Statements mean the consolidated company.
In the opinion of management, the accompanying unaudited Consolidated Financial Statements include adjustments, all of which are of a normal, recurring nature that are necessary for a fair statement of results of operations for such periods but should not be considered as indicative of results for a full year. The financial statements have been prepared by the Company pursuant to the rules and regulations of the Securities and Exchange Commission (“SEC”). Certain information and footnote disclosures normally included in financial statements prepared in accordance with GAAP have been omitted, pursuant to SEC regulations. Accordingly, the accompanying Consolidated Financial Statements should be read in conjunction with the financial statements in the Company’s Annual Report on Form 10-K for the fiscal year ended January 30, 2021.
The unaudited information in the Consolidated Financial Statements for the third quarters and three quarters ended November 6, 2021 and November 7, 2020, includes the results of operations of the Company for the 12 and 40-week periods then ended.
Fair Value Measurements
Fair value measurements are classified and disclosed in one of the following three categories:
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.
The Company records cash and temporary cash investments, store deposits in-transit, receivables, prepaid and other current assets, trade accounts payable, accrued salaries and wages and other current liabilities at approximated fair value. Certain other investments and derivatives are recorded as Level 1, 2 or 3 instruments. The equity investment in Ocado is measured at fair value through net earnings. The fair value of all shares owned, which is measured using Level 1 inputs, was $1,114 and $1,808 as of November 6, 2021 and January 30, 2021, respectively, and is included in “Other assets” in the Company’s Consolidated Balance Sheets. An unrealized loss for this Level 1 investment of approximately $694 and an unrealized gain of approximately $879 for the first three quarters of 2021 and 2020, respectively, are included in “(Loss) gain on investments” in the Company’s Consolidated Statements of Operations. An unrealized loss of $94 and an unrealized gain of $162 for this Level 1 investment were recorded for the third quarters of 2021 and 2020, respectively, and are included in “(Loss) gain on investments” in the Company’s Consolidated Statements of Operations. The Company held other equity investments without a readily determinable fair value. These investments are measured initially at cost and remeasured for observable price changes to fair value through net earnings. The value of these investments, which were measured using Level 3 inputs, was $212 and $156 at November 6, 2021 and January 30, 2021, respectively, and is included in “Other assets” in the Company’s Consolidated Balance Sheets. The unrealized gain for these Level 3 investments was approximately $73 for the first three quarters of 2020 and is included in “(Loss) gain on investments” in the Company’s Consolidated Statements of Operations. Refer to Note 2 for the disclosure of debt instrument fair values.
2.
DEBT OBLIGATIONS
Long-term debt consists of:
1.70% to 8.00% Senior Notes due through 2049
11,104
11,899
1,134
511
Total debt, excluding obligations under finance leases
12,238
12,410
Less current portion
(946)
(844)
Total long-term debt, excluding obligations under finance leases
11,292
11,566
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 November 6, 2021 and January 30, 2021. At November 6, 2021, the fair value of total debt was $13,976 compared to a carrying value of $12,238. At January 30, 2021, the fair value of total debt was $14,680 compared to a carrying value of $12,410.
In the third quarter of 2021, the Company repaid $500 of senior notes bearing an interest rate of 2.95% using cash on hand. Additionally, in the first three quarters of 2021, the Company repaid $300 of senior notes bearing an interest rate of 2.60% using cash on hand.
During the first quarter of 2021, the Company acquired 28, previously leased, properties for a purchase price of $455. Separately, the Company also entered into a transaction to sell those properties to a third party for total proceeds of $621. Total cash proceeds received as a result of the transactions was $166. The sale transaction did not qualify for sale-leaseback accounting treatment. As a result, the Company recorded property, plant and equipment for the $455 price paid and recorded a $621 financing obligation. The leases have a base term of 25 years and twelve option periods of five years each. The Company has the option to purchase the individual properties for fair market value at the end of the base term or at the end of any option period. The Company is obligated to repurchase the properties at the end of the base term for $300 if the lessor exercises its put option.
In the second quarter of 2021, the Company entered into an amended and restated $2,750 unsecured revolving credit facility (the “Amended and Restated Credit Agreement”), with a termination date of July 6, 2026, unless extended as permitted under the Amended and Restated Credit Agreement. This Amended and Restated Credit Agreement amended the Company’s $2,750 credit facility that would otherwise have terminated on August 29, 2022. The notable changes from the previous agreement include: (1) The removal of the Fixed Charge Coverage Ratio financial covenant (2) the ability to increase the credit facility by $1,250 compared to $1,000 in the prior Amended and Restated Credit Agreement. The Leverage Ratio is the only financial covenant remaining.
3.
BENEFIT PLANS
The following table provides the components of net periodic benefit cost for the company-sponsored defined benefit pension plans and other post-retirement benefit plans for the third quarters of 2021 and 2020:
Pension Benefits
Other Benefits
Components of net periodic benefit cost:
Service cost
Interest cost
24
26
Expected return on plan assets
(36)
(39)
Amortization of:
Prior service cost
Actuarial loss (gain)
Settlement loss recognized
87
Net periodic benefit cost
85
(5)
The following table provides the components of net periodic benefit cost for the company-sponsored defined benefit pension plans and other post-retirement benefit plans for the first three quarters of 2021 and 2020:
78
86
(130)
27
(14)
(6)
74
The Company is not required to make any contributions to its company-sponsored pension plans in 2021, but may make contributions to the extent such contributions are beneficial to the Company. The Company did not make any contributions to its company-sponsored pension plans in the first three quarters of 2021 and 2020.
The Company contributed $221 and $227 to employee 401(k) retirement savings accounts in the first three quarters of 2021 and 2020, respectively.
The Company also contributes to various multi-employer pension plans based on obligations arising from most of its collective bargaining agreements. These plans provide retirement benefits to participants based on their service to contributing employers. The Company recognizes expense in connection with these plans as contributions are funded. In addition to the recurring multi-employer pension contributions the Company makes in the normal course of business, in the first three quarters of 2021, the Company contributed an incremental $106, $81 net of tax, to multi-employer pension plans, helping stabilize future associate benefits. In the first three quarters of 2020, the Company contributed an incremental $236, $180 net of tax, to multi-employer pension plans.
During the first quarter of 2021, associates within the Fred Meyer and QFC divisions ratified an agreement for the transfer of liabilities from the Sound Retirement Trust to the UFCW Consolidated Pension Plan. The Company transferred $449, $344 net of tax, in net accrued pension liabilities and prepaid escrow funds to fulfill obligations for past service for associates and retirees. The agreement will be satisfied by cash installment payments to the UFCW Consolidated Pension Plan and will be paid evenly over seven years.
During the third quarter of 2021, the Company settled certain company-sponsored pension plan obligations using existing assets of the plans. The Company recognized a non-cash settlement charge of $87, $68 net of tax, associated with the settlement of its obligations for the eligible participants’ pension balances that were distributed out of the plans via a lump sum distribution or the purchase of an annuity contract, based on each participant’s election. The settlement charge is included in “Non-service component of company-sponsored pension plan costs” in the Consolidated Statements of Operations.
4.
EARNINGS PER COMMON SHARE
Net earnings attributable to The Kroger Co. per basic common share equal 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 equal 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:
November 6, 2021
November 7, 2020
Per
Share
(Numerator)
(Denominator)
478
625
Dilutive effect of stock options
1,079
2,631
The Company had combined undistributed and distributed earnings to participating securities totaling $5 and $6 in the third quarters of 2021 and 2020, respectively. For the first three quarters of 2021 and 2020, the Company had combined undistributed and distributed earnings to participating securities of $11 and $31, respectively.
The Company had options outstanding for approximately 1 million and 8 million shares during the third quarters of 2021 and 2020, respectively, that were excluded from the computations of net earnings per diluted common share because their inclusion would have had an anti-dilutive effect on net earnings per share. The Company had options outstanding for approximately 3 million and 9 million shares during the first three quarters of 2021 and 2020, respectively, that were excluded from the computations of net earnings per diluted common share because their inclusion would have had an anti-dilutive effect on net earnings per share.
5.
LEASES AND LEASE-FINANCED TRANSACTIONS
On May 17, 2018, the Company entered into a Partnership Framework Agreement with Ocado International Holdings Limited and Ocado Group plc (“Ocado”), which has since been amended. Under this agreement, Ocado will partner exclusively with the Company in the U.S., enhancing the Company’s digital and robotics capabilities in its distribution networks. In the first quarter of 2021, the Company opened its first two Kroger Delivery customer fulfillment centers in Monroe, Ohio and Groveland, Florida. The Company determined the arrangement with Ocado contains a lease of the robotic equipment used to fulfill customer orders. As a result, the Company established a finance lease when each facility began fulfilling orders to customers and used its 10 year incremental borrowing rate of 1.66% to calculate the lease liability. The base term of each lease is 10 years with options to renew at the Company’s sole discretion. The Company elected to combine the lease and non-lease elements in the contract. As a result, it will account for all payments to Ocado as lease payments. During the first quarter of 2021, the Company recorded finance lease assets of $267 and finance lease liabilities of $249 related to these two location openings.
6.
RECENTLY ISSUED ACCOUNTING STANDARDS
In March 2020, the FASB issued ASU 2020-04, “Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting.” This standard provides optional expedients and exceptions for applying GAAP to certain contract modifications and hedging relationships that reference LIBOR or other reference rates expected to be discontinued. This guidance is effective upon issuance and can be applied through December 31, 2022. The Company may elect to apply the amendments for contract modifications by Topic or Industry Subtopic as of any date from the beginning of an interim period that includes or is subsequent to March 12, 2020. The adoption of the standard is not expected to have a material effect on the Company’s Consolidated Statements of Operations, Consolidated Balance Sheets or Consolidated Statements of Cash Flows.
7.
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 — Various claims and lawsuits arising in the normal course of business, including personal injury, contract disputes, employment discrimination, wage and hour and other regulatory claims are pending against the Company. Some of these suits purport or have been determined to be class actions and/or seek substantial damages. 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 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 when 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.
8.
ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)
The following table represents the changes in AOCI by component for the first three quarters of 2021 and 2020:
Pension and
Cash Flow
Postretirement
Hedging
Defined Benefit
Activities(1)
Plans(1)
Total(1)
Balance at February 1, 2020
(42)
(598)
OCI before reclassifications(2)
21
Amounts reclassified out of AOCI(3)
Net current-period OCI
Balance at November 7, 2020
(51)
(570)
Balance at January 30, 2021
(576)
131
Balance at November 6, 2021
(49)
(442)
The following table represents the items reclassified out of AOCI and the related tax effects for the third quarters and first three quarters of 2021 and 2020:
Cash flow hedging activity items
Amortization of gains and losses on cash flow hedging activities(1)
Tax expense
Net of tax
Pension and postretirement defined benefit plan items
Amortization of amounts included in net periodic pension cost(2)
Total reclassifications, net of tax
13
9.
INCOME TAXES
The effective income tax rate was 13.8% and 24.2% for the third quarters of 2021 and 2020, respectively. The effective income tax rate was 17.9% and 23.4% for the first three quarters of 2021 and 2020, respectively. The effective income tax rate for the third quarter and the first three quarters of 2021 differed from the federal statutory rate due to a discrete benefit of $47 which was primarily from the favorable outcome of income tax audit examinations covering multiple years, the benefit from share-based payments and the utilization of tax credits, partially offset by the effect of state income taxes.
The Coronavirus Aid, Relief, and Economic Security Act (the “CARES Act”), which was enacted on March 27, 2020, includes measures to assist companies in response to the COVID-19 pandemic. These measures include deferring the due dates of tax payments and other changes to income and non-income-based tax laws. As permitted under the CARES Act, the Company deferred the remittance of the employer portion of the social security tax. The social security tax provision requires that the deferred employment tax be paid over two years, with half of the amount required to be paid by December 31, 2021 and the other half by December 31, 2022. During 2020, the Company deferred the employer portion of social security tax of $622. Of the total, $311 is included in “Other current liabilities” and $311 is included in “Other long-term liabilities” in the Company’s Consolidated Balance Sheets.
14
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations.
The following analysis should be read in conjunction with the Consolidated Financial Statements.
USE OF NON-GAAP FINANCIAL MEASURES
The accompanying Consolidated Financial Statements, including the related notes, are presented in accordance with generally accepted accounting principles (“GAAP”). We provide non-GAAP measures, including First-In, First-Out (“FIFO”) gross margin, FIFO operating profit, adjusted FIFO operating profit, adjusted net earnings and adjusted net earnings per diluted share because management believes these metrics are useful to investors and analysts. These non-GAAP financial measures should not be considered as an alternative to gross margin, operating profit, net earnings and net earnings per diluted share or any other GAAP measure of performance. These measures should not be reviewed in isolation or considered as a substitute for our financial results as reported in accordance with GAAP.
We calculate FIFO gross margin as FIFO gross profit divided by sales. FIFO gross profit is calculated as sales less merchandise costs, including advertising, warehousing, and transportation expenses, but excluding the Last-In, First-Out (“LIFO”) charge. Merchandise costs exclude depreciation and rent expenses. FIFO gross margin is an important measure used by management and management believes FIFO gross margin is a useful metric to investors and analysts because it measures our day-to-day merchandising and operational effectiveness.
We calculate FIFO operating profit as operating profit excluding the LIFO charge. FIFO operating profit is an important measure used by management and management believes FIFO operating profit is a useful metric to investors and analysts because it measures our day-to-day operational effectiveness.
The adjusted net earnings, adjusted net earnings per diluted share and adjusted FIFO operating profit metrics are important measures used by management to compare the performance of core operating results between periods. We believe adjusted net earnings, adjusted net earnings per diluted share and adjusted FIFO operating profit are useful metrics to investors and analysts because they present more accurate year-over-year comparisons of our net earnings, net earnings per diluted share and FIFO operating profit because adjusted items are not the result of our normal operations. Net earnings for the first three quarters of 2021 include the following, which we define as the “2021 Adjusted Items”:
Net earnings for the third quarter of 2021 include the following, which we define as the “2021 Third Quarter Adjusted Items”:
Net earnings for the first three quarters of 2020 include the following, which we define as the “2020 Adjusted Items”:
Net earnings for the third quarter of 2020 include the following, which we define as the “2020 Third Quarter Adjusted Items”:
Please refer to the “Net Earnings per Diluted Share excluding the Adjusted Items” table and the tables in the “Two-Year Financial Results” section below for reconciliations of certain non-GAAP financial measures reported in this Quarterly Report on Form 10-Q to the most comparable GAAP financial measure and related disclosure.
CAUTIONARY STATEMENT
This discussion and analysis contains certain forward-looking statements about our future performance. These statements are based on management’s assumptions and beliefs in light of the information currently available to it. Such statements are indicated by words such as “achieve,” “affect,” “anticipate,” “believe,” “committed,” “confident,” “continue,” “could,” “estimate,” “expect,” “future,” “guidance,” “maintain,” “may,” “strategy,” “trend,” “will,” “well positioned,” and “would,” and similar words or phrases. These forward-looking statements are subject to uncertainties and other factors that could cause actual results to differ materially. These include the specific risk factors identified in “Risk Factors” in our Annual Report on Form 10-K for our last fiscal year and any subsequent filings, as well as those identified in this Form 10-Q.
Various uncertainties and other factors could cause actual results to differ materially from those contained in the forward-looking statements. These include:
16
Statements elsewhere in this report and below regarding our expectations, projections, beliefs, intentions or strategies are forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended. While we believe that the statements are accurate, uncertainties about the general economy, our labor relations, our ability to execute our plans on a timely basis and other uncertainties described in this report and other reports that we file with the Securities and Exchange Commission could cause actual results to differ materially.
EXECUTIVE SUMMARY – DELIVERING CONSISTENT AND ATTRACTIVE TOTAL SHAREHOLDER RETURN
Our strategy to lead with fresh and accelerate with digital continues to connect with our customers. This strategy led to identical sales without fuel and adjusted net earnings per diluted share results exceeding our internal expectations for the third quarter of 2021, as we were disciplined in balancing investments in our associates and customers with strong cost management and continued growth in our alternative profit businesses. We continue to be on track to deliver over $1 billion of incremental cost savings in 2021 and we expect Alternative Profit growth to be towards the top end of our target range of $100 million to $150 million of incremental profit in 2021. Our agility and the commitment from our associates is allowing us to navigate a more volatile inflationary environment, current labor and supply chain conditions, and provide fresh food at affordable prices across our seamless ecosystem.
Our seamless ecosystem is working. This was evident during the quarter as we saw customers seamlessly shift between channels, and we saw strong digital engagement. Identical sales without fuel returned to positive for the quarter, growing 3.1% for the third quarter of 2021, which results in a two-year stacked growth rate of 14.0%. Identical sales without fuel decreased 1.0% for the first three quarters of 2021, which results in a two-year stacked growth rate of 14.3%. Digital sales two-year stacked growth was 103% during the third quarter of 2021 and has grown triple digits since the beginning of 2019. Driven by our continued momentum and sustained food at home trends, we raised our full year 2021 guidance for identical sales without fuel and adjusted net earnings per diluted share. We are emerging stronger through the pandemic and are well positioned to grow beyond 2021.
Our financial model is underpinned by our leading position in food. We continue to invest in areas of the business that matter most to our customers and deepen our competitive moats, to drive sales growth in our retail supermarket business, including fuel and pharmacy. This, in turn, generates the data and traffic that enables our fast-growing alternative profit businesses. Our financial strategy is to continue to use our free cash flow to invest in the business to drive long-term sustainable net earnings growth, through the identification of high-return projects that support our strategy. Capital allocation is a core element of our value creation model, and we will allocate capital towards driving profitable sales growth, accelerating digital, expanding margin as well as maintaining the business. We will continue to be disciplined in deploying capital towards projects that exceed our hurdle rate of return and prioritize the highest return opportunities to drive 3% to 5% net earnings growth. At the same time, we are committed to maintaining our net debt to adjusted EBITDA range of 2.30 to 2.50 in order to keep our current investment grade debt rating and continue to return cash to shareholders via share repurchases and a growing dividend over time. We remain confident in our ability to generate strong free cash flow and deliver strong and sustainable total shareholder return of 8% to 11% over time.
18
The following table provides highlights of our financial performance:
Financial Performance Data
($ in millions, except per share amounts)
Percentage
Change
7.2
%
3.0
Sales without fuel
28,218
2.9
27,414
93,632
(0.9)
94,479
(23.5)
(59.1)
Adjusted net earnings attributable to The Kroger Co.
589
5.7
557
2,117
0.3
2,110
(20.0)
(57.3)
Adjusted net earnings attributable to The Kroger Co. per diluted common share
0.78
9.9
0.71
2.77
4.1
2.66
9.6
(14.5)
Adjusted FIFO operating profit
974
11.8
871
3,297
2.5
3,218
12.8
141
433
395
Dividends paid per common share
0.21
16.7
0.18
0.57
14.0
0.50
Identical sales excluding fuel
3.1
N/A
10.9
(1.0)
15.3
FIFO gross margin rate, excluding fuel, bps increase (decrease)
(0.41)
(0.02)
(0.57)
0.20
OG&A rate, excluding fuel and Adjusted Items, bps increase (decrease)
(0.49)
(0.30)
(0.82)
(0.06)
Increase (decrease) in total debt, including obligations under finance leases compared to prior fiscal year end
308
(556)
Share repurchases
298
321
1,049
989
OVERVIEW
Significant fluctuations occurred in our business during 2020 due to the COVID-19 pandemic. As a result, management compares current year identical sales without fuel, adjusted FIFO operating profit and adjusted net earnings per diluted share results to the same metrics for the comparable period in 2019, in addition to comparisons made to 2020. This enables management to evaluate results of the business and our financial model over a longer period of time, and to better understand the current state of the business compared to the period of time prior to the pandemic.
Notable items for the third quarter and first three quarters of 2021 are:
Shareholder Return
Other Financial Results
Significant Events
20
The following table provides a reconciliation of net earnings attributable to The Kroger Co. to adjusted net earnings attributable to The Kroger Co. and a reconciliation of net earnings attributable to The Kroger Co. per diluted common share to adjusted net earnings attributable to The Kroger Co. per diluted common share, excluding the 2021 and 2020 Adjusted Items:
Net Earnings per Diluted Share excluding the Adjusted Items
(Income) expense adjustments
Adjustment for pension plan withdrawal liabilities(1)(2)
344
Adjustment for company-sponsored pension plan settlement charges(1)(3)
68
Adjustment for loss (gain) on investments(1)(4)
73
(115)
533
(705)
Adjustment for Home Chef contingent consideration(1)(5)
80
Adjustment for transformation costs(1)(6)
82
Adjustment for completion of income tax audit examinations(1)
2021 and 2020 Adjusted Items
(74)
1,027
(552)
Net earnings attributable to The Kroger Co. excluding the Adjusted Items
Adjustment for pension plan withdrawal liabilities(7)
0.45
Adjustment for company-sponsored pension plan settlement charges(7)
0.09
Adjustment for loss (gain) on investments(7)
0.10
(0.15)
0.70
(0.90)
Adjustment for Home Chef contingent consideration(7)
0.01
0.02
0.06
Adjustment for transformation costs(7)
0.04
0.11
Adjustment for completion of income tax audit examinations(7)
(0.07)
0.14
(0.09)
1.34
(0.69)
Net Earnings per Diluted Share excluding the Adjusted Items (continued)
RESULTS OF OPERATIONS
Total Sales
($ in millions)
Change(1)
Change(2)
Change(3)
Change(4)
Total sales to retail customers without fuel(5)
27,982
27,179
10.6
92,873
93,830
14.8
Supermarket fuel sales
3,642
57.7
2,309
(28.8)
11,208
53.9
7,282
(34.1)
Other sales(6)
236
0.4
235
49.7
759
16.9
649
11.1
Total sales
6.3
9.0
Total sales were $31.9 billion in the third quarter of 2021, compared to $29.7 billion in the third quarter of 2020. This increase was due to an increase in supermarket fuel sales and an increase in total sales to retail customers without fuel. Total sales, excluding fuel, increased 2.9% in the third quarter of 2021, compared to the third quarter of 2020. This increase was primarily due to our identical sales increase, excluding fuel, of 3.1%. Identical sales, excluding fuel, for the third quarter of 2021, compared to the third quarter of 2020, increased primarily due to an increase in units per basket sold and retail inflation. Our two-year identical sales, excluding fuel, stacked growth was 14.0%. Total supermarket fuel sales increased 57.7% in the third quarter of 2021, compared to the third quarter of 2020, primarily due to an increase in fuel gallons sold of 4.8% and an increase in the average retail fuel price of 50.5%. The increase in the average retail fuel price was caused by an increase in the product cost of fuel.
Total sales were $104.8 billion in the first three quarters of 2021, compared to $101.8 billion in the first three quarters of 2020. This increase was due to an increase in supermarket fuel sales, partially offset by a decrease in total sales to retail customers without fuel. Total sales, excluding fuel, decreased 0.9% in the first three quarters of 2021, compared to the first three quarters of 2020. This decrease was primarily due to our identical sales decrease, excluding fuel, of 1.0%. The decrease in identical sales, excluding fuel, was primarily caused by unprecedented demand due to the COVID-19 pandemic during the first three quarters of 2020. Our two-year identical sales, excluding fuel, stacked growth was 14.3%. Total supermarket fuel sales increased 53.9% in the first three quarters of 2021, compared to the first three quarters of 2020, primarily due to an increase in fuel gallons sold of 8.7% and an increase in the average retail fuel price of 41.8%. The increase in the average retail fuel price was caused by an increase in the product cost of fuel.
We calculate identical sales, excluding fuel, as sales to retail customers, including sales from all departments at identical supermarket locations, Kroger Specialty Pharmacy businesses and ship-to-home solutions. We define a supermarket as identical when it has been in operation without expansion or relocation for five full quarters. Although identical sales is a relatively standard term, numerous methods exist for calculating identical sales growth. As a result, the method used by our management to calculate identical sales may differ from methods other companies use to calculate identical sales. We urge you to understand the methods used by other companies to calculate identical sales before comparing our identical sales to those of other such companies. Our identical sales, excluding fuel, results are summarized in the following table. We used the identical sales, excluding fuel, dollar figures presented below to calculate percentage changes for the third quarter and first three quarters of 2021.
Identical Sales
Excluding fuel centers
27,685
26,850
91,899
92,795
Gross Margin, LIFO and FIFO Gross Margin
We define gross margin as sales minus merchandise costs, including advertising, warehousing, and transportation. Rent expense, depreciation and amortization expense, and interest expense are not included in gross margin.
Our gross margin rate, as a percentage of sales, was 21.66% for the third quarter of 2021, compared to 22.95% for the third quarter of 2020. The decrease in rate in the third quarter of 2021, compared to the third quarter of 2020, resulted primarily from increased fuel sales, which have a lower gross margin rate, a decrease in our fuel gross margin, continued investments in lower prices for our customers, a higher LIFO charge and increased transportation costs, as a percentage of sales, partially offset by effective negotiations to achieve savings on the cost of products sold.
Our gross margin rate, as a percentage of sales, was 21.96% for the first three quarters of 2021, compared to 23.44% for the first three quarters of 2020. The decrease in rate in the first three quarters of 2021, compared to the first three quarters of 2020, resulted primarily from increased fuel sales, which have a lower gross margin rate, a decrease in our fuel gross margin, continued investments in lower prices for our customers, a COVID-19-related inventory write down for personal protective equipment to be donated to community partners, the effect of supermarket sales deleverage, excluding fuel, due to cycling COVID-19 trends which decreases our gross margin, as a percentage of sales, a higher LIFO charge and increased shrink and transportation costs, as a percentage of sales, partially offset by growth in our alternative profit businesses and effective negotiations to achieve savings on the cost of products sold.
Our LIFO charge was $93 million for the third quarter of 2021 compared to $23 million for the third quarter of 2020. Our LIFO charge was $177 million for the first three quarters of 2021 compared to $77 million for the first three quarters of 2020. The increase in our LIFO charge reflects our expected annualized product cost inflation for 2021, compared to 2020, and was primarily driven by grocery and meat.
Our FIFO gross margin rate, which excludes the third quarter LIFO charge, was 21.95% for the third quarter of 2021, compared to 23.03% for the third quarter of 2020. Our fuel sales lower our FIFO gross margin rate due to the very low FIFO gross margin rate, as a percentage of sales, of fuel sales compared to non-fuel sales. Excluding the effect of fuel, our FIFO gross margin rate decreased 41 basis points in the third quarter of 2021, compared to the third quarter of 2020. This decrease resulted primarily from continued investments in lower prices for our customers and increased transportation costs, as a percentage of sales, partially offset by effective negotiations to achieve savings on the cost of products sold.
Our FIFO gross margin rate, which excludes the first three quarters LIFO charge, was 22.13% for the first three quarters of 2021, compared to 23.52% for the first three quarters of 2020. Excluding the effect of fuel, our FIFO gross margin rate decreased 57 basis points in the first three quarters of 2021, compared to the first three quarters of 2020. This decrease resulted primarily from continued investments in lower prices for our customers, a COVID-19-related inventory write down for personal protective equipment to be donated to community partners, the effect of supermarket sales deleverage, excluding fuel, due to cycling COVID-19 trends which decreases our gross margin, as a percentage of sales, and increased shrink and transportation costs, as a percentage of sales, partially offset by growth in our alternative profit businesses and effective negotiations to achieve savings on the cost of products sold.
Operating, General and Administrative Expenses
OG&A expenses consist primarily of employee-related costs such as wages, healthcare benefit costs, retirement plan costs, utilities, and credit card fees. Rent expense, depreciation and amortization expense, and interest expense are not included in OG&A.
OG&A expenses, as a percentage of sales, were 16.25% for the third quarter of 2021, compared to 17.48% for the third quarter of 2020. The decrease in the third quarter of 2021, compared to the third quarter of 2020 resulted primarily from the effect of increased sales to retail customers without fuel, which decreases our OG&A rate, as a percentage of sales, the 2020 Third Quarter OG&A Adjusted Items, the effect of increased fuel sales, which decreases our OG&A rate, as a percentage of sales, decreased incentive plan costs and broad-based improvement from cost savings initiatives that drive administrative efficiencies, store productivity and sourcing cost reductions, partially offset by investments in hourly rate and benefits for our associates and the 2021 Third Quarter OG&A Adjusted Items.
Our fuel sales lower our OG&A rate, as a percentage of sales, due to the very low OG&A rate, as a percentage of sales, of fuel sales compared to non-fuel sales. Excluding the effect of fuel, the 2021 Third Quarter OG&A Adjusted Items and the 2020 Third Quarter OG&A Adjusted Items, our OG&A rate decreased 49 basis points in the third quarter of 2021, compared to the third quarter of 2020. This decrease resulted primarily from the effect of increased sales to retail customers without fuel, which decreases our OG&A rate, as a percentage of sales, decreased incentive plan costs and broad-based improvement from cost savings initiatives that drive administrative efficiencies, store productivity and sourcing cost reductions, partially offset by investments in hourly rate and benefits for our associates.
OG&A expenses, as a percentage of sales, were 16.88% for the first three quarters of 2021, compared to 17.85% for the first three quarters of 2020. The decrease in the first three quarters of 2021, compared to the first three quarters of 2020 resulted primarily from decreased COVID-19-related costs, lower contributions to multi-employer pension plans, decreased incentive plan costs, the 2020 OG&A Adjusted Items, the effect of increased fuel sales, which decreases our OG&A rate, as a percentage of sales, and broad-based improvement from cost savings initiatives that drive administrative efficiencies, store productivity and sourcing cost reductions, partially offset by investments in hourly rate and benefits for our associates, the 2021 OG&A Adjusted Items and the effect of supermarket sales deleverage, excluding fuel, due to cycling COVID-19 trends which increases our OG&A expense, as a percentage of sales.
Excluding the effect of fuel, the 2021 OG&A Adjusted Items and the 2020 OG&A Adjusted Items, our OG&A rate decreased 82 basis points in the first three quarters of 2021, compared to the first three quarters of 2020. This decrease resulted primarily from decreased COVID-19-related costs, lower contributions to multi-employer pension plans, decreased incentive plan costs and broad-based improvement from cost savings initiatives that drive administrative efficiencies, store productivity and sourcing cost reductions, partially offset by investments in hourly rate and benefits for our associates and the effect of supermarket sales deleverage, excluding fuel, due to cycling COVID-19 trends which increases our OG&A expense, as a percentage of sales.
Rent Expense
Rent expense decreased in total and as a percentage of sales, in both the third quarter and first three quarters of 2021, compared to the same periods in 2020. These decreases resulted primarily from the completion of a property transaction related to 28 previously leased properties that we are now accounting for as owned locations and therefore recognizing depreciation and amortization expense over their useful life. For additional information about this transaction, see Note 2 to the Consolidated Financial Statements.
Depreciation and Amortization Expense
Depreciation and amortization expense remained consistent, as a percentage of sales, in both the third quarter and first three quarters of 2021, compared to the same periods in 2020.
Operating Profit and FIFO Operating Profit
Operating profit was $868 million, or 2.72% of sales, for the third quarter of 2021, compared to $792 million, or 2.67% of sales, for the third quarter of 2020. Operating profit, as a percentage of sales, increased 5 basis points in the third quarter of 2021, compared to the third quarter of 2020, due to the effect of increased sales to retail customers without fuel, decreased OG&A expense, as a percentage of sales, and increased fuel earnings, partially offset by an increased LIFO charge and a lower FIFO gross margin rate.
Operating profit was $2.5 billion, or 2.40% of sales, for the first three quarters of 2021, compared to $2.9 billion, or 2.89% of sales, for the first three quarters of 2020. Operating profit, as a percentage of sales, decreased 49 basis points in the first three quarters of 2021, compared to the first three quarters of 2020, due to the effect of reduced sales to retail customers without fuel, as we cycle prior year COVID-19 trends, an increased LIFO charge, a lower FIFO gross margin rate and decreased fuel earnings, partially offset by decreased OG&A expense, as a percentage of sales.
25
FIFO operating profit was $961 million, or 3.02% of sales, for the third quarter of 2021, compared to $815 million, or 2.74% of sales, for the third quarter of 2020. FIFO operating profit, as a percentage of sales, excluding the 2021 and 2020 Third Quarter Adjusted Items, increased 13 basis points in the third quarter of 2021, compared to the third quarter of 2020, due to decreased OG&A expense, as a percentage of sales, the effect of increased sales to retail customers without fuel and increased fuel earnings, partially offset by a lower gross margin rate.
FIFO operating profit was $2.7 billion, or 2.56% of sales, for the first three quarters of 2021, compared to $3.0 billion, or 2.96% of sales, for the first three quarters of 2020. FIFO operating profit, as a percentage of sales, excluding the 2021 and 2020 Adjusted Items, decreased 2 basis points in the first three quarters of 2021, compared to the first three quarters of 2020, due to the effect of reduced sales to retail customers without fuel as we cycle prior year COVID-19 trends, a lower gross margin rate and decreased fuel earnings, partially offset by decreased OG&A expense, as a percentage of sales.
Specific factors contributing to the operating trends for operating profit and FIFO operating profit above are discussed earlier in this section.
The following table provides a reconciliation of operating profit to FIFO operating profit, and to Adjusted FIFO operating profit, excluding the 2021 and 2020 Adjusted Items:
Operating Profit excluding the Adjusted Items
93
FIFO Operating profit
961
815
2,689
3,015
Adjustment for pension plan withdrawal liabilities
449
Adjustment for Home Chef contingent consideration
61
109
Adjustment for transformation costs(1)
107
100
2021 and 2020 Adjusted items
608
203
Adjusted FIFO operating profit excluding the adjusted items above
Income Taxes
The effective income tax rate was 13.8% and 24.2% for the third quarters of 2021 and 2020, respectively. The effective income tax rate was 17.9% and 23.4% for the first three quarters of 2021 and 2020, respectively. The effective income tax rate for the third quarter and the first three quarters of 2021 differed from the federal statutory rate due to a nonrecurring benefit of $47 million which was primarily from the favorable outcome of income tax audit examinations covering multiple years, the benefit from share-based payments and the utilization of tax credits, partially offset by the effect of state income taxes. The effective income tax rate for the third quarter and the first three quarters of 2020 differed from the federal statutory rate due to the effect of state income taxes, partially offset by the utilization of tax credits and deductions and the benefit from share-based payments.
Net Earnings and Net Earnings Per Diluted Share
Our net earnings are based on the factors discussed in the Results of Operations section.
Net earnings were $0.64 per diluted share for the third quarter of 2021 compared to net earnings of $0.80 per diluted share for the third quarter of 2020. Adjusted net earnings of $0.78 per diluted share for the third quarter of 2021 represented an increase of 9.9% compared to adjusted net earnings of $0.71 per diluted share for the third quarter of 2020. The increase in adjusted net earnings per diluted share resulted primarily from increased FIFO operating profit without fuel, increased fuel earnings and lower weighted average common shares outstanding due to common share repurchases, partially offset by a higher LIFO charge.
Net earnings were $1.43 per diluted share for the first three quarters of 2021 compared to net earnings of $3.35 per diluted share for the first three quarters of 2020. Adjusted net earnings of $2.77 per diluted share for the first three quarters of 2021 represented an increase of 4.1% compared to adjusted net earnings of $2.66 per diluted share for the first three quarters of 2020. The increase in adjusted net earnings per diluted share resulted primarily from increased FIFO operating profit without fuel and lower weighted average common shares outstanding due to common share repurchases, partially offset by decreased fuel earnings and a higher LIFO charge.
LIQUIDITY AND CAPITAL RESOURCES
Cash Flow Information
We generated $4.8 billion of cash from operations in the first three quarters of 2021 compared to $5.9 billion in the first three quarters of 2020. Net earnings including noncontrolling interests, adjusted for non-cash items, generated approximately $4.9 billion of operating cash flow in the first three quarters of 2021 compared to $4.8 billion in the first three quarters of 2020. Cash provided (used) by operating activities for changes in operating assets and liabilities, including working capital, was ($134) million in the first three quarters of 2021 compared to $1.1 billion in the first three quarters of 2020. The decrease in cash provided by operating activities for changes in operating assets and liabilities, including working capital, was primarily due to the following:
Cash paid for taxes decreased in the first three quarters of 2021, compared to the first three quarters of 2020, primarily due to lower taxable income in the first three quarters of 2021, compared to the first three quarters of 2020.
Investing activities used cash of $2.0 billion in each of the first three quarters of 2021 and 2020. The amount of cash used for investing activities for the first three quarters of 2021, compared to the first three quarters of 2020, remained consistent due to balanced payments for property and equipment and proceeds from the sale of assets.
We used $2.2 billion of cash for financing activities in the first three quarters of 2021 compared to $2.1 billion in the first three quarters of 2020. The amount of cash used for financing activities increased in the first three quarters of 2021 compared to the first three quarters of 2020, primarily due to the following:
Debt Management
As of November 6, 2021, we maintained a $2.75 billion (with the ability to increase by $1.25 billion), unsecured revolving credit facility that, unless extended, terminates on July 6, 2026. Outstanding borrowings under the credit facility, commercial paper borrowings, and some outstanding letters of credit reduce funds available under the credit facility. As of November 6, 2021, we had no outstanding commercial paper and no borrowings under our revolving credit facility. The outstanding letters of credit that reduce funds available under our credit facility totaled $3 million as of November 6, 2021.
Our bank credit facility and the indentures underlying our publicly issued debt contain a financial covenant. As of November 6, 2021, we were in compliance with the financial covenant. Furthermore, management believes it is not reasonably likely that we will fail to comply with the financial covenant in the foreseeable future.
Total debt, including both the current and long-term portions of obligations under finance leases, increased $308 million as of November 6, 2021 compared to our fiscal year end 2020 debt of $13.4 billion. This increase resulted primarily from the completion of a property transaction. We purchased and then immediately sold a portfolio of 28 of our existing stores, allowing us to secure long-term access to these locations at favorable lease rates. The structure used to complete this transaction requires our liability to be shown as debt. Additionally, there was a net increase in obligations under finance leases of $479 million primarily related to our two Kroger Delivery customer fulfillment center openings, which was partially offset by the payments of $300 million of senior notes bearing an interest rate of 2.60% and $500 million of senior notes bearing an interest rate of 2.95%.
Common Share Repurchase Program
During the third quarter of 2021, we invested $298 million to repurchase 7.3 million Kroger common shares at an average price of $40.74 per share. For the first three quarters of 2021, we invested $1.0 billion to repurchase 27.6 million Kroger common shares at an average price of $37.95 per share. The shares repurchased in the first three quarters of 2021 were reacquired under the following share repurchase programs:
The September 2020 Repurchase Program was exhausted on June 11, 2021. As of November 6, 2021, there was $511 million remaining under the June 2021 Repurchase Program.
Liquidity Needs
Based on current operating trends, we believe that cash flows from operating activities and other sources of liquidity, including borrowings under our commercial paper program and bank credit facility, will be adequate to meet our liquidity needs for the next twelve months and for the foreseeable future beyond the next twelve months. Our liquidity needs include anticipated requirements for working capital, capital investments, pension plan commitments, interest payments and scheduled principal payments of debt and commercial paper, offset by cash and temporary cash investments on hand at the end of the third quarter of 2021. We generally operate with a working capital deficit due to our efficient use of cash in funding operations and because we have consistent access to the capital markets. We have approximately $900 million of senior notes maturing in the next twelve months, $311 million of the employer portion of social security tax payments we have deferred under the CARES Act that is required to be paid by December 31, 2021 (as further discussed below) and expect to pay approximately $300 million in the first half of 2022 to satisfy a portion of certain newly restructured multi-employer pension plan commitments. We expect to satisfy these obligations using cash generated from operations, temporary cash investments on hand, or through the issuance of additional senior notes or commercial paper. We believe we have adequate coverage of our debt covenant to continue to maintain our current investment grade debt ratings and to respond effectively to competitive conditions.
We held cash and temporary cash investments of $2.3 billion as of the end of the third quarter of 2021, which reflects an increase compared to our fiscal year end 2020 balance of $1.7 billion, due to our strong operating performance in the first three quarters of 2021. We remain committed to our dividend and share repurchase program and we will evaluate the optimal use of any excess free cash flow, consistent with our previously stated capital allocation strategy.
The CARES Act, which was enacted on March 27, 2020, includes measures to assist companies in response to the COVID-19 pandemic. These measures include deferring the due dates of tax payments and other changes to income and non-income-based tax laws. As permitted under the CARES Act, as mentioned above, we deferred the remittance of the employer portion of the social security tax. The social security tax provision requires that the deferred employment tax be paid over two years, with half of the amount required to be paid by December 31, 2021 and the other half by December 31, 2022. During 2020, we deferred the employer portion of social security tax of $622 million. Of the total, $311 million is included in “Other current liabilities” and $311 million is included in “Other long-term liabilities” in our Consolidated Balance Sheets.
For additional information about our debt activity in the first three quarters of 2021, see Note 2 to the Consolidated Financial Statements.
CAPITAL INVESTMENTS
Capital investments, excluding mergers, acquisitions and the purchase of leased facilities, totaled $922 million for the third quarter of 2021 compared to $624 million for the third quarter of 2020. Capital investments, excluding mergers, acquisitions and the purchase of leased facilities, totaled $2.2 billion for the first three quarters of 2021 compared to $2.1 billion for the first three quarters of 2020. During the rolling four quarter period ended with the third quarter of 2021, we opened, expanded, relocated or acquired 10 supermarkets and also completed 69 major within-the-wall remodels. Total supermarket square footage at the end of the third quarter of 2021 remained consistent with the end of the third quarter of 2020. Excluding mergers, acquisitions and operational closings, total supermarket square footage at the end of the third quarter of 2021 increased 0.2% over the end of the third quarter of 2020.
CRITICAL ACCOUNTING POLICIES
We have chosen accounting policies that we believe are appropriate to report accurately and fairly our operating results and financial position, and we apply those accounting policies in a consistent manner. Our critical accounting policies are summarized in our Annual Report on Form 10-K for the fiscal year ended January 30, 2021.
The preparation of financial statements in conformity with GAAP requires us to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. We base our estimates on historical experience and other factors we believe to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results could vary from those estimates.
NEW ACCOUNTING STANDARDS
Refer to Note 6 to the Consolidated Financial Statements for recently issued accounting standards not yet adopted as of November 6, 2021.
TWO-YEAR FINANCIAL RESULTS
Significant fluctuations occurred in our business during 2020 due to the COVID-19 pandemic. As a result, management compares current year identical sales without fuel, adjusted FIFO operating profit and adjusted net earnings per diluted share results to the same metrics for the comparable period in 2019, in addition to comparisons made to 2020. This enables management to evaluate results of the business and our financial model over a longer period of time, and to better understand the state of the business after the height of the pandemic compared to the period of time prior to the pandemic. The purpose of the following tables is to better illustrate comparable two-year growth from our ongoing business for the third quarter and first three quarters of 2021 for identical sales without fuel, adjusted FIFO operating profit and adjusted net earnings per diluted share compared to the third quarter and first three quarters of 2019. Two-year financial results for these measures are useful metrics to investors and analysts because they present more accurate comparisons of results and trends over a longer period of time to demonstrate the effect of COVID-19 on our results. The tables provide the two-year stacked results or compounded annual growth rate for each measure presented and how it was calculated. Items identified in these tables should not be considered alternatives to any other measure of performance. These items should not be reviewed in isolation or considered substitutes for the Company's financial results including those measures reported in accordance with GAAP. Due to the nature of these items, as further described below, it is important to identify these items and to review them in conjunction with the Company's financial results reported in accordance with GAAP.
Identical Sales Two-Year Stacked
November 9,
2019
26,860
24,212
Individual year identical sales result
Two-year stacked identical sales result
92,759
80,485
14.3
Operating Profit Excluding the Adjusted Items Two-Year CAGR
254
1,714
277
1,783
45
Adjustment for severance charge and related benefits
Adjustment for impairment of Lucky's Market(2)
238
2021 and 2019 Adjusted items
376
454
653
2,237
Two-year operating profit CAGR(3)
84.9
21.1
Two-year adjusted FIFO operating profit excluding the adjusted items above CAGR(3)
22.1
21.4
Net Earnings per Diluted Share Excluding the Adjusted Items Two-Year CAGR
263
1,332
35
101
Adjustment for gain on sale of Turkey Hill Dairy(1)(4)
Adjustment for gain on sale of You Technology(1)(5)
Adjustment for loss (gain) on investments(1)(6)
(81)
(125)
Adjustment for impairment of Lucky's Market attributable to the Kroger Co.(1)(7)
Adjustment for Home Chef contingent consideration(1)(8)
(13)
Adjustment for transformation costs(1)(9)
Adjustment for severance charge and related benefits(1)(10)
2021 and 2019 Adjusted Items
(8)
381
1,324
0.32
1.64
Adjustment for pension plan withdrawal liabilities(11)
0.12
Adjustment for company-sponsored pension plan settlement charges(11)
Adjustment for gain on sale of Turkey Hill Dairy(11)
(0.10)
Adjustment for gain on sale of You Technology(11)
Adjustment for loss (gain) on investments(11)
(0.16)
Adjustment for impairment of Lucky's Market attributable to the Kroger Co.(11)
Adjustment for Home Chef contingent consideration(11)
Adjustment for transformation costs(11)
Adjustment for severance charge and related benefits(11)
0.08
Adjustment for completion of income tax audit examinations(11)
0.15
0.47
1.62
807
805
Two-year net earnings attributable to The Kroger Co. per diluted common share CAGR(12)
41.4
(6.6)
28.8
30.8
32
Net Earnings per Diluted Share Excluding the Adjusted Items Two-Year CAGR (continued)
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
There have been no material changes in our exposure to market risk from the information provided in Item 7A. Quantitative and Qualitative Disclosures About Market Risk in our Annual Report on Form 10-K for the fiscal year ended January 30, 2021.
Item 4. Controls and Procedures.
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 as of the quarter ended November 6, 2021, the end of the period covered by this report. Based on that evaluation, Kroger’s Chief Executive Officer and Chief Financial Officer concluded that Kroger’s disclosure controls and procedures (as defined in Rules 13a-15(e) and 15(d)-15(e) of the Exchange Act) were effective as of the end of the period covered by this report to provide reasonable assurance that information required to be disclosed by us in the reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the SEC’s rules and forms, and that such information is accumulated and communicated to our management, including the Chief Executive Officer and Chief Financial Officer, as appropriate, to allow timely decisions regarding required disclosure.
The Company is in the process of implementing a broad, multi-year, technology transformation project to modernize mainframe, middleware and legacy systems to achieve better process efficiencies across customer service, merchandising, sourcing, payroll and accounting through the use of various solutions. Implementation of new accounting ERP modules for general ledger, accounts receivable, accounts payable, fixed assets and a new indirect procurement module were implemented at the beginning of the first quarter of 2021. Additional phases of the project will continue to be implemented over the next several years. As of November 6, 2021, there have been no material additional implementations of modules since the beginning of the first quarter of 2021. As the Company’s technology transformation project continues, the Company continues to emphasize the maintenance of effective internal controls and assessment of the design and operating effectiveness of key control activities throughout development and deployment of each phase and will evaluate as additional phases are deployed.
There were no changes in Kroger’s internal control over financial reporting that materially affected, or were reasonably likely to materially affect, Kroger’s internal control over financial reporting during the quarter ended November 6, 2021.
PART II - OTHER INFORMATION
Item 1. Legal Proceedings.
Incorporated by reference herein is information regarding certain legal proceedings in which we are involved as set forth under “Litigation” contained in Note 7 – “Commitments and Contingencies” in the Notes to the Consolidated Financial Statements in Item 1 of Part I of this quarterly report on Form 10-Q.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
(c)
ISSUER PURCHASES OF EQUITY SECURITIES
Approximate
Dollar Value of
Shares that May
Total Number of
Yet Be
Shares Purchased
Purchased
Total Number
Average
as Part of Publicly
Under the Plans
of Shares
Price Paid Per
Announced Plans
or Programs(4)
Period(1)
Purchased(2)
Share(2)
or Programs(3)
(in millions)
First four weeks
August 15, 2021 to September 11, 2021
892,809
45.15
755
Second four weeks
September 12, 2021 to October 9, 2021
3,141,603
40.70
3,112,447
639
Third four weeks
October 10, 2021 to November 6, 2021
3,296,363
39.58
3,296,180
7,330,775
40.74
7,301,436
Item 6. Exhibits.
EXHIBIT 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, as amended by the Amendment to Amended Articles of Incorporation, which is hereby incorporated by reference to Exhibit 3.1 of the Company’s Quarterly Report on Form 10-Q for the quarter ended May 23, 2015.
EXHIBIT 3.2
The Company’s regulations are hereby incorporated by reference to Exhibit 3.1 of the Company’s Current Report on Form 8-K filed with the SEC on June 27, 2019.
EXHIBIT 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 SEC upon request.
EXHIBIT 31.1*
Rule 13a—14(a) / 15d—14(a) Certifications — Chief Executive Officer.
EXHIBIT 31.2*
Rule 13a—14(a) / 15d—14(a) Certifications — Chief Financial Officer.
EXHIBIT 32.1*
Section 1350 Certifications.
EXHIBIT 101.INS*
XBRL Instance Document - the instance document does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
EXHIBIT 101.SCH*
XBRL Taxonomy Extension Schema Document.
EXHIBIT 101.CAL*
XBRL Taxonomy Extension Calculation Linkbase Document.
EXHIBIT 101.DEF*
XBRL Taxonomy Extension Definition Linkbase Document.
EXHIBIT 101.LAB*
XBRL Taxonomy Extension Label Linkbase Document.
EXHIBIT 101.PRE*
XBRL Taxonomy Extension Presentation Linkbase Document.
EXHIBIT 104
Cover Page Interactive Data File - The cover page interactive data file does not appear in the Interactive Data File because its XBRL tags are embedded within the Inline XBRL document.
*Filed herewith
36
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: December 10, 2021
By:
/s/ W. Rodney McMullen
W. Rodney McMullen
Chairman of the Board and Chief Executive Officer
/s/ Gary Millerchip
Gary Millerchip
Senior Vice President and Chief Financial Officer
37