Kroger rides GM assortment into surprising results

CINCINNATI —Kroger posted stellar results for the first quarter ended May 24, but shadows that loom for the company seem to be driving an evolving strategy that revolves around establishing a closer relationship with the customer.

In the first quarter, Kroger sales advanced 11.5% to $23.1 billion, while identical-supermarket sales gained 9.2% with fuel and 5.8% without. Net earnings totaled $386 million, or 58 cents per diluted share, versus $336.6 million, or 47 cents per diluted share, in the year-earlier period.

First-quarter results prompted Kroger to raise its identical sales and earnings guidance for fiscal 2008. Now, Kroger expects this year’s identical sales growth to come in between 4% and 5.5% excluding fuel, versus previous guidance of 3% to 5%, and anticipates earnings of $1.85 to $1.90 per diluted share now, versus an original guidance of $1.83 to $1.90 per diluted share. Updated earnings guidance is 9% to 12% above fiscal 2007 earnings results of $1.69 per diluted share.

It’s hard to say how much, if at all, the quarterly results reflected programs Kroger recently launched to enhance its relationship with customers in a tough economic climate. Still, the retailer seems to be determined to boost customer loyalty in a market where it remains close to—but doesn’t match—Wal-Mart in terms of pricing, and where it may be vulnerable to other extreme value operators such as Save-A-Lot.

Kroger chairman and ceo David Dillon, as part of a June 24 conference call, said, “Kroger’s performance during the quarter demonstrates the resiliency of our ‘Customer First’ strategy. Our associates are connecting well with customers as our strategy continues to drive identical sales growth and create shareholder value.”

Dillon said growing food and fuel costs are the top consumer concern today. Kroger is addressing them through expansion of private label—as research indicates, consumer acceptance is increasing—and other measures, including efforts to aid Kroger shoppers who are trying hard to stretch household budgets.

The company has expanded its $4 generic drug program, offered customers up to $120 in groceries when they buy Kroger gift cards through a tax refund gift card promotion, created a rewards program tied to its Mastercard and provided discounts on gasoline at a rate of 10 cents per gallon off for every $100 spent in stores. “These types of programs, and our associates’ exceptional abilities to execute them well, are just some of the reasons Kroger’s business is growing,” Dillon said.

Interestingly, Dillon pointed out the advantages afforded food retailers in the current economy that provide extensive general merchandise assortments alongside food. “We have built the ultimate ‘one-stop shop’ for customers in thousands of communities we serve,” he said. “Our combination stores, many with in-store pharmacies and a growing number of fuel sites, help our customers combine shopping trips.”

Despite good numbers, Kroger may find itself under pressure in the coming months, Smith Barney analyst Joseph Agnese said in a research note. “Despite increased demand for food-at-home and higher sales of wider-margin, private-label goods, we raise our fiscal year ’09 earnings per share estimate only 5 cents to $1.95, on potential margin pressure we see from rising food cost inflation,” he stated.

Citigroup analyst Deborah Weinswig saw it a bit differently in her research note, emphasizing Kroger’s momentum. “We were impressed with Kroger’s ability to beat our above consensus estimate [Weinswig 57 cents, consensus 55 cents] despite the impact of higher gas prices on gross margin. We believe Kroger will continue to benefit due to its lower prices versus supermarket competitors, strong traffic trend and sales-driving initiatives such as the tax rebate 10% bonus, gas discounts, and free groceries from the Rewards Mastercard.”