Kroger tallies Q3 gains as business transformation continues

Strong identical and digital sales growth lifted results at The Kroger Co. for the fiscal 2020 third quarter, as the supermarket giant topped Wall Street’s consensus earnings projection.

For the quarter ended Nov. 7, sales totaled $29.72 billion, up 6.3% from $27.97 billion a year earlier, Kroger said Thursday. Excluding fuel and dispositions, sales grew 11.3%, the Cincinnati-based company reported.

Identical sales excluding fuel climbed 10.9% year over year, while digital sales jumped 108%. Including gains of 14.6% in the second quarter and 19% in the first quarter, Kroger’s year-to-date identical sales without fuel are up 15.3%.

“We delivered strong results in the third quarter. Customers are at the center of everything we do, sales remain elevated and we continue to grow market share as we enhance our competitive moats: fresh, Our Brands, data and personalization and seamless,” Chairman and CEO Rodney McMullen told analysts in a conference call on Thursday.

'Customers across the country are still staying home, and cooking at home is now part of their new routine,' Kroger Chairman and CEO Rodney McMullen said.

High demand for groceries amid the coronavirus crisis continued to propel sales growth in the quarter, according to Kroger. On that front, the company noted that it secured an additional 5,000 truckloads of inventory and boosted distribution capacity reserves by 20% to mitigate potential supply disruptions. McMullen said the Our Brands private-label portfolio also saw its largest-ever product launch with 250 new items, including offerings in grocery, frozen and fresh produce as well as 50 new Simple Truth Plant Based products.  

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“As a result of the pandemic, we continue to see increased basket sizes and fewer customer visits. Customers across the country are still staying home, and cooking at home is now part of their new routine. We are fulfilling our customers’ growing demand for premium products as they seek joy and elevated experiences. We’re merchandising in new ways to both meet that demand and inspire our customers to trade up to items like premium jumbo blueberries and larger-size packages of strawberries, raspberries and grapes,” McMullen explained.

“[Meal kit subsidiary] Home Chef’s culinary innovation is inspiring customers with new oven-ready entrees and sides, flat bread, pizzas, salads and sandwiches. In the fresh soup category, we have introduced new flavorful and delicious Simple Truth and Home Chef varieties,” he said. “Our efforts are also driving strong market share growth in packaged produce, fresh prepared foods and specialty cheese. This is also where Our Brands really shine. Our multi-tiered brand portfolio positions us well to deliver against our customers’ diverse needs and desires.”

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Our Brands sales grew 8.6% in the third quarter, including gains of over 17% for the Private Selection and nearly 15% for the Simple Truth labels. “These are incredible numbers and demonstrate that while many competitors offer private-label products, Kroger’s unique approach to Our Brands is a differentiator and a competitive moat,” McMullen noted.

Online grocery expansion fueled e-commerce growth, as Kroger extended to 2,213 pickup sites and 2,468 delivery locations in the quarter. The company now reaches more than 98% of households in its market areas with e-grocery services.

“We are innovating and building out a flexible network of fulfillment options and working with key solutions providers. As we recently announced, we continue to progress in our Ocado facilities program with plans to build customer fulfillment centers in Michigan and in the south region of the country and the upcoming opening of our first two fulfillment centers in early 2021 in Monroe, Ohio, and Groveland, Fla.,” McMullen said, adding that Kroger also will leverage some of Ocado’s in-store fulfillment capabilities.

Triple-digit growth in digital media revenue also spurred strong growth in Kroger’s alternative profit business during the quarter

“Kroger’s digital sales are incrementally profitable today partly supported by our rapidly growing digital media business and partially fueled by our constant improvement in operational efficiency,” said McMullen. “This is true as the incremental pass-through rate of sales, and we have a clear path to continue improving digital profitability.”

Digital sales contributed about 4.6% growth to identical sales without fuel, according to Chief Financial Officer Gary Millerchip.

“Customer engagement with our digital solutions is driving overall loyalty. When customers engage with both our physical stores and digital channels, they visit more frequently and on average spend twice as much as those who shop in store only,” he said in the call. “The vast majority of our digital customers are shopping in store as well as online. We are therefore confident that the seamless experience we are building across our store and digital ecosystem position us well for continued growth in a post-COVID world.”

Kroger is improving digital profitability by lowering the cost to fulfill a pickup order and ramping up digital advertising income, Millerchip said. “We see a clear path to further improved digital profitability by leveraging our personalization tools to increase basket size and improve sales mix, further reduce the cost to fulfill an order by our process improvements and automation, and continue to grow digital media revenue,” he told analysts.

To minimize potential supply disruptions from the pandemic, Kroger secured another 5,000 truckloads of inventory and expanded distribution capacity reserves by 20% during the quarter.

At the bottom line, Kroger posted third-quarter net income of $631 million, or 80 cents per diluted share, compared with $263 million, or 32 cents per diluted share, a year ago. Excluding adjustments for investment gains, transformation costs and a contingent consideration for the Home Chef subsidiary, net earnings were $557 million, or 71 cents per diluted share, versus adjusted net income of $381 million, or 47 cents per diluted share, in the prior-year period.

Analysts, on average, had forecast adjusted earnings per share of 67 cents, with estimates ranging from a low of 58 cents to a high of 77 cents, according to Refinitiv/Thomson Reuters.

Kroger lifted its guidance for the full 2020 fiscal year. The company now forecasts adjusted EPS of $3.30 to $3.35 and identical sales growth of 14%, up from its previous outlook of $3.20 to $3.30 and a more than 13% identical sales increase.

“As a result of our continued strong sales and market share performance and the expectation of sustained trends in food-at-home consumption, for the remainder of our fiscal year, we are raising our full year 2020 guidance,” Millerchip said. “Our guidance contemplates continued investments in the customer and ongoing COVID-19-related costs to protect the safety of our customers and associates, balanced with continued execution of cost-saving initiatives and growth in alternative profits.

“Looking towards 2021,” he added, “we believe that our performance will be stronger than we would have expected prior to the pandemic, when viewed as a two-year stacked result for identical sales without fuel growth and as a compounded growth rate over 2020 and 2021 for adjusted earnings per share growth.”

Analysts’ consensus estimate is for fiscal 2020 adjusted EPS of $3.30, with projections running from a low of $3.20 to a high of $3.55, according to Refinitiv/Thomson Reuters.

Kroger noted that its fiscal 2020 fourth quarter will include a charge of 98 cents per diluted share (GAAP) from its agreement with 20 local United Food and Commercial Workers unions to invest $1 billion in retirement benefits for 33,000 associates. Under the deal, Kroger is withdrawing from UFCW’s national pension plan and transitioning member workers to a variable annuity-based pension plan.