-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, K82504isaunSymgFanHX4wct5UPuiUrdjqlK5ZBCNmSsRAq/8nUxeDB5j3WvoDy6 rpQRF/4uxJqL/SSzN2rwMg== 0000950152-00-003212.txt : 20000428 0000950152-00-003212.hdr.sgml : 20000428 ACCESSION NUMBER: 0000950152-00-003212 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 10 CONFORMED PERIOD OF REPORT: 20000129 FILED AS OF DATE: 20000427 FILER: COMPANY DATA: COMPANY CONFORMED NAME: KROGER CO CENTRAL INDEX KEY: 0000056873 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-GROCERY STORES [5411] IRS NUMBER: 310345740 STATE OF INCORPORATION: OH FISCAL YEAR END: 0102 FILING VALUES: FORM TYPE: 10-K SEC ACT: SEC FILE NUMBER: 001-00303 FILM NUMBER: 610802 BUSINESS ADDRESS: STREET 1: 1014 VINE ST CITY: CINCINNATI STATE: OH ZIP: 45201 BUSINESS PHONE: 5137624000 10-K 1 THE KROGER CO. 10-K 1 SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-K ANNUAL REPORT Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 For the Fiscal Year Ended Commission File No. 1-303 January 29, 2000 THE KROGER CO. An Ohio Corporation I.R.S. Employer Identification No. 31-0345740 Address Telephone Number 1014 Vine St. (513) 762-4000 Cincinnati, Ohio 45202 Securities registered pursuant to section 12 (b) of the Act: Name of Exchange on Title of Class which Registered Common $1 par value New York Stock Exchange 830,804,611 shares outstanding on April 26, 2000 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 [X] No [ ]. Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of 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[ ]. The aggregate market value of the Common Stock of The Kroger Co. held by non-affiliates as of March 6, 2000: $12,256,639,106. Documents Incorporated by Reference: Proxy Statement to be filed pursuant to Regulation 14A of the Exchange Act on or before May 28, 2000, incorporated by reference into Parts II and III of Form 10-K. 2 PART I ITEM 1. BUSINESS The Kroger Co. (the "Company") was founded in 1883 and incorporated in 1902. As of January 29, 2000, the Company was the largest grocery retailer in the United States based on annual sales. The Company also manufactures and processes food for sale by 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. On May 27, 1999 Kroger issued 312 million shares of Kroger common stock in connection with a merger, for all of the outstanding common stock of Fred Meyer Inc., which operates stores primarily in the Western region of the United States. On March 9, 1998, Fred Meyer issued 82 million shares of Fred Meyer common stock in connection with a merger, for all of the outstanding stock of Quality Food Centers, Inc. ("QFC"), a supermarket chain operating in the Seattle/Puget Sound region of Washington state, and in Southern California. The mergers were accounted for as poolings of interests, and the accompanying financial statements have been restated to give effect to the consolidated results of Kroger, Fred Meyer and QFC for all years presented. On March 10, 1998, Fred Meyer acquired Food 4 Less Holdings, Inc. ("Ralphs/Food 4 Less"), a supermarket chain operating primarily in Southern California by issuing 44 million shares of common stock to the Ralphs/Food 4 Less stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Ralphs/Food 4 Less from the date of acquisition. On September 9, 1997, Fred Meyer acquired Smith's Food & Drug Centers, Inc., ("Smith's") a regional supermarket and drug store chain operating in the Intermountain and Southwestern regions of the United States, by issuing 66 million shares of common stock to the Smith's stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Smith's from the date of acquisition. On March 19, 1997, QFC acquired the principal operations of Hughes Markets, Inc. ("Hughes"), a supermarket chain operating in Southern California and its indirect 50% interest in Santee Dairy, one of the largest dairy plants in California. The merger was effected through the acquisition of 100% of the outstanding voting securities of Hughes for approximately $361 million cash, 20 million shares of common stock, and the assumption of $33 million of indebtedness of Hughes. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Hughes from the date of acquisition. On February 14, 1997, QFC acquired the principal operations of Keith Uddenberg, Inc. ("KUI"), a supermarket chain operating in the western and southern Puget Sound region of Washington. The merger was effected through the acquisition of the outstanding voting securities of KUI for $35 million cash, 4 million shares of common stock and the assumption of approximately $24 million of indebtedness of KUI. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of KUI from the date of acquisition. As of January 29, 2000, the Company operated 2,288 supermarkets, most of which are leased. Of this number 1,201 supermarkets were operated, directly, through a wholly-owned subsidiary, or through a partnership composed of the Company and wholly-owned subsidiaries of the Company, principally under the Kroger name in the Midwest and South. Dillon Companies, Inc. ("Dillon"), a wholly-owned subsidiary of the Company, operated 211 supermarkets directly or through wholly-owned subsidiaries (the "Dillon Supermarkets"). The Dillon Supermarkets, principally located in Colorado, Kansas, and Missouri, operate under the names "King Soopers," "Dillon Food Stores," and "City Market." Fred Meyer, Inc. ("Fred Meyer"), a wholly-owned subsidiary of the Company, operated 876 supermarkets directly or through wholly-owned subsidiaries (the "Fred Meyer Supermarkets"). The Fred Meyer Supermarkets, principally located in California, Utah, Arizona, Nevada, Washington, and Oregon operate under the names "Fred Meyer," "Smiths," "Food 4 Less," "Ralphs," "Fry's," and "QFC." Fred Meyer also operated 389 jewelry stores. The Company employs approximately 305,000 full and part-time employees. As of January 29, 2000, the Company, through its Dillon subsidiary, operated 796 convenience stores under the trade names of "Kwik Shop," "Quik Stop Markets," "Tom Thumb Food Stores," "Turkey Hill Minit Markets," "Loaf 'N Jug," and "Mini-Mart." The Company owned and operated 692 of these stores while 104 were operated through franchise agreements. The convenience stores offer a limited assortment of staple food items and general merchandise and, in most cases, sell gasoline. The Company intends to develop new food and convenience store locations and will continue to assess existing stores as to possible replacement, remodeling, enlarging, or closing. SEGMENTS The Company operates retail food and drug stores, multi-department stores, jewelry stores, and convenience stores in the Midwest, South and West. The Company's retail operations, which represent approximately 98% of consolidated sales, is its only reportable segment. All of the Company's operations are domestic. 3 ITEM 2. PROPERTIES As of January 29, 2000, the Company operated more than 3,300 owned or leased supermarkets, convenience stores, distribution warehouses, and food processing facilities through divisions, marketing areas, subsidiaries or affiliates. These facilities are located principally in the Southern, Midwestern, and Western portions of the United States. 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 January 29, 2000 was $13.04 billion while the accumulated depreciation was $4.77 billion. Leased premises generally have base terms ranging from ten to twenty-five years with renewal options for additional periods. Some options provide the right to purchase the property after 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, processing and miscellaneous facilities generally are payable monthly at stated amounts. For additional information on leased premises, see footnote 10 in the Notes to Consolidated Financial Statements. 2 4 ITEM 3. LEGAL PROCEEDINGS On September 13, 1996, a class action lawsuit titled McCampbell, et al. v. Ralphs Grocery Company, et al, as filed in the Superior Court of the State of California, County of San Diego, against Ralphs Grocery Company ("Ralphs/Food 4 Less") and two other grocery store chains operating in the Southern California area. The complaint alleged, among other things, that Ralphs/Food 4 Less and others conspired to fix the retail price of eggs in Southern California. The plaintiffs claimed that the defendants' actions violated provisions of the California Cartwright Act and constituted unfair competition. The plaintiffs sought damages they purported to have sustained as a result of the defendants' alleged actions, which damages were subject to trebling under the applicable statute, and an injunction from future actions in restraint of trade and unfair competition. A class was certified consisting of all retail purchasers of white chicken eggs sold by the dozen in Los Angeles, Riverside, San Diego, San Bernardino, Imperial and Orange counties from September 13, 1992. The case proceeded to trial before a jury in July and August 1999. On September 2, 1999, the jury returned a verdict in favor of Ralphs/Food 4 Less and against the plaintiffs. Judgment was entered in favor of Ralphs/Food 4 Less on November 1, 1999. Plaintiffs have appealed the judgment. There are pending against the Company various claims and lawsuits arising in the normal course of business, including suits charging violations of certain antitrust and civil rights laws. 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 these claims and lawsuits, nor their likelihood of success, the Company is of the opinion that any resulting liability will not have a material adverse effect on the Company's financial position. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 3 5 PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS Common Stock Price Range - ----------------------------------------------------------------------------- 2000 1999 ---- ---- Quarter High Low High Low - ------- --------- --------- --------- --------- 1st 34-29/32 24-7/8 23-21/32 16-17/32 2nd 31-3/8 24-1/8 23-3/4 20-3/32 3rd 26-15/16 19-1/2 27-1/16 21 4th 24-1/4 14-7/8 30-13/32 22 Main trading market - New York Stock Exchange (Symbol KR) Number of shareowners at year-end 1999: 51,000. Number of shareowners at April 26, 2000: 51,286. Determined by number of shareholders of record The Company has not paid dividends on its Common Stock for the past three fiscal years. Under the Company's Credit Agreement dated may 28, 1997, the Company is prohibited from paying cash dividends during the term of the Credit Agreement. The Company is permitted to pay dividends in the form of stock of the Company. 4 6 ITEM 6. SELECTED FINANCIAL DATA SELECTED FINANCIAL DATA
FISCAL YEARS ENDED --------------------------------------------------------------------- JANUARY 29, January 2, December 27, December 28, December 30, 2000 1999 1997 1996 1995 (52 WEEKS) (53 Weeks) (52 Weeks) (52 Weeks) (52 Weeks) --------------------------------------------------------------------- (IN MILLIONS OF DOLLARS, EXCEPT PER SHARE AMOUNTS) Sales.................................... $45,352 $43,082 $33,927 $29,701 $28,090 Earnings before extraordinary loss....... 638 494 589 436 369 Extraordinary loss (net of income tax benefit) (A)........................... (10) (257) (124) (3) (16) Net earnings............................. 628 237 465 433 353 Diluted earnings per share Earnings before extraordinary loss..... 0.74 0.58 0.79 0.64 0.55 Extraordinary loss (A)................. (0.01) (0.30) (0.16) (0.01) (0.03) Net earnings........................... 0.73 0.28 0.63 0.63 0.52 Total assets............................. 17,966 16,641 11,718 7,889 6,999 Long-term obligations, including obligations under capital leases....... 9,555 9,274 6,665 5,079 4,310 Shareowners' deficit..................... 2,683 1,917 917 (537) (988) Cash dividends per common share.......... (B) (B) (B) (B) (B)
- -------------------------------------------------------------------------------- (A) See Note 7 to Consolidated Financial Statements. (B) The Company is prohibited from paying cash dividends under the terms of its Credit Agreement. 5 7 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS BUSINESS COMBINATIONS On May 27, 1999 Kroger issued 312 million shares of Kroger common stock in connection with a merger, for all of the outstanding common stock of Fred Meyer Inc., which operates stores primarily in the Western region of the United States. On March 9, 1998, Fred Meyer issued 82 million shares of Fred Meyer common stock in connection with a merger, for all of the outstanding stock of Quality Food Centers, Inc. ("QFC"), a supermarket chain operating in the Seattle/Puget Sound region of Washington state, and in Southern California. The mergers were accounted for as poolings of interests, and the accompanying financial statements have been restated to give effect to the consolidated results of Kroger, Fred Meyer and QFC for all years presented. On March 10, 1998, Fred Meyer acquired Food 4 Less Holdings, Inc. ("Ralphs/Food 4 Less"), a supermarket chain operating primarily in Southern California by issuing 44 million shares of common stock to the Ralphs/Food 4 Less stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Ralphs/Food 4 Less from the date of acquisition. On September 9, 1997, Fred Meyer acquired Smith's Food & Drug Centers, Inc., ("Smith's") a regional supermarket and drug store chain operating in the Intermountain and Southwestern regions of the United States, by issuing 66 million shares of common stock to the Smith's stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Smith's from the date of acquisition. On March 19, 1997, QFC acquired the principal operations of Hughes Markets, Inc. ("Hughes"), a supermarket chain operating in Southern California and its indirect 50% interest in Santee Dairy, one of the largest dairy plants in California. The merger was effected through the acquisition of 100% of the outstanding voting securities of Hughes for approximately $361 million cash, 20 million shares of common stock, and the assumption of $33 million of indebtedness of Hughes. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Hughes from the date of acquisition. On February 14, 1997, QFC acquired the principal operations of Keith Uddenberg, Inc. ("KUI"), a supermarket chain operating in the western and southern Puget Sound region of Washington. The merger was effected through the acquisition of the outstanding voting securities of KUI for $35 million cash, 4 million shares of common stock and the assumption of approximately $24 million of indebtedness of KUI. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of KUI from the date of acquisition. RESULTS OF OPERATIONS The following discussion summarizes our operating results for 1999 compared to 1998 and 1998 compared to 1997. However, 1999 results are not directly comparable to 1998 results and 1998 results are not directly comparable to 1997 results due to recent acquisitions (see footnote 2 of the financial statements) and also due to the change in our fiscal calendar in 1999 (the "Calendar Change"). As a result of our change in fiscal calendar, results of operations and cash flows for the 28 day period ended January 30, 1999 for pre-merger Kroger are not included in the Statements of Income and Cash Flow. The 1998 results include the results of Ralphs/Food 4 Less from March 10, 1998. The 1997 results include the results of KUI from February 14, 1997, Hughes from March 19, 1997 and Smith's from September 9, 1997, and exclude the results of Ralphs/Food 4 Less. 1999 VS. 1998 Sales Total sales for 1999 increased 5.3% or $2.3 billion from $43.1 billion in 1998. For some Kroger divisions, fiscal 1999 contained 52 weeks compared to 53 weeks in 1998. Total sales increased 6.1%, after adjusting for the 6 8 change in Kroger's fiscal calendar, a 53rd week of sales in 1998, and excluding sales from divested stores. The sales increase was driven by recent acquisitions, our capital expenditure program, and strong comparable store sales. Our sales in identical food stores, which include stores in operation and not expanded or relocated for four full quarters, increased 2.3% in 1999. Comparable store sales, which include expansions and relocations, increased 3.0% in 1999. Excluding the Fry's Division, which converted 35 former Smith's stores to the Fry's banner, identical food store sales increased 2.8% and comparable store sales increased 3.4%. Merchandise Costs Merchandise costs include advertising, warehousing and transportation expenses. Merchandise costs, net of one-time expenses, an accounting change made in 1998 (see note 4 of the financial statements) and the effect of LIFO for the year, as a percent of sales were 73.43% in 1999 and 74.06% in 1998. After adjusting for the calendar change and excluding costs related to mergers, merchandise costs as a percent of sales were 73.87% in 1998. Coordinated purchasing, category management, technology related efficiencies and increases in private label sales were primarily responsible for the decline. Operating and Administrative Expenses Operating and administrative expenses as a percent of sales were 18.1% in 1999 and 18.0% in 1998. Adjusting 1998 amounts to reflect the calendar change and a 52-week year, administrative expenses as a percent of sales were 18.2%. These costs remained flat during 1999 due to a continued high incentive payout based on performance. Additionally, we incurred $27 million of one-time operating and administrative expenses in 1999 compared to only $12 million in 1998. Income Taxes Our effective tax rate increased to 43.6% in 1999 from 43.3% in 1998, due to non deductible transaction costs related to mergers of approximately $26 million in 1999. Net Earnings Net earnings and the effects of merger related costs, one-time expenses, the accounting change and extraordinary losses for the two years ended January 29, 2000 were:
1999 1998 --------- --------- (MILLIONS OF DOLLARS) --------------------- Earnings before extraordinary loss excluding merger related costs, one-time expenses and the accounting change........ $ 966 $ 763 Merger related costs, net of income tax benefit............. 277 181 One-time expenses, net of income tax benefit................ 51 32 Accounting change, net of income tax benefit................ -- 56 ------- ------- Earnings before extraordinary loss.......................... 638 494 Extraordinary loss, net of income tax benefit............... (10) (257) ------- ------- Net Earnings................................................ $ 628 $ 237 ======= ======= Diluted earnings per share before extraordinary loss excluding merger related costs, one-time expenses and accounting change......................................... $ 1.13 $ 0.89
Extraordinary losses were incurred from the early retirement of debt. In addition to the above mentioned items, net earnings in 1999 compared to 1998 were affected by net interest expense of $652 million in 1999 7 9 compared to $645 million in 1998 and depreciation and amortization expenses of $961 million in 1999 compared to $837 million in 1998. EBITDA Our Credit Agreement, Senior Credit Facility and the indentures underlying approximately $162 million of publicly issued debt, contain various restrictive covenants. Many of these covenants are based on earnings before interest, taxes, depreciation, amortization, LIFO charge, extraordinary loss, and one-time items ("EBITDA"). The ability to generate EBITDA at levels sufficient to satisfy the requirements of these agreements is a key measure of our financial strategy. We do not intend to present EBITDA as an alternative to any generally accepted accounting principle measure of performance. Rather, we believe the presentation of EBITDA is important for understanding our performance compared to our debt covenants. The calculation of EBITDA is based on the definition contained in our Credit Agreement. This may be a different definition than other companies use. We were in compliance with all EBITDA-based Credit Agreement, Senior Credit Facility and indenture covenants on January 29, 2000. EBITDA for 1999 increased 14.3% to $3.2 billion from $2.8 billion in 1998. EBITDA increased primarily due to recent acquisitions, economies of scale resulting from increased sales, and from the efficiencies mentioned in "Merchandise Costs" above. The following is a summary of the calculation of EBITDA for the 1999 and 1998 fiscal years:
1999 1998 --------- --------- (MILLIONS OF DOLLARS) --------------------- Earnings before tax expense and extraordinary loss.......... $1,129 $ 871 Interest.................................................... 652 645 Depreciation................................................ 861 745 Goodwill amortization....................................... 100 92 LIFO effect................................................. (29) 10 One-time items included in merchandise costs................ 58 49 One-time items included in operating, general and administrative expenses................................... 27 12 Merger related costs........................................ 383 269 Accounting change........................................... -- 90 ------ ------ EBITDA...................................................... $3,181 $2,783 ====== ======
1998 VS. 1997 Sales Total sales for 1998 increased 27% or $9.2 billion from $33.9 billion in 1997. For some Kroger divisions, fiscal 1998 contained 53 weeks compared to 52 weeks in 1997. Adjusting for the extra week, total sales increased 26% or $8.7 billion. Recent acquisitions, our capital expenditure program and strong comparable store sales drove the sales increase. The Ralphs/Food 4 Less and Smith's acquisitions accounted for $6.9 billion of the increase. Pre-merger Kroger sales in identical food stores, which includes stores in operation and not expanded or relocated for four full quarters, increased 1.0% in 1998. For purposes of this calculation, Fred Meyer, Inc.'s comparable store sales, which include identical stores plus expanded and relocated stores, increased 3.2% in 1998. For purposes of this calculation, Fred Meyer, Inc. is defined as Fred Meyer and its consolidated subsidiaries before the merger with Kroger. The comparable store sales calculation assumed that the Ralphs/Food 4 Less and Smith's acquisitions occurred at the beginning of the comparable periods and excluded the Hughes and Smitty's stores which are currently being converted to other formats. 8 10 Accounting Change In the second quarter of 1998, Kroger changed its application of the Last-In, First-Out, or LIFO method of accounting for store inventories from the retail method to the item cost method. The change was made to more accurately reflect inventory value by eliminating the averaging and estimation inherent in the retail method. The cumulative effect of this change on periods prior to December 28, 1997 cannot be determined. The effect of the change on the December 28, 1997 inventory valuation, which includes other immaterial modifications in inventory valuation methods, was included in restated results for the quarter ended March 21, 1998. This change increased merchandise costs by $90 million and reduced earnings before extraordinary loss and net earnings by $56 million, or $0.07 per diluted share. We have not calculated the pro forma effect on prior periods because cost information for these periods is not determinable. The item cost method did not have a material impact on earnings subsequent to its initial adoption. Merchandise Costs Merchandise costs include advertising, warehousing and transportation expenses. Merchandise costs, net of one-time expenses, the accounting change and LIFO charge, as a percent of sales were 74.06% in 1998 and 75.06% in 1997. Coordinated purchasing, category management, technology related efficiencies and increases in private label sales caused the decline. Operating and Administrative Expenses Operating and administrative expenses as a percent of sales were 18.0% in 1998 and 17.9% in 1997. The slight increase was due to higher incentive payouts based on our 1998 performance and $12 million of one-time expenses. These were partially offset by the suspension of contributions totaling $45 million for 1998 to some of our multi-employer pension and benefit plans. Income Taxes The effective tax rate increased to 43.3% in 1998 from 38.3% in 1997 due to acquisitions accounted for under the purchase method of accounting resulting in goodwill amortization that is not deductible for tax purposes. Goodwill amortization was $92 million in 1998 and $16 million in 1997. Net Earnings Net earnings and the effects of merger related costs, one-time expenses, the accounting change and extraordinary losses for the two years ended January 2, 1999 were:
1998 1997 --------- --------- (MILLIONS OF DOLLARS) --------------------- Earnings before extraordinary loss excluding merger related costs, one-time expenses and the accounting change........ $ 763 $ 589 Merger related costs, net of income tax benefit............. 181 -- One-time expenses, net of income tax benefit................ 32 -- Accounting change, net of income tax benefit................ 56 -- ------- ------- Earnings before extraordinary loss.......................... 494 589 Extraordinary loss, net of income tax benefit............... (257) (124) ------- ------- Net Earnings................................................ $ 237 $ 465 ======= ======= Diluted earnings per share before extraordinary loss excluding merger related costs, one-time expenses and accounting change......................................... $ 0.89 $ 0.79
9 11 Extraordinary losses were from the early retirement of debt. In addition to the above mentioned items, net earnings in 1998 compared to 1997 were affected by net interest expense of $645 million in 1998 compared to $388 million in 1997 and depreciation and amortization expenses of $837 million in 1998 compared to $592 million in 1997. EBITDA EBITDA for 1998 increased 43.7% to $2.8 billion from $1.9 billion in 1997. EBITDA increased primarily due to recent acquisitions, economies of scale resulting from increased sales and from the efficiencies mentioned in "Merchandise Costs" above. The following is a summary of the calculation of EBITDA for the 1998 and 1997 fiscal years:
1998 1997 --------- --------- (MILLIONS OF DOLLARS) --------------------- Earnings before tax expense and extraordinary loss.......... $ 871 $ 954 Interest.................................................... 645 388 Depreciation................................................ 745 576 Goodwill amortization....................................... 92 16 LIFO........................................................ 10 3 One-time items included in merchandise costs................ 49 -- One-time items included in operating, general and administrative expenses................................... 12 -- Merger related costs........................................ 269 -- Accounting change........................................... 90 -- ------ ------ EBITDA...................................................... $2,783 $1,937 ====== ======
MERGER RELATED COSTS AND ONE TIME EXPENSES MERGER RELATED COSTS We are continuing the process of implementing our integration plan relating to recent mergers. The integration plan includes distribution consolidation, systems integration, store conversions, transaction costs, store closures, and administration integration. Total merger related costs incurred were $383 million in 1999 and $269 million in 1998. We did not incur any merger related costs during 1997. The following table presents the components of the merger related costs:
1999 1998 ------- ------- (MILLIONS OF DOLLARS) --------------------- CHARGES RECORDED AS CASH EXPENDED Distribution consolidation............................. $ 30 $ 16 Systems integration.................................... 85 50 Store conversions...................................... 51 48 Transaction costs...................................... 93 34 Administration integration............................. 19 12 ---- ---- 278 160
10 12
1999 1998 ------- ------- (MILLIONS OF DOLLARS) --------------------- NONCASH ASSET WRITEDOWN Distribution consolidation............................. $ -- $ 29 Systems integration.................................... 3 26 Store conversions...................................... 10 -- Store closures......................................... 4 25 Administration integration............................. 27 3 ---- ---- 44 83 ACCRUED CHARGES Distribution consolidation............................. 5 -- Systems integration.................................... 1 1 Transaction costs...................................... -- 6 Store closures......................................... 8 7 Administration integration............................. 47 12 ---- ---- 61 26 ---- ---- Total merger related costs.................................. $383 $269 ==== ==== TOTAL CHARGES Distribution consolidation............................. $ 35 $ 45 Systems integration.................................... 89 77 Store conversions...................................... 61 48 Transaction costs...................................... 93 40 Store closures......................................... 12 32 Administration integration............................. 93 27 ---- ---- Total merger related costs.................................. $383 $269 ==== ====
Distribution Consolidation This represents costs to consolidate manufacturing and distribution operations and eliminate duplicate facilities. During 1999, approximately $30 million of these costs was recorded as cash was expended. These costs include approximately $20 million of Tolleson warehouse expenses. Severance costs of $5 million were accrued during 1999 for distribution employees in Phoenix. The 1998 costs include a $29 million writedown to estimated net realizable value of the Hughes distribution center in Southern California. The facility was sold in March of 2000. The 1998 costs also include $13 million for incremental labor incurred during the closing of the distribution center and other incremental costs incurred as part of the realignment of our distribution system. Systems Integration This represents the costs of integrating systems and the related conversions of corporate office and store systems. Charges recorded as cash was expended totaled $85 million and $50 million in 1999 and 1998, respectively. These costs represent incremental operating costs, principally labor, during the conversion process, payments to third parties, and training costs. The 1998 costs include a $26 million writedown of computer equipment and related software that has been abandoned and the depreciation associated with computer equipment at QFC which is being written off over 18 months, at which time it will be abandoned. Store Conversions This includes the cost to convert store banners. In 1999, $51 million represented cash expenditures and $10 million represented asset write offs. In 1998 all costs represented incremental cash expenditures for advertising 11 13 and promotions to establish the banner, changing store signage, labor required to remerchandise the store inventory and other services that were expensed as incurred. Transaction Costs This represents fees paid to outside parties, employee bonuses that were contingent upon the completion of the mergers, and an employee stay bonus program. We incurred costs totaling $93 million and $40 million for 1999 and 1998, respectively, related primarily to professional fees and employee bonuses recorded as the cash was expended. All accrued amounts relate to the employee stay bonus program. Store Closures This includes the costs to close stores identified as duplicate facilities and to sell stores pursuant to settlement agreements. 1999 costs of $8 million were accrued to close seven stores identified as duplicate facilities and to sell three stores pursuant to a settlement with the Federal Trade Commission ("FTC Stores"). Included in 1998 amounts were costs to close four stores identified as duplicate facilities and to sell three stores pursuant to a settlement agreement with the State of California ("AG Stores"). The asset writedown of $25 million in 1998 relates to certain California stores. Termination costs totaling $7 million were accrued in 1998. Administration Integration This represents $19 million of severance and travel and consulting services related to integration work; $27 million of asset write downs including video tapes and equipment used in our stores; and $47 million of accrued expenses. The accrued expenses include an obligation to make a charitable contribution (within seven years from the date of the Fred Meyer merger) as required by the merger agreement, a restricted stock award related to the achievement of expected merger synergy benefits, and severance costs for some Fred Meyer executives who informed us of their intention to leave Kroger, which have subsequently been paid. ONE-TIME EXPENSES During 1999, we incurred one-time expenses of $85 million associated with costs related to recent mergers. These expenses are included in merchandise costs, $58 million, and operating, general and administrative expenses, $27 million. During 1998, we incurred a one-time expense associated with logistics projects. This expense included the costs associated with ending a joint venture related to a warehouse operation that formerly served our Michigan stores and several independent customers. The warehouse is now operated by a third party that distributes our inventory to our Michigan stores. These expenses also included the transition costs related to one of our new warehouses, and one new warehouse facility operated by an unaffiliated entity that provides services to us. These costs included carrying costs of the facilities idled as a result of these new warehouses and the associated employee severance costs. Additionally, in the second quarter of 1998, we incurred one-time expenses associated with accounting, data, and operations consolidations in Texas. These included the costs of closing eight stores and relocating the remaining Dallas office employees to a smaller facility. These expenses, which included non-cash asset writedowns, were included in operating, general and administrative expenses. These expenses include an amount for estimated rent or lease termination costs that will be paid on closed stores through 2013. The "Other" column in the table below details the activity for amounts accrued related to these one-time expenses. The remaining balance at January 29, 2000 represents $2 million of idled warehouse facilities that will be paid through 2001 and $7 million of estimated rent or lease termination costs that will be paid on closed stores through 2013. 12 14 A summary of changes in accruals related to various business combinations and other one-time expenses follows:
INCENTIVE FACILITY EMPLOYEE AWARDS AND CLOSURE COSTS SEVERANCE CONTRIBUTIONS OTHER ------------- --------- ------------- ----- Balance at December 26, 1996....................... $ -- $-- $-- $-- Additions........................................ 23 9 -- -- Payments......................................... (4) (1) -- -- ---- --- --- --- Balance at December 27, 1997....................... 19 8 -- -- Additions........................................ 129 41 -- 35 Payments......................................... (15) (16) -- (16) Adjustments...................................... -- (3) -- -- ---- --- --- --- Balance at January 2, 1999......................... 133 30 -- 19 Additions........................................ 8 24 29 -- Payments......................................... (11) (25) -- (10) ---- --- --- --- Balance at January 29, 2000........................ $130 $29 $29 $ 9 ==== === === ===
LIQUIDITY AND CAPITAL RESOURCES Debt Management We have several lines of credit totaling approximately $4 billion with $874 million of unused balances at January 29, 2000. In addition, we have a $500 million synthetic lease credit facility and a $195 million money market line with unused balances of $38 million and $100 million, respectively, at January 29, 2000. Total debt, including capital leases and current portion thereof, increased $400 million to $9.0 billion in 1999 and $2.8 billion to $8.6 billion in 1998. Business acquisitions accounted for under the purchase method of accounting primarily caused the increases. We purchased a portion of the debt issued by the lenders of some structured financings in an effort to reduce our effective interest expense. We also prefunded $200 million of employee benefit costs at year-end 1999 and 1998 compared to $168 million at year-end 1997. If we exclude the debt incurred to make these purchases, which we classify as investments, and the prefunding of employee benefits, our total debt would have been $8.7 billion at year-end 1999 compared to $8.3 billion at year-end 1998, and $5.5 billion at year-end 1997. We utilize interest rate swaps to manage net exposure to interest rate changes related to our portfolio of borrowings. See footnotes eight and nine of our financial statements for further detail on our debt portfolio and interest rate swaps. In addition to the available credit mentioned above, we currently have available for issuance $1.225 billion of securities under a shelf registration statement filed with the Securities and Exchange Commission and declared effective on February 2, 2000. Common Stock Repurchase Program On January 29, 1997, we began repurchasing common stock in order to reduce dilution caused by our stock option plans for employees. These repurchases were made using the proceeds, including the tax benefit, from options exercised. Further repurchases of up to $100 million of common stock were authorized by the board of Directors in October 1997. We made open market purchases totaling $122 million in 1998, and $85 million in 1997. On October 18, 1998, we rescinded the repurchase program as a result of execution of the merger agreement between Kroger and Fred Meyer. In December 1999, we began a new program to repurchase common stock to 13 15 reduce dilution caused by our stock option plans for employees. This program is solely funded by proceeds from stock option exercises, including the tax benefit. In January 2000 the Board of Directors authorized an additional repurchase plan for up to $100 million of common stock. During 1999, we made open market purchases of approximately $4 million under the stock option program and $2 million under the $100 million program. In addition, on March 31, 2000 the Board of Directors authorized the repurchase of up to $750 million of Kroger common stock. This repurchase program replaces the $100 million program authorized in January 2000. 14 16 CONSOLIDATED STATEMENT OF CASH FLOWS Operating cash flow decreased 15% or $280 million in 1999 and increased 65% or $725 million in 1998. The changes in operating cash flow were primarily due to changes in operating assets and liabilities that used $340 million of cash in 1999, provided $455 million of cash in 1998 and used $133 million of cash in 1997. The decrease in 1999 and increase in 1998 also included non-cash charges from extraordinary losses, depreciation expense and goodwill amortization totaling $971 million in 1999, $1,094 million in 1998, and $716 million in 1997. Cash used by investing activities increased 24% or $355 million in 1999 and 24% or $287 million in 1998. Investing activities consisted primarily of capital expenditures and business acquisitions. Capital expenditures were $1,701 million in 1999, $1,646 million in 1998, and $942 million in 1997 (see "Capital Expenditures" below for further detail). Cash used for business acquisitions, net of cash acquired, was $230 million in 1999, $86 million in 1998 and, $354 million in 1997. Cash provided by financing activities was $280 million in 1999 compared to $257 million used in 1998, and $118 million provided in 1997. In addition to finance charges of $11 million in 1999, $118 in 1998, and $33 million in 1997 related to debt issues, we paid premiums of $2 million in 1999, $308 million in 1998, and $127 million in 1997 to retire debt early. The table below provides information about debt repurchases and redemptions for the three years ended January 29, 2000.
1999 1998 1997 -------- ------ ------ (MILLIONS OF DOLLARS) Senior Debt repurchases and redemptions................ $ -- $1,246 $ 117 Senior subordinated debt repurchases................... $ 238 $ 835 $ 889 Term note repurchases.................................. $ 1,406 $1,047 $ 654 Mortgage loan prepayments.............................. $ -- $ 219 $ 178
We used the proceeds from the issuance of new senior debt, additional bank borrowings and cash generated from operations to make these repurchases, redemptions and prepayments. 15 17 CAPITAL EXPENDITURES Capital expenditures excluding acquisitions totaled $1.7 billion in 1999 compared to $1.6 billion in 1998 and $0.9 billion in 1997, most of which was incurred to construct new stores. The table below shows our storing activity for food stores and multi-department stores:
1999 1998 1997 ----- ----- ----- Beginning of year.......................................... 2,191 1,660 1,465 Opened..................................................... 100 101 71 Acquired................................................... 78 572 167 Closed..................................................... (81) (142) (43) ----- ----- ----- End of year................................................ 2,288 2,191 1,660 ===== ===== =====
EFFECT OF INFLATION While management believes that some portion of the increase in sales is due to inflation, it is difficult to segregate and to measure the effects of inflation because of changes in the types of merchandise sold year-to-year and other pricing and competitive influences. Although management believes there was inflation in retail prices, we experienced deflation in our costs of product due to synergies and the economies of scale created by recent mergers. By attempting to control costs and efficiently utilize resources, we strive to minimize the effects of inflation on operations. OTHER ISSUES On January 6, 1999, we changed our fiscal year-end to the Saturday nearest January 31 of each year. This change is disclosed in our Current Report on Form 8-K dated January 6, 1999. We filed separate audited financial statements covering the transition period from January 3, 1999 to January 30, 1999 on a Current Report on Form 8-K dated May 10, 1999. These financial statements included Kroger and its consolidated subsidiaries before the merger with Fred Meyer. During the transition period we had sales of $2,160 million, costs and expenses of $2,135 million, and net earnings of $25 million. On May 20, 1999, we announced a distribution in the nature of a two-for-one stock split, to shareholders of record of common stock on June 7, 1999. All share amounts prior to this date have been restated to reflect the split. In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standard (SFAS) No. 133, "Accounting for Derivative Instruments and Hedging Activities." This standard, as amended, is effective for fiscal years beginning after June 15, 2000. As a result, implementation of this standard is not mandatory for the Company until February 4, 2001. Based on our current portfolio, we expect that the adoption of this standard will not have a material impact on the financial statements. We will continue to evaluate the impact this standard will have as our portfolio changes. We indirectly own a 50% interest in the entity that owns the Santee Dairy in Los Angeles, California, and have a 10-year product supply agreement with Santee that requires us to purchase 9 million gallons of fluid milk and other products annually. The product supply agreement expires on July 29, 2007. Upon acquisition of Ralphs/Food 4 Less, Santee became excess capacity and a duplicate facility. We are currently engaged in efforts to dispose of our interest in Santee, which may result in a loss. 16 18 We are party to more than 345 collective bargaining agreements with local unions representing approximately 218,000 employees. During 1999 we negotiated 82 labor contracts without any material work stoppages. Typical agreements are three to five years in duration and, as agreements expire, we expect to enter into new collective bargaining agreements. In 2000, 90 collective bargaining agreements will expire. We cannot be certain that agreements will be reached without work stoppage. A prolonged work stoppage affecting a substantial number of stores could have a material adverse effect on the results of our operations. OUTLOOK Statements elsewhere in this report and below, as well as pages three through seven of the accompanying proxy statement, regarding our expectations, hopes, beliefs, intentions or strategies are forward looking statements within the meaning of Section 21 E of the Securities Exchange Act of 1934. While we believe that the statements are accurate, uncertainties and other factors could cause actual results to differ materially from those statements. In particular: - We obtain sales growth from new square footage, as well as from increased productivity from existing locations. We expect 2000 full year square footage to grow 4.5% to 5%. We expect to continue to realize savings from economies of scale in technology and logistics, some of which may be reinvested in retail price reductions to increase sales volume and enhance market share. - We expect combination stores to generate higher sales per customer by the inclusion of numerous specialty departments, such as pharmacies, seafood shops, floral shops and bakeries. We believe the combination store format will allow us to withstand continued competition from other food retailers, supercenters, mass merchandisers and restaurants. - We believe we have adequate coverage of our debt covenants to continue to respond effectively to competitive conditions. - We expect to continue capital spending in technology focusing on improved store operations, logistics, procurement, category management, merchandising and distribution practices, which should continue to reduce merchandising costs as a percent of sales. - We expect to reduce working capital by $500 million over the next five years. - We expect our earnings per share target to be a 16%-18% average annual increase over the next three years. - We expect capital expenditures for fiscal 2000 to total $1.5-$1.7 billion, excluding acquisitions. Capital expenditures reflect Kroger's strategy of growth through expansion and acquisitions as well as our emphasis, whenever possible, on self-development and ownership of store real estate, and on logistics and technology improvements. - We intend to use the combination of cash flows from operations and borrowings under credit facilities to finance capital expenditure requirements for 2000, currently budgeted to be approximately $1.5 billion - $1.7 billion, excluding acquisitions. If determined preferable, we may fund capital expenditure requirements by mortgaging facilities, entering into sale/leaseback transactions, or by issuing additional debt or equity. 17 19 - We expect to achieve $380 million in synergy savings over the next three years as a result of our mergers. We project the timing of the annual savings by fiscal year to be as follows: $260 million in 2000, $345 million in 2001, and $380 million in 2002 and beyond. The following factors are among the principal factors that could cause actual results to differ materially from forward looking statements: - General business and economic conditions in our operating regions, including the rate of inflation, population, employment and job growth in our markets, - Pricing pressures and competitive factors, which could include pricing strategies, store openings and remodels, - Results of our programs to reduce costs and improve working capital, - The ability to integrate any companies we acquire or have acquired and achieve operating improvements at those companies, - Increases in labor costs and relations with union bargaining units representing our employees, - Changes in laws and regulations, including changes in accounting standards and taxation requirements, - Opportunities or acquisitions that we pursue, and - The availability and terms of financing. In particular, our ability to achieve the expected increases in sales and earnings could be adversely affected by the increasingly competitive environment in which we operate. In addition any labor dispute, delays in opening new stores, or changes in the economic climate could cause us to fall short of our sales and earnings targets. While we expect to reduce working capital, our ability to do so may be impaired by any changes in vendor payment terms or systems problems that result in increases in inventory levels. Our capital expenditures could fall outside of the expected range if we are unsuccessful in acquiring suitable sites for new stores, if development costs exceed those budgeted, or if our logistics and technology projects are not completed in the time frame expected or on budget. While we expect to achieve benefits through logistics and technology, development of new systems and integration of systems due to our merger with Fred Meyer carry inherent uncertainties, and we may not achieve the expected benefits. Unforeseen difficulties in integrating Fred Meyer with Kroger, or any other acquired entity, could cause us to fail to achieve the anticipated synergy savings, and could otherwise adversely affect our ability to meet our 16% - 18% earnings per share expectations. Accordingly, actual events and results may vary significantly from those included in or contemplated or implied by forward looking statements contained within this document. YEAR 2000 DISCLOSURE We did not experience any significant malfunctions or errors in our operating or business systems either when the date changed from 1999 to 2000 or on February 29, 2000. Based on operations since January 1, 2000, we do not expect any significant impact on our ongoing business as a result of the "Year 2000" issue. However, it is possible that the full impact of the date change, which was of concern due to computer programs that use two digits instead of four digits to define years, has not been fully recognized. For example, it is possible that Year 2000 or similar issues may occur with billing, payroll, or financial closings at period, quarter, or year-end. We believe that any such problems are likely to be minor and correctable. In addition, we could still be negatively affected if the Year 2000 or similar issues adversely affect our customers or suppliers. We currently are not aware of any significant Year 2000 or similar problems that have arisen for our customers and suppliers. 18 20 We spent $23 million on Year 2000 readiness efforts in 1999 and a total of $49 million from 1997 through 1999. These efforts included replacing some outdated, noncompliant hardware and noncompliant software as well as identifying and remediating Year 2000 problems. 19 21 ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK Kroger has historically used derivatives to limit its exposure to rising interest rates. During 1999, as a result of the merger with Fred Meyer, the nature and magnitude of our debt portfolio changed significantly, including a permanent reduction in the combined company's variable rate borrowings. This fundamental change in our debt portfolio resulted in the existing derivative portfolio no longer being aligned with the debt portfolio, and prompted us to eliminate all existing interest rate swap and cap agreements, at a cost of $17 million. Going forward, we will use derivatives primarily to fix the rates on variable rate debt. To do this, we use the following guidelines: - use average daily bank balance to determine annual debt amounts subject to interest rate exposure, - limit the annual amount of debt subject to interest rate reset and the amount of floating rate debt to a combined total of $2.3 billion or less by April of 2000, - include no leveraged derivative products, and - hedge without regard to profit motive or sensitivity to current mark-to-market status. We review compliance with these guidelines annually with the Financial Policy Committee of our Board of Directors. In addition, our internal auditors review compliance with these guidelines on an annual basis. The guidelines may change as our business needs dictate. The table below provides information about our interest rate derivative and underlying debt portfolio. The amount each year represents the contractual maturities of long-term debt, excluding capital leases, and the outstanding notional amount of interest rate derivatives. Interest rates reflect the weighted average for the maturing instruments. The variable component of each interest rate derivative and the variable rate debt is based on six month LIBOR using the forward yield curve as of January 29, 2000. The Fair-Value column includes the fair-value of those debt instruments for which it is reasonably possible to calculate a fair value and the fair value of our interest rate derivatives as of January 29, 2000. (See footnotes eight and nine).
EXPECTED YEAR OF MATURITY ------------------------------------------------------------------------- 2000 2001 2002 2003 2004 THEREAFTER TOTAL FAIR-VALUE ----- ----- ----- ------ ----- ---------- ------ ---------- (IN MILLIONS OF DOLLARS) LONG-TERM DEBT - -------------- Fixed rate.................... (261) (305) (129) (301) (283) (4.207) (5,486) (4,656) Average interest rate......... 7.58% 7.65% 7.62% 7.64% 7.50% 7.50% Variable rate................. (275) (1,459) (1,362) (3,096) (3,096) Average interest rate......... 6.86% 8.00% 8.09% 8.10%
20 22
AVERAGE NOTIONAL AMOUNTS OUTSTANDING ------------------------------------------------------------------------- 2000 2001 2002 2003 2004 THEREAFTER TOTAL FAIR-VALUE ----- ----- ----- ------ ----- ---------- ------ ---------- (IN MILLIONS OF DOLLARS) INTEREST RATE DERIVATIVES - ------------------------- Variable to fixed............. 300 275 300 2 Average pay rate.............. 6.66% 6.66% 6.66% Average receive rate.......... 6.23% 7.37% 6.78% Interest Rate Collar.......... 300 300 300 150 300 1
It was not practicable to determine a fair value for $678 million of fixed rate debt. The interest rate collar is reset based on the three month LIBOR with the following impact: - if the three month LIBOR is less than or equal to 4.10%, we pay 5.50% for that three month period; - if the three month LIBOR is greater than 4.10% and less than or equal to 6.50%, we are exposed to floating interest rates for that three month period; - if the three month LIBOR is greater than 6.50% and less than 7.50%, we pay 6.50%; and - if the three month LIBOR is greater than or equal to 7.50%, we are exposed to floating interest rates for that three month period. 21 23 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA REPORT OF INDEPENDENT ACCOUNTANTS To the Shareowners and Board of Directors The Kroger Co. In our opinion, based on our audits and the report of other auditors, the accompanying consolidated balance sheet and the related consolidated statements of income, changes in shareowners' equity (deficit) and cash flows present fairly, in all material respects, the financial position of The Kroger Co. and its subsidiaries at January 29, 2000 and January 2, 1999, and the results of their operations and their cash flows for the years ended January 29, 2000, January 2, 1999 and December 27, 1997 in conformity with accounting principles generally accepted in the United States. These financial statements are the responsibility of the Company's management; our responsibility is to express an opinion on these financial statements based on our audits. The consolidated financial statements give retroactive effect to the merger of Fred Meyer, Inc. on May 27, 1999 in a transaction accounted for as a pooling of interests, as described in Note 2 to the consolidated financial statements. We did not audit the financial statements of Fred Meyer, Inc., a wholly-owned subsidiary, as of January 2, 1999 and for the fiscal years ended January 2, 1999 and December 27, 1997, respectively. Those statements reflect total assets of $10.2 billion as of January 2, 1999, and sales of $14.9 billion and $7.4 billion for the fiscal years ended January 2, 1999 and December 27, 1997. Those statements were audited by other auditors whose report thereon has been furnished to us, and our opinion expressed herein, insofar as it relates to the amounts included for Fred Meyer, Inc., is based solely on the report of the other auditors. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes 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. We believe that our audits and the report of other auditors provide a reasonable basis for the opinion expressed above. As described in Note 4 to the consolidated financial statements, the Company changed its application of the LIFO method of accounting for store inventories as of December 28, 1997. /s/ PricewaterhouseCoopers LLP - ------------------------------ PricewaterhouseCoopers LLP Cincinnati, Ohio March 9, 2000 INDEPENDENT AUDITORS' REPORT To the Shareholders and Board of Directors of Fred Meyer, Inc.: We have audited the consolidated balance sheet of Fred Meyer, Inc. and subsidiaries as of January 30, 1999, and the related consolidated statements of income, changes in stockholders' equity, and cash flows for each of the two fiscal years in the period ended January 30, 1999 (not presented separately herein). These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such financial statements referred to above (not presented separately herein) present fairly, in all material respects, the consolidated financial position of Fred Meyer, Inc. and subsidiaries at January 30, 1999, and the results of their operations and their cash flows for each of the two fiscal years in the period ended January 30, 1999, in conformity with generally accepted accounting principles. /s/ Deloitte & Touche LLP DELOITTE & TOUCHE LLP Portland, Oregon March 10, 1999 22 24 CONSOLIDATED BALANCE SHEET
JANUARY 29, January 2, (In millions except per share amounts) 2000 1999 - ----------------------------------------------------------------------------------------- ASSETS Current assets Cash...................................................... $ 281 $ 299 Receivables............................................... 622 587 Inventories............................................... 3,938 3,493 Prepaid and other current assets.......................... 690 692 ----------- ---------- Total current assets.............................. 5,531 5,071 Property, plant and equipment, net.......................... 8,275 7,220 Goodwill, net............................................... 3,761 3,847 Other assets................................................ 399 503 ----------- ---------- Total Assets...................................... $ 17,966 $ 16,641 =========== ========== LIABILITIES Current liabilities Current portion of long-term debt......................... $ 536 $ 311 Accounts payable.......................................... 2,867 2,926 Accrued salaries and wages................................ 695 639 Other current liabilities................................. 1,630 1,574 ----------- ---------- Total current liabilities......................... 5,728 5,450 Long-term debt.............................................. 8,045 7,848 Other long-term liabilities................................. 1,510 1,426 ----------- ---------- Total Liabilities................................. 15,283 14,724 ----------- ---------- SHAREOWNERS' EQUITY Preferred stock, $100 par, 5 shares authorized and unissued.................................................. -- -- Common stock, $1 par, 1,000 shares Authorized: 885 shares issued in 1999 and 876 shares issued in 1998.............. 885 876 Additional paid-in capital.................................. 2,023 1,913 Accumulated earnings (deficit).............................. 232 (421) Common stock in treasury, at cost, 50 shares in 1999 and 50 shares in 1998............................................ (457) (451) ----------- ---------- Total Shareowners' Equity......................... 2,683 1,917 ----------- ---------- Total Liabilities and Shareowners' Equity......... $ 17,966 $ 16,641 =========== ==========
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of the consolidated financial statements. 23 25 CONSOLIDATED STATEMENT OF INCOME Years Ended January 29, 2000, January 2, 1999, and December 27, 1997
1999 1998 1997 (In millions, except per share amounts) (52 WEEKS) (53 weeks) (52 weeks) - ---------------------------------------------------------------------------------------------------- Sales....................................................... $ 45,352 $43,082 $33,927 Merchandise costs, including advertising, warehousing, and transportation............................................ 33,331 32,058 25,468 -------- ------- ------- Gross profit........................................... 12,021 11,024 8,459 Operating, general and administrative....................... 8,244 7,783 6,060 Rent........................................................ 652 619 465 Depreciation and amortization............................... 861 745 576 Goodwill amortization....................................... 100 92 16 Merger related costs........................................ 383 269 -- -------- ------- ------- Operating profit....................................... 1,781 1,516 1,342 Interest expense............................................ 652 645 388 -------- ------- ------- Earnings before income tax expense and extraordinary loss................................................. 1,129 871 954 Tax expense................................................. 491 377 365 -------- ------- ------- Earnings before extraordinary loss..................... 638 494 589 Extraordinary loss, net of income tax benefit............... (10) (257) (124) -------- ------- ------- Net earnings........................................... $ 628 $ 237 $ 465 ======== ======= ======= Basic earnings per Common share Earnings before extraordinary loss..................... $ 0.77 $ 0.61 $ 0.82 Extraordinary loss..................................... (0.01) (0.32) (0.17) -------- ------- ------- Net earnings...................................... $ 0.76 $ 0.29 $ 0.65 ======== ======= ======= Average number of common shares used in basic calculation... 829 816 718 Diluted earnings per Common Share Earnings before extraordinary loss..................... $ 0.74 $ 0.58 $ 0.79 Extraordinary loss..................................... (0.01) (0.30) (0.16) -------- ------- ------- Net earnings...................................... $ 0.73 $ 0.28 $ 0.63 ======== ======= ======= Average number of common shares used in diluted calculation............................................... 858 851 744
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of the consolidated financial statements. 24 26 CONSOLIDATED STATEMENT OF CASH FLOWS Years Ended January 29, 2000, January 2, 1999, and December 27, 1997
1999 1998 1997 (In millions) (52 WEEKS) (53 weeks) (52 weeks) - ---------------------------------------------------------------------------------------------------- Cash Flows From Operating Activities: Net earnings............................................. $ 628 $ 237 $ 465 Adjustments to reconcile net earnings to net cash provided by operating activities: Extraordinary loss.................................... 10 257 124 Depreciation.......................................... 861 745 576 Goodwill amortization................................. 100 92 16 Deferred income taxes................................. 308 (49) 81 Other................................................. (9) 101 (16) Changes in operating assets and liabilities net of effects from acquisitions of businesses: Inventories......................................... (271) 86 (198) Receivables......................................... (66) (56) (76) Accounts payable.................................... 50 93 65 Other............................................... (53) 332 76 ----------- --------- --------- Net cash provided by operating activities........ 1,558 1,838 1,113 ----------- --------- --------- Cash Flows From Investing Activities: Capital expenditures..................................... (1,701) (1,646) (942) Proceeds from sale of assets............................. 139 96 104 Payments for acquisitions, net of cash acquired.......... (230) (86) (354) Other.................................................... (28) 171 14 ----------- --------- --------- Net cash used by investing activities............ (1,820) (1,465) (1,178) ----------- --------- --------- Cash Flows From Financing Activities: Proceeds from issuance of long-term debt................. 1,763 5,307 2,520 Reductions in long-term debt............................. (1,469) (5,089) (2,411) Debt prepayment costs.................................... (2) (308) (127) Financing charges incurred............................... (11) (118) (33) Decrease in book overdrafts.............................. (62) (44) (7) Proceeds from issuance of capital stock.................. 67 122 269 Treasury stock purchases................................. (6) (122) (85) Other.................................................... -- (5) (8) ----------- --------- --------- Net cash provided (used) by financing activities..................................... 280 (257) 118 ----------- --------- --------- Net increase in cash and temporary cash investments........ 18 116 53 Cash and temporary cash investments: Beginning of year........................................ 263 183 130 ----------- --------- --------- End of year.............................................. $ 281 $ 299 $ 183 =========== ========= ========= Disclosure of cash flow information: Cash paid during the year for interest................... $ 536 $ 635 $ 402 Cash paid during the year for income taxes............... $ 113 $ 172 $ 199 Non-cash changes related to purchase acquisitions: Fair value of assets acquired......................... $ 201 $ 2,209 $ 1,986 Goodwill recorded..................................... $ 53 $ 2,389 $ 1,252 Value of stock issued................................. $ -- $ (652) $ (765) Liabilities assumed................................... $ (19) $ (3,791) $ (2,047)
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of the consolidated financial statements. 25 27 CONSOLIDATED STATEMENT OF CHANGES IN SHAREOWNERS' EQUITY (DEFICIT) Years Ended January 29, 2000, January 2, 1999, and December 27, 1997
COMMON STOCK ADDITIONAL TREASURY STOCK ACCUMULATED --------------- PAID-IN --------------- EARNINGS (In millions) SHARES AMOUNT CAPITAL SHARES AMOUNT (DEFICIT) TOTAL - ------------------------------------------------------------------------------------------------------------- Balances at December 28, 1996......... 716 $716 $ 181 48 $(314) $(1,123) $ (540) Issuance of common stock: Stock options exercised............. 14 14 63 -- -- -- 77 KUI acquisition..................... 4 4 32 -- -- -- 36 Hughes acquisition.................. 20 20 172 -- -- -- 192 Smith's acquisition................. 66 66 654 -- -- -- 720 Other............................... 2 2 11 -- -- -- 13 Treasury stock purchases.............. -- -- -- 6 (85) -- (85) Tax benefits from exercise of stock options............................. -- -- 40 -- -- -- 40 Retirement of treasury stock.......... (10) (10) (61) (10) 70 -- (1) Net earnings.......................... -- -- -- -- -- 465 465 --- ---- ------ --- ----- ------- ------ Balances at December 27, 1997......... 812 812 1,092 44 (329) (658) 917 Issuance of common stock: Stock options exercised............. 20 20 101 -- -- -- 121 Ralphs acquisition.................. 44 44 609 -- -- -- 653 Other............................... -- -- 10 -- -- -- 10 Treasury stock purchases.............. -- -- -- 6 (122) -- (122) Tax benefits from exercise of stock options............................. -- -- 101 -- -- -- 101 Net earnings.......................... -- -- -- -- -- 237 237 --- ---- ------ --- ----- ------- ------ Balances at January 2, 1999........... 876 876 1,913 50 (451) (421) 1,917 Equity changes during transition period.............................. 1 1 13 -- -- 25 39 Issuance of common stock: Stock options exercised............. 8 8 69 -- -- -- 77 Treasury stock purchases.............. -- -- -- -- (6) -- (6) Tax benefits from exercise of stock options............................. -- -- 28 -- -- -- 28 Net earnings.......................... -- -- -- -- -- 628 628 --- ---- ------ --- ----- ------- ------ Balances at January 29, 2000.......... 885 $885 $2,023 50 $(457) $ 232 $2,683 === ==== ====== === ===== ======= ======
- -------------------------------------------------------------------------------- The accompanying notes are an integral part of the consolidated financial statements. 26 28 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS All amounts are in millions except per share amounts. 1. ACCOUNTING POLICIES The following is a summary of the significant accounting policies followed in preparing these financial statements: Basis of Presentation and Principles of Consolidation The accompanying financial statements include the consolidated accounts of The Kroger Co. and its subsidiaries ("Kroger"), and Fred Meyer, Inc. and its subsidiaries ("Fred Meyer") which were merged with Kroger on May 27, 1999 (See Business Combinations). Fred Meyer amounts included in the consolidated financial statements as of January 2, 1999 and December 27, 1997 and for the two years ended January 2, 1999 relate to Fred Meyer's fiscal years ended January 30, 1999 and January 31, 1998, respectively. Significant intercompany transactions and balances have been eliminated. Transition Period On January 6, 1999, we changed our fiscal year-end to the Saturday nearest January 31 of each year. This change is disclosed in our Current Report on Form 8-K dated January 6, 1999. We filed separate audited financial statements covering the transition period from January 3, 1999 to January 30, 1999 on a Current Report on Form 8-K dated May 10, 1999. These financial statements include Kroger and its consolidated subsidiaries before the merger with Fred Meyer. During the transition period we had sales of $2,160, costs and expenses of $2,135, and net earnings of $25. Pervasiveness of Estimates The preparation of financial statements in conformity with generally accepted accounting principles 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 LIFO) or market. Approximately 97% of inventories for 1999 and 1998 were valued using the LIFO method. Cost for the balance of the inventories is determined using the FIFO method. Replacement cost is higher than the carrying amount by $501 at January 29, 2000 and $530 at January 2, 1999. Property, Plant and Equipment Property, plant and equipment are stated 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, or remaining terms of leases. Buildings and land improvements are depreciated based on lives varying from 10 to 40 years. Equipment depreciation is based on lives varying from three to 15 years. Leasehold improvements are amortized over their useful lives, which vary from four to 25 years. Depreciation expense was $861 in 1999, $745 in 1998, and $576 in 1997. 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 earnings. Goodwill Goodwill is generally being amortized on a straight-line basis over 40 years. Accumulated amortization was approximately $215 at January 29, 2000 and $115 at January 2, 1999. Impairment of Long-Lived Assets The Company reviews and evaluates long-lived assets for impairment when events or circumstances indicate costs may not be recoverable. The net book value of long-lived assets is compared to expected undiscounted future cash flows. An impairment loss would be recorded for the excess of net book value over the fair value of the asset impaired. The fair value is estimated based on expected discounted future cash flows. Interest Rate Protection Agreements The Company uses interest rate swaps, caps, and collars to hedge a portion of its borrowings against changes in interest rates. The interest differential to be paid or received is accrued as interest expense. Deferred Income Taxes Deferred income taxes are recorded to reflect the tax consequences of differences between the tax bases of assets and liabilities and their financial reporting bases. See footnote six 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. Advertising Costs The Company's advertising costs are expensed as incurred and included in merchandise costs in the Consolidated Statement of Income. Advertising expenses amounted to $511 in 1999, $489 in 1998 and $375 in 1997. Comprehensive Income The Company has no items of other comprehensive income in any period presented. Therefore, net earnings as presented in the Consolidated Statement of Income equals comprehensive income. Consolidated Statement of Cash Flows For purposes of the Consolidated Statement 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. Stock Split On May 20, 1999 the Company announced a distribution in the nature of a two-for-one stock split, to shareholders of record of common stock on June 7, 1999. All share and per-share amounts in the accompanying consolidated financial statements have been retroactively restated to give effect to the stock split. Segments The Company operates retail food and drug stores, multi-department stores, jewelry stores, and convenience stores in the Midwest, South and West. The Company's retail operations, which represent approximately 98% of consolidated sales, is its only reportable segment. All of the Company's operations are domestic. 27 29 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 2. BUSINESS COMBINATIONS On May 27, 1999 Kroger issued 312 shares of Kroger common stock in connection with a merger, for all of the outstanding common stock of Fred Meyer Inc., which operates stores primarily in the Western region of the United States. On March 9, 1998, Fred Meyer issued 82 shares of Fred Meyer common stock in connection with a merger, for all of the outstanding stock of Quality Food Centers, Inc. ("QFC"), a supermarket chain operating in the Seattle/Puget Sound region of Washington state, and in Southern California. The mergers were accounted for as poolings of interests, and the accompanying financial statements have been restated to give effect to the consolidated results of Kroger, Fred Meyer and QFC for all years presented. On March 10, 1998, Fred Meyer acquired Food 4 Less Holdings, Inc. ("Ralphs/Food 4 Less"), a supermarket chain operating primarily in Southern California by issuing 44 shares of common stock to the Ralphs/Food 4 Less stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Ralphs/Food 4 Less from the date of acquisition. On September 9, 1997, Fred Meyer acquired Smith's, a regional supermarket and drug store chain operating in the Intermountain and Southwestern regions of the United States, by issuing 66 shares of common stock to the Smith's stockholders. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Smith's from the date of acquisition. On March 19, 1997, QFC acquired the principal operations of Hughes Markets, Inc. ("Hughes"), a supermarket chain operating in Southern California and its indirect 50% interest in Santee Dairy, one of the largest dairy plants in California. The merger was effected through the acquisition of 100% of the outstanding voting securities of Hughes for approximately $361 cash, 20 shares of common stock, and the assumption of $33 of indebtedness of Hughes. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of Hughes from the date of acquisition. On February 14, 1997, QFC acquired the principal operations of Keith Uddenberg, Inc. ("KUI"), a supermarket chain operating in the western and southern Puget Sound region of Washington. The merger was effected through the acquisition of the outstanding voting securities of KUI for $35 cash, 4 shares of common stock and the assumption of approximately $24 of indebtedness of KUI. The acquisition was accounted for under the purchase method of accounting. The financial statements include the operating results of KUI form the date of acquisition. The accompanying Consolidated Financial Statements reflect the consolidated results as follows:
Kroger Fred Meyer Consolidated Historical Historical Company - ------------------------------------------------------------------------------------------------------ 1999 Subsequent to Consummation date Sales..................................................... $ -- $ -- $31,859 Extraordinary loss, net of income tax benefit............. $ -- $ -- $ (10) Net Earnings.............................................. $ -- $ -- $ 421 Diluted earnings per common share......................... $ -- $ -- $ 0.49 1999 Prior to Consummation date* Sales..................................................... $ 8,789 $ 4,704 $13,493 Extraordinary loss, net of income tax benefit............. $ -- $ -- $ -- Net Earnings.............................................. $ 176 $ 31 $ 207 Diluted earnings per common share......................... $ 0.33 $ 0.09 $ 0.24
28 30 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
Kroger Fred Meyer Consolidated Historical Historical Company - ------------------------------------------------------------------------------------------------------ 1998 Sales..................................................... $28,203 $14,879 $43,082 Extraordinary loss, net of income tax benefit............. $ (39) $ (218) $ (257) Net Earnings.............................................. $ 411 $ (174) $ 237 Diluted earnings per common share......................... $ 0.78 $ (0.55) $ 0.28 1997 Sales..................................................... $26,567 $ 7,360 $33,927 Extraordinary loss, net of income tax benefit............. $ (32) $ (92) $ (124) Net Earnings.............................................. $ 412 $ 53 $ 465 Diluted earnings per common share......................... $ 0.79 $ 0.24 $ 0.63
- -------------------------------------------------------------------------------- * The period prior to consummation date represents amounts for the first quarter ended May 22, 1999, as this was the period ended closest to the consummation date. 3. MERGER RELATED COSTS AND ONE TIME EXPENSES MERGER RELATED COSTS We are continuing the process of implementing our integration plan relating to recent mergers. The integration plan includes distribution consolidation, systems integration, store conversions, transaction costs, store closures, and administrative integration. Total merger related costs incurred were $383 in 1999 and $269 in 1998. We did not incur any merger related costs during 1997. The following table presents the components of the merger related costs:
1999 1998 - -------------------------------------------------------------------------- CHARGES RECORDED AS CASH EXPENDED Distribution consolidation................................ $ 30 $ 16 Systems integration....................................... 85 50 Store conversions......................................... 51 48 Transaction costs......................................... 93 34 Administration integration................................ 19 12 ---- ---- 278 160 NONCASH ASSET WRITEDOWN Distribution consolidation................................ -- 29 Systems integration....................................... 3 26 Store conversions......................................... 10 -- Store closures............................................ 4 25 Administration integration................................ 27 3 ---- ---- 44 83 ACCRUED CHARGES Distribution consolidation................................ $ 5 $ -- Systems integration....................................... 1 1 Transaction costs......................................... -- 6 Store closures............................................ 8 7 Administration integration................................ 47 12 ---- ---- 61 26 ---- ---- Total merger related costs.................................. $383 $269 ==== ====
29 31 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
1999 1998 - -------------------------------------------------------------------------- TOTAL CHARGES Distribution consolidation................................ $ 35 $ 45 Systems integration....................................... 89 77 Store conversions......................................... 61 48 Transaction costs......................................... 93 40 Store closures............................................ 12 32 Administration integration................................ 93 27 ---- ---- Total merger related costs.................................. $383 $269 ==== ====
Distribution Consolidation Represents costs to consolidate manufacturing and distribution operations and eliminate duplicate facilities. During 1999, approximately $30 of these costs was recorded as cash was expended. These costs include approximately $20 of Tolleson warehouse expenses. Severance costs of $5 were accrued during 1999 for distribution employees in Phoenix. The 1998 costs include a $29 writedown to estimated net realizable value of the Hughes distribution center in Southern California. The facility was sold in March 2000. The 1998 costs also include $13 for incremental labor incurred during the closing of the distribution center and other incremental costs incurred as part of the realignment of the Company's distribution system. Systems Integration Represents the costs of integrating systems and the related conversions of corporate office and store systems. Charges recorded as cash was expended totaled $85 and $50 in 1999 and 1998, respectively. These costs represent incremental operating costs, principally labor, during the conversion process, payments to third parties, and training costs. The 1998 costs include a $26 writedown of computer equipment and related software that has been abandoned and the depreciation associated with computer equipment at QFC which is being written off over 18 months at which time it will be abandoned. Store Conversions Includes the cost to convert store banners. In 1999, $51 represented cash expenditures, and $10 represented asset write-offs. In 1998, all costs represented incremental cash expenditures for advertising and promotions to establish the banner, changing store signage, labor required to remerchandise the store inventory and other services that were expensed as incurred. Transaction Costs Represents fees paid to outside parties, employee bonuses that were contingent upon the completion of the mergers, and an employee stay bonus program. The Company incurred costs totaling $93 and $40 for 1999 and 1998, respectively, related primarily to professional fees and employee bonuses recorded as the cash was expended. Store Closures Includes the costs to close stores identified as duplicate facilities and to sell stores pursuant to settlement agreements. 1999 costs of $8 were accrued to close seven stores identified as duplicate facilities and to sell three stores pursuant to a settlement with the Federal Trade Commission ("FTC Stores"). Included in 1998 amounts were costs to close four stores identified as duplicate facilities and to sell three stores pursuant to a settlement agreement with the State of California ("AG Stores"). The asset writedown of $25 in 1998 relates to certain California stores. Termination costs totaling $7 were accrued in 1998. 30 32 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Administration Integration This represents $19 of severance and travel and consulting services related to integration work; $27 of asset write downs including video tapes and equipment used in the Company's stores; and $47 of accrued expenses. The accrued expenses include an obligation to make a charitable contribution (within seven years from the date of the Fred Meyer merger) as required by the merger agreement, a restricted stock award related to the achievement of expected merger synergy benefits, and severance costs for certain Fred Meyer executives who informed the Company of their intention to leave, which have subsequently been paid. One-Time Expenses During 1999, we incurred one-time expenses of $85 associated with costs related to recent mergers. These expenses are included in merchandise costs, $58, and operating, general and administrative expenses, $27. During 1998, we incurred a one-time expense associated with logistics projects. This expense included the costs associated with ending a joint venture related to a warehouse operation that formerly served our Michigan stores and several independent customers. The warehouse is now operated by a third party that distributes our inventory to our Michigan stores. These expenses also included the transition costs related to one of our new warehouses, and one new warehouse facility operated by an unaffiliated entity that provides services to us. These costs included carrying costs of the facilities idled as a result of these new warehouses and the associated employee severance costs. Additionally, in the second quarter of 1998, the Company incurred one-time expenses associated with accounting, data, and operations consolidations in Texas. These included the costs of closing eight stores and relocating the remaining Dallas office employees to a smaller facility. These expenses, which included non-cash asset writedowns, were included in operating, general and administrative expenses. These expenses include an amount for estimated rent or lease termination costs that will be paid on closed stores through 2013. The "Other" column in the table below details the activity for amounts accrued related to these one-time expenses. The remaining balance at January 29, 2000 represents $2 of idled warehouse facilities that will be paid through 2001 and $7 of estimated rent or lease termination costs that will be paid on closed stores through 2013. A summary of changes in accruals related to various business combinations and other one-time expenses follows:
FACILITY EMPLOYEE INCENTIVE AWARDS CLOSURE COSTS SEVERANCE AND CONTRIBUTIONS OTHER ------------- --------- ----------------- ----- Balance at December 28, 1996................... $ -- $-- $ -- $-- Additions.................................... 23 9 -- -- Payments..................................... (4) (1) -- -- ---- --- ---- --- Balance at December 27, 1997................... 19 8 -- -- Additions.................................... 129 41 -- 35 Payments..................................... (15) (16) -- (16) Adjustments.................................. -- (3) -- -- ---- --- ---- --- Balance at January 2, 1999..................... 133 30 -- 19 Additions.................................... 8 24 29 -- Payments..................................... (11) (25) -- (10) ---- --- ---- --- Balance at January 29, 2000.................... $130 $29 $ 29 $ 9 ==== === ==== ===
4. ACCOUNTING CHANGE In the second quarter of 1998, Kroger changed its application of the Last-In, First-Out, or LIFO method of accounting for store inventories from the retail method to the item cost method. The change was made to more 31 33 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED accurately reflect inventory value by eliminating the averaging and estimation inherent in the retail method. The cumulative effect of this change on periods prior to December 28, 1997 cannot be determined. The effect of the change on the December 28, 1997 inventory valuation, which includes other immaterial modifications in inventory valuation methods, was included in restated results for the quarter ended March 21, 1998. This change increased merchandise costs by $90 and reduced earnings before extraordinary loss and net earnings by $56, or $0.07 per diluted share. We have not calculated the pro forma effect on prior periods because cost information for these periods is not determinable. The item cost method did not have a material impact on earnings subsequent to its initial adoption. 5. PROPERTY, PLANT AND EQUIPMENT, NET Property, plant and equipment, net consists of:
1999 1998 ---------------- Land........................................................ $1,071 $ 979 Buildings and land improvements............................. 2,753 2,479 Equipment................................................... 6,014 5,288 Leasehold improvements...................................... 1,970 1,692 Construction-in-progress.................................... 712 492 Leased property under capital leases........................ 522 468 ------ ------ 13,042 11,398 Accumulated depreciation and amortization................... (4,767) (4,178) ------ ------ $8,275 $7,220 ====== ======
Accumulated depreciation for leased property under Capital Leases was $195 at January 29, 2000 and $161 at January 2, 1999. Approximately $258 and $271, original cost, of Property, Plant and Equipment collateralizes certain mortgage obligations at January 29, 2000 and January 2, 1999, respectively. 6. TAXES BASED ON INCOME The provision for taxes based on income consists of:
1999 1998 1997 ----------------------- Federal Current................................................... $ 134 $ 406 $ 254 Deferred.................................................. 308 (49) 81 ----- ----- ----- 442 357 335 State and local............................................. 49 20 30 ----- ----- ----- 491 377 365 Tax benefit from extraordinary loss......................... (6) (162) (77) ----- ----- ----- $ 485 $ 215 $ 288 ===== ===== =====
32 34 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED A reconciliation of the statutory federal rate and the effective rate follows:
1999 1998 1997 ----------------------- Statutory rate.............................................. 35.0% 35.0% 35.0% State income taxes, net of federal tax benefit.............. 2.9 3.8 2.8 Non-deductible goodwill..................................... 2.7 3.2 0.6 Other, net.................................................. 3.0 1.3 (0.1) ----- ----- ----- 43.6% 43.3% 38.3% ===== ===== =====
The tax effects of significant temporary differences that comprise deferred tax balances were as follows:
1999 1998 - ---------------------------------------------------------------------------- Current deferred tax assets: Depreciation.............................................. $ 8 $ 35 Insurance related costs................................... 68 72 Net operating loss carryforwards.......................... 176 138 Other..................................................... 12 107 ----- ----- Total current deferred tax assets................. 264 352 ----- ----- Current deferred tax liabilities: Compensation related costs................................ (38) (34) Inventory related costs................................... (54) (34) ----- ----- Total current deferred tax liabilities............ (92) (68) ----- ----- Current deferred taxes, net included in prepaid and other current assets............................................ $ 172 $ 284 ===== ===== Long-term deferred tax assets: Compensation related costs................................ $ 148 $ 146 Insurance related costs................................... 86 92 Lease accounting.......................................... 60 58 Net operating loss carryforwards.......................... 178 319 Other..................................................... 40 23 ----- ----- 512 638 Valuation allowance....................................... (157) (157) ----- ----- Long-term deferred tax assets, net................ 355 481 ----- ----- Long-term deferred tax liabilities: Depreciation.............................................. (465) (407) ----- ----- Total long-term deferred tax liabilities.......... (465) (407) ----- ----- Long-term deferred taxes, net............................... $(110) $ 74 ===== =====
Long-term deferred taxes, net are included in other liabilities at January 29, 2000 and other assets at January 2, 1999. At January 29, 2000, the Company had net operating loss carryforwards for federal income tax purposes of $970 which expire from 2004 through 2017. In addition, the Company had net operating loss carryforwards for state income tax purposes of $351 which expire from 2000 through 2017. The utilization of certain of the Company's net operating loss carryforwards may be limited in a given year. At January 29, 2000, the Company had federal and state Alternative Minimum Tax Credit carryforwards of $10 and $2, respectively. In addition, the Company has Other Federal and State credits of $3 and $14, respectively, 33 35 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED which expire from 2000 through 2017. The utilization of certain of the Company's credits may be limited in a given year. 7. DEBT OBLIGATIONS Long-term debt consists of:
1999 1998 ------ ------ Senior Credit Facility...................................... $1,362 $3,010 Credit Agreement............................................ 1,459 844 6.34% to 11.25% Senior Notes and Debentures due through 2029...................................................... 4,822 3,475 7.0% to 10.25% mortgages due in varying amounts through 2017...................................................... 473 465 Other....................................................... 465 365 ------ ------ Total debt.................................................. 8,581 8,159 Less current portion........................................ 536 311 ------ ------ Total long-term debt........................................ $8,045 $7,848 ====== ======
In conjunction with the acquisitions of QFC and Ralphs/Food 4 Less in March 1998, Fred Meyer entered into new financing arrangements that refinanced a substantial portion of Fred Meyer's debt. The Senior Credit Facility provides for a $1,875 five-year revolving credit agreement and a five-year term note. During 1999, capacity under the term note was permanently reduced by $1,450. Borrowings under the term note at year-end were $175. All indebtedness under the Senior Credit Facility is guaranteed by some of the Company's subsidiaries and collateralized by the stock of those subsidiaries that were guarantors prior to the Kroger/Fred Meyer merger. The revolving portion of the Senior Credit Facility is available for general corporate purposes, including the support of Fred Meyer's commercial paper program. Commitment fees are charged at .20% on the unused portion of the five-year revolving credit facility. Interest on the Senior Credit Facility is at adjusted LIBOR plus a margin of .425%. At January 29, 2000, the weighted average interest rate on both the five year term note and the amounts outstanding under the revolving credit facility was 6.52%. The Senior Credit Facility requires the Company to comply with certain ratios related to indebtedness to earnings before interest, taxes, depreciation and amortization ("EBITDA") and fixed charge coverage. In addition, the Senior Credit Facility limits dividends on and redemption of capital stock. The Company may prepay the Senior Credit Facility, in whole or in part, at any time, without a prepayment penalty. The Company also has a $1,500 Five Year Credit Agreement and a 364-Day Credit Agreement (collectively the "Credit Agreement"). The Five Year facility terminates on May 28, 2002 unless extended or earlier terminated by the Company. The 364-Day Credit Agreement would have terminated in May 1999, but was extended as a $430 facility. The 364-Day facility terminates on May 24, 2000 unless extended, converted into a two year term loan, or earlier terminated by the Company. Borrowings under the Credit Agreement bear interest at the option of the Company at a rate equal to either (i) the highest, from time to time, of (A) the base rate of Citibank, N.A., (B) 1/2% over a moving average of secondary market morning offering rates for three month certificates of deposit adjusted for reserve requirements, and (C) 1/2% over the federal funds rate or (ii) an adjusted Eurodollar rate based upon the London Interbank Offered Rate ("Eurodollar Rate") plus an Applicable Margin. In addition, the Company pays a Facility Fee in connection with the Credit Facility. Both the Applicable Margin and the Facility Fee vary based on the Company's achievement of a financial ratio. At January 29, 2000, the Applicable Margin for the 364-Day facility was .525% and for the Five-Year facility was .475%. The Facility Fee for the 364-Day facility was .10% and for the Five-Year facility was .15%. The Credit Agreement contains covenants which among other things, restrict dividends and 34 36 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED require the maintenance of certain financial ratios, including fixed charge coverage ratios and leverage ratios. The Company may prepay the Credit Agreement, in whole or in part, at any time, without a prepayment penalty. In December 1998, the Senior Credit Facility and the Credit Agreement were amended to permit the merger of Kroger and Fred Meyer (See note 2). The amendments, which became effective when the merger was completed, increased interest rates on the Credit Agreement to market rates and changed the covenants in the Senior Credit Facility to parallel those in the Credit Agreement. Unrated commercial paper borrowings of $384 and borrowings under money market lines of $155 at January 29, 2000 have been classified as long-term because the Company expects that during 1999 these borrowings will be refinanced using the same type of securities. Additionally, the Company has the ability to refinance these borrowings on a long-term basis and has presented the amounts as outstanding under the Credit Agreement or the Senior Credit Facility. The money market lines, which generally have terms of approximately one year, allow the Company to borrow from the banks at mutually agreed upon rates, usually below the rates offered under the Senior Credit Facility. All of the Senior Notes and Debentures are subject to early redemption at varying times and premiums beginning in 2000. 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 or (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. The aggregate annual maturities and scheduled payments of long-term debt for the five years subsequent to 1999 are: 2000....................................................... $ 536 2001....................................................... $ 305 2002....................................................... $1,588 2003....................................................... $1,663 2004....................................................... $ 283
The extraordinary losses in 1999, 1998, and 1997 relate to premiums paid to retire certain indebtedness early and the write-off of deferred financing costs. 8. INTEREST RATE PROTECTION PROGRAM The Company has historically used derivatives to limit its exposure to rising interest rates. During 1999, as a result of the merger with Fred Meyer, the nature and magnitude of the Company's debt portfolio changed significantly, including a permanent reduction in the combined Company's variable rate borrowings. This fundamental change in the Company's debt portfolio resulted in the existing derivative portfolio no longer being aligned with the debt portfolio and prompted the Company to eliminate all existing interest rate swap and cap agreements, at a cost of $17. Going forward, the Company's program relative to interest rate protection primarily contemplates fixing the rates on variable rate debt. To do this, the Company uses the following guidelines: (i) use average daily bank balance 35 37 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED to determine annual debt amounts subject to interest rate exposure, (ii) limit the annual amount of debt subject to interest rate reset and the amount of floating rate debt to a combined total of $2,300 or less by April of 2000, (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. In addition, the Company's internal auditors review compliance with these guidelines on an annual basis. The guidelines may change as the Company's business needs dictate. The table below indicates the types of swaps used, their duration, and their respective interest rates. The variable component of each interest rate derivative is based on the six month LIBOR using the forward yield curve as of January 29, 2000.
1999 1998 ---- ---- Receive fixed swaps Notional amount........................................... $ -- $785 Duration in years......................................... -- 2.0 Average receive rate...................................... -- 6.50% Average pay rate.......................................... -- 5.30% Receive variable swaps Notional amount........................................... $300 $925 Duration in years......................................... 1.9 2.4 Average receive rate...................................... 6.36% 5.57% Average pay rate.......................................... 6.66% 7.09%
In addition, as of January 29, 2000, the Company has an interest rate collar on a notional amount of $300 million with a maturity date of July 24, 2003. Every three months, actual three month LIBOR is reviewed and the collar has the following impact on the Company for the notional amount. - If the three month LIBOR is less than or equal to 4.10%, the Company pays 5.50% for that three month period; - If the three month LIBOR is greater than 4.10% and less than or equal to 6.50%, the Company is exposed to floating interest rates for that three month period; - If the three month LIBOR is greater than 6.50% and less than 7.50%, the Company pays 6.50%; and - If the three month LIBOR is greater than or equal to 7.50%, the Company is exposed to floating interest rates for that three month period. 9. FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used to estimate the fair value of each class of financial instrument for which it is practicable to estimate that value: Cash, Receivables, Prepaid and Other Current Assets, Other Long-term Assets, Accounts Payable, Accrued Salaries and Wages, Other Current Liabilities, and Other Long-term Liabilities The carrying amounts of these items approximate fair value. Long-term Investments The fair values of these investments are estimated based on quoted market prices for those or similar investments. 36 38 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Long-term Debt The fair value of the Company's long-term debt, including the current portion thereof, is estimated based on the quoted market price for the same or similar issues. The carrying value of $2,821 of long-term debt outstanding under the Company's Credit Agreement and Senior Credit Facility approximates fair value. Interest Rate Protection Agreements The fair value of these agreements is based on the net present value of the future cash flows using the forward interest rate yield curve in effect at the respective year-end. The estimated fair values of the Company's financial instruments are as follows:
1999 1998 ------------------------ ------------------------ ESTIMATED Estimated CARRYING FAIR CARRYING FAIR VALUE VALUE VALUE VALUE ---------- ---------- ---------- ---------- Long-term investments for which it is Practicable............................... $ 100 $ 103 $ 96 $ 97 Not Practicable........................... $ 4 -- $ 9 $ -- Long-term debt for which it is Practicable............................... $ (7,904) $ (7,752) $ (7,687) $ (7,973) Not Practicable........................... $ (677) -- $ (472) $ -- Interest Rate Protection Agreements Receive fixed swaps....................... $ -- $ 2 $ -- $ 22 Receive variable swaps.................... -- -- -- (43) Interest rate collar...................... -- 1 -- (6) ---------- ---------- ---------- ---------- $ -- $ 3 $ -- $ (27) ========== ========== ========== ==========
The use of different assumptions or estimation methodologies may have a material effect on the estimated fair value amounts. Accordingly, the estimates presented herein are not necessarily indicative of the amounts that the Company could actually realize. In addition, the Company is not subjected to a concentration of credit risk related to these instruments. The investments for which it was not practicable to estimate fair value relate to equity investments accounted for under the equity method and investments in real estate development partnerships for which there is no market. The long-term debt for which it was not practicable to estimate fair value relates to industrial revenue bonds, certain mortgages and other notes for which there is no market. 10. LEASES The Company operates primarily in leased facilities. Lease terms generally range from 10 to 25 years with options to renew for varying terms. Terms of certain leases include escalation clauses, percentage rents based on sales, or payment of executory costs such as property taxes, utilities, or insurance and maintenance. Portions of certain properties are subleased to others for periods from one to 20 years. Rent expense (under operating leases) consists of:
1999 1998 1997 -------- -------- -------- Minimum rentals............................................. $ 731 $ 683 $ 515 Contingent payments......................................... 15 18 14 Sublease income............................................. (94) (82) (64) -------- -------- -------- $ 652 $ 619 $ 465 ======== ======== ========
37 39 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Minimum annual rentals for the five years subsequent to 1999 and in the aggregate are:
CAPITAL OPERATING LEASES LEASES ------- --------- 2000........................................................ $ 85 $ 741 2001........................................................ 73 701 2002........................................................ 67 672 2003........................................................ 63 609 2004........................................................ 59 575 Thereafter.................................................. 556 5,220 ---- ------ 903 $8,518 ====== Less estimated executory costs included in capital leases... 14 ---- Net minimum lease payments under capital leases............. 889 Less amount representing interest........................... 461 ---- Present value of net minimum lease payments under capital leases.................................................... $428 ====
Total future minimum rentals under noncancellable subleases at January 29, 2000 were $452. The current and long-term portions of obligations under capital leases are included in other current liabilities and other long-term liabilities on the balance sheet. On March 11, 1998, the Company entered into a $500 five-year synthetic lease credit facility that refinanced $303 in existing lease financing facilities. Lease payments are based on LIBOR applied to the utilized portion of the facility. As of January 29, 2000, the Company had utilized $462 of the facility, which matures March 2003. 11. EARNINGS PER COMMON SHARE Basic earnings per common share equals net earnings divided by the weighted average number of common shares outstanding. Diluted earnings per common share equals net earnings divided by the weighted average number of common shares outstanding after giving effect to dilutive stock options and warrants. The following table provides a reconciliation of earnings before extraordinary loss and shares used in calculating basic earnings per share to those used in calculating diluted earnings per share.
FOR THE YEAR ENDED For the year ended For the year ended JANUARY 29, 2000 January 2, 1999 December 27, 1997 ---------------------------- --------------------------- --------------------------- INCOME SHARES PER- Income Shares Per- Income Shares Per- (NUMER- (DENOMI- SHARE (Numer- (Denomi- Share (Numer- (Denomi- Share ATOR) NATOR) AMOUNT ator) nator) Amount ator) nator) Amount -------- -------- ------ ------- -------- ------ ------- -------- ------ Basic EPS..................... $ 638 829 $0.77 $494 816 $0.61 $589 718 $0.82 Dilutive effect of stock option awards............... 29 35 26 -------- ------- ---- --- ---- --- Diluted EPS................... $ 638 858 $0.74 $494 851 $0.58 $589 744 $0.79 ======== ======= ==== === ==== ===
At January 29, 2000, there were options outstanding for approximately 18.2 shares of common stock that were excluded from the computation of diluted EPS. These shares were excluded because their inclusion would have had an antidilutive effect on EPS. There were no items that would have had an antidilutive effect at January 2, 1999 or December 27, 1997. On May 20, 1999, the Company announced a two-for-one stock split, to shareholders of record of common stock on June 7, 1999. All share amounts prior to this date have been restated to reflect the split. 38 40 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED 12. STOCK OPTION PLANS The Company grants options for common stock to employees under various plans, as well as to its non-employee directors owning a minimum of one-thousand shares of common stock of the Company, at an option price equal to the fair market value of the stock at the date of grant. In addition to cash payments, the plans provide for the exercise of options by exchanging issued shares of stock of the Company. At January 29, 2000, 21.6 shares of common stock were available for future options. Options generally will expire 10 years from the date of grant. Options vest in one year to five years or, for certain options, upon the Company's stock reaching certain pre-determined market prices within ten years from the date of grant. All grants outstanding become immediately exercisable upon certain changes of control of the Company. Changes in options outstanding under the stock option plans, excluding restricted stock grants, were:
SHARES SUBJECT WEIGHTED AVERAGE TO OPTION EXERCISE PRICE -------------- ---------------- (IN MILLIONS) Outstanding, year-end 1996.................................. 71.6 $ 6.21 Granted..................................................... 16.6 $12.84 Options of an acquired company.............................. 3.0 $ 3.67 Exercised................................................... (14.6) $ 5.17 Canceled or expired......................................... (1.0) $ 6.46 ----- Outstanding, year-end 1997.................................. 75.6 $ 7.75 Granted..................................................... 10.0 $20.55 Exercised................................................... (19.0) $ 6.30 Canceled or expired......................................... (1.0) $13.63 ----- Outstanding, year-end 1998.................................. 65.6 $10.20 Exercised during transition period.......................... (1.0) $ 6.16 Granted..................................................... 11.3 $26.97 Exercised................................................... (7.3) $ 9.19 Canceled or Expired......................................... (2.6) $19.76 ----- Outstanding, year-end 1999.................................. 66.0 $12.75 =====
A summary of options outstanding and exercisable at January 29, 2000 follows:
WEIGHTED- AVERAGE RANGE OF NUMBER REMAINING WEIGHTED-AVERAGE OPTIONS WEIGHTED-AVERAGE EXERCISE PRICES OUTSTANDING CONTRACTUAL LIFE EXERCISE PRICE EXERCISABLE EXERCISE PRICE - --------------------------------------------------------------------- ----------------------------------- (IN MILLIONS) (IN YEARS) (IN MILLIONS) $ 2.91 - $ 5.86 17.8 2.76 $ 4.96 17.7 $ 4.96 $ 5.92 - $10.38 20.7 5.98 $ 8.39 19.5 $ 8.39 $10.46 - $17.97 11.2 7.56 $14.73 5.9 $14.14 $18.23 - $25.03 6.1 8.27 $22.30 1.8 $22.25 $26.45 - $31.91 10.2 9.30 $27.20 0.1 $27.24 ---- ---- $ 2.91 - $31.91 66.0 6.11 $12.75 45.0 $ 8.37 ==== ====
The Company applies Accounting Principles Board Opinion No. 25, "Accounting for Stock Issued to Employees", and related interpretations in accounting for its plans. Had compensation cost for the Company's stock option plans been determined based upon the fair value at the grant date for awards under these plans consistent 39 41 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED with the methodology prescribed under Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation," the Company's net earnings and diluted earnings per common share would have been reduced to the pro forma amounts below:
1999 1998 1997 ------------------ ------------------ ------------------ ACTUAL PRO FORMA Actual Pro Forma Actual Pro Forma ------ --------- ------ --------- ------ --------- Net earnings................................ $ 628 $ 590 $ 237 $ 195 $ 465 $ 425 Diluted earnings per common share........... $0.73 $0.69 $0.28 $0.23 $0.63 $0.57
The fair value of each option grant was estimated on the date of grant using the Black-Scholes option-pricing model, based on historical assumptions from each respective company shown in the table below. These amounts reflected in this proforma disclosure are not indicative of future amounts. The following table reflects the assumptions used for grants awarded in each year to option holders of the respective companies:
1999 1998 1997 ----------- --------- --------- Kroger - ------ Weighted average expected volatility (based on historical volatility)............................................... 26.23% 26.60% 24.00% Weighted average risk-free interest rate.................... 6.64% 4.60% 5.70% Expected term............................................... 8.0 YEARS 7.8 years 5.4 years Fred Meyer - ---------- Weighted average expected volatility (based on historical volatility)............................................... N/A 39.37% 33.67% Weighted average risk-free interest rate.................... N/A 5.32% 6.10% Expected term............................................... N/A 5.0 years 5.0 years QFC - --- Weighted average expected volatility (based on historical volatility)............................................... N/A n/a 43.50% Weighted average risk-free interest rate.................... N/A n/a 5.50% Expected term............................................... N/A n/a 5.0 years
The weighted average fair value of options granted during 1999, 1998, and 1997 was $12.93, $9.87, and $5.86, respectively. 13. CONTINGENCIES The Company continuously evaluates contingencies based upon the best available evidence. Management 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 management'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 certain 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 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. 40 42 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Litigation -- The Company is involved in various legal actions arising in the normal course of business. Although occasional adverse decisions (or settlements) may occur, the Company believes that the final disposition of such matters will not have a material adverse effect on the financial position or results of operations of the Company. Purchase Commitment -- The Company indirectly owns a 50% interest in the Santee Dairy ("Santee") and has a 10-year product supply agreement with Santee that requires the Company to purchase 9 million gallons of fluid milk and other products annually. The product supply agreement expires on July 29, 2007. Upon acquisition of Ralphs/Food 4 Less, Santee became excess capacity and a duplicate facility. The Company is currently engaged in efforts to dispose of its interest in Santee, which may result in a loss. 14. WARRANT DIVIDEND PLAN On February 28, 1986, the Company adopted a warrant dividend plan providing for stock purchase rights to owners of the Company's common stock. The plan was amended and restated as of April 4, 1997 and further amended on October 18, 1998. Each share of common stock currently has attached one-half of a right. Each right, when exercisable, entitles the holder to purchase from the Company one ten-thousandth of a share of Series A Preferred Shares, par value $100 per share, at $87.50 per one ten-thousandth of a share. The rights will become exercisable, and separately tradable, ten business days following a tender offer or exchange offer resulting in a person or group having beneficial ownership of 10% or more of the Company's common stock. In the event the rights become exercisable and thereafter the Company is acquired in a merger or other business combination, each right will entitle the holder to purchase common stock of the surviving corporation, for the exercise price, having a market value of twice the exercise price of the right. Under certain other circumstances, including certain acquisitions of the Company in a merger or other business combination transaction, or if 50% or more of the Company's assets or earnings power are sold under certain circumstances, each right will entitle the holder to receive upon payment of the exercise price, shares of common stock of the acquiring company with a market value of two times the exercise price. At the Company's option, the rights, prior to becoming exercisable, are redeemable in their entirety at a price of $0.01 per right. The rights are subject to adjustment and expire March 19, 2006. 15. BENEFIT PLANS The Company administers non-contributory defined benefit retirement plans for substantially all non-union employees. 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 and life insurance 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 and life insurance benefits occurs as claims or premiums are paid. 41 43 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Information with respect to change in benefit obligation, change in plan assets, net amounts recognized at end of year, weighted average assumptions and components of net periodic benefit cost follow:
PENSION BENEFITS OTHER BENEFITS ----------------- ----------------- 1999 1998 1999 1998 ------- ------- ------- ------- CHANGE IN BENEFIT OBLIGATION: Benefit obligation at beginning of year..................... $ 1,192 $ 990 $ 272 $ 255 Change in benefit obligation during transition period....... 4 -- 1 -- Addition to benefit obligation from acquisitions............ -- 94 -- 16 Service cost................................................ 37 37 11 9 Interest cost............................................... 82 77 19 18 Plan participants' contributions............................ -- -- 4 4 Amendments.................................................. 15 -- 4 (11) Actuarial loss (gain)....................................... (140) 51 (39) 15 Settlements................................................. (2) -- -- -- Curtailment credit.......................................... (2) -- (7) (17) Benefits paid............................................... (58) (57) (12) (17) ------- ------- ------- ------- Benefit obligation at end of year........................... $ 1,128 $ 1,192 $ 253 $ 272 ======= ======= ======= ======= CHANGE IN PLAN ASSETS: Fair value of plan assets at beginning of year.............. $ 1,375 $ 1,153 $ -- $ -- Change in fair value of plan assets during transition period.................................................... 15 -- -- -- Addition to plan assets from acquisitions................... -- 63 -- -- Actual return on plan assets................................ 57 205 6 -- Employer contribution....................................... 4 11 5 13 Plan participants' contributions............................ -- -- 1 4 Benefits paid............................................... (58) (57) (12) (17) ------- ------- ------- ------- Fair value of plan assets at end of year.................... $ 1,393 $ 1,375 $ -- $ -- ======= ======= ======= =======
Pension plan assets include $121 and $167 of common stock of The Kroger Co. at January 29, 2000 and January 2, 1999, respectively.
PENSION BENEFITS OTHER BENEFITS ----------------- ----------------- 1999 1998 1999 1998 ------- ------- ------- ------- NET AMOUNT RECOGNIZED AT END OF YEAR: Funded status at end of year................................ $ 265 $ 183 $ (253) $ (272) Unrecognized actuarial gain................................. (307) (204) (81) (35) Unrecognized prior service cost............................. 33 19 (17) (31) Unrecognized net transition asset........................... (5) (5) $ 1 $ 1 ------- ------- ------- ------- Net amount recognized at end of year........................ $ (14) $ (7) $ (350) $ (337) ======= ======= ======= ======= Prepaid benefit cost........................................ $ 33 $ 48 $ -- $ -- Accrued benefit liability................................... (47) (55) (350) (337) ------- ------- ------- ------- $ (14) $ (7) $ (350) $ (337) ======= ======= ======= =======
42 44 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
PENSION BENEFITS OTHER BENEFITS ----------------- ----------------- 1999 1998 1999 1998 ------- ------- ------- ------- WEIGHTED AVERAGE ASSUMPTIONS: Discount rate............................................... 8.00% 6.75% 8.00% 6.75% Expected return on plan assets.............................. 9.50% 9.50% Rate of compensation increase............................... 4.50% 3.25% 4.50% 3.25%
For measurement purposes, a 5 percent annual rate of increase in the per capita cost of other benefits was assumed for 1999 and thereafter.
PENSION BENEFITS OTHER BENEFITS -------------------- -------------------- 1999 1998 1997 1999 1998 1997 ---- ---- ---- ---- ---- ---- COMPONENTS OF NET PERIODIC BENEFIT COST Service cost....................................... $ 37 $ 37 $ 28 $ 11 $ 9 $ 10 Interest cost...................................... 82 77 69 19 18 20 Expected return on plan assets..................... (109) (98) (82) -- -- -- Amortization of: Transition asset.............................. (1) -- (9) -- -- -- Prior service cost............................ 4 2 2 (3) (3) (1) Actuarial (gain) loss......................... -- 1 -- -- (1) (1) Curtailment credit................................. (2) -- -- (7) (17) -- ---- ---- ---- ---- ---- ---- Net periodic benefit cost.......................... $ 11 $ 19 $ 8 $ 20 $ 6 $ 28 ==== ==== ==== ==== ==== ====
The accumulated benefit obligation and fair value of plan assets for pension plans with accumulated benefit obligations in excess of plan assets were $185 and $140 at January 29, 2000 and $123 and $69 at January 2, 1999. Assumed health care cost trend rates have a significant effect on the amounts reported for the health care plans. A one-percentage-point change in the assumed health care cost trend rates would have the following effects:
1% POINT 1% POINT INCREASE DECREASE -------- -------- Effect on total of service and interest cost components..... 3 (3) Effect on postretirement benefit obligation................. 26 (22)
The Company also administers certain defined contribution plans for eligible union and non-union employees. The cost of these plans for 1999, 1998, and 1997 was $46, $40, and $32, respectively. The Company participates in various multi-employer plans for substantially all union employees. Benefits are generally based on a fixed amount for each year of service. Contributions for 1999, 1998, and 1997 were $121, $133, and $119, respectively. 16. RELATED-PARTY TRANSACTIONS The Company had a management agreement for management and financial services with The Yucaipa Companies ("Yucaipa"), whose managing general partner became Chairman of the Executive Committee of the Board, effective May 27, 1999. The arrangement provided for annual management fees of $0.5 plus reimbursement of Yucaipa's reasonable out-of-pocket costs and expenses. In 1998, the Company paid to Yucaipa approximately $20 for services rendered in conjunction with the Ralphs/Food 4 Less and QFC mergers and termination fees of Ralphs/Food 4 Less management agreement. This agreement was terminated by Yucaipa upon consummation of the Kroger/Fred Meyer merger (see note 2). 43 45 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED Yucaipa holds a warrant for the purchase of up to 7.8 million shares of Common Stock at an exercise price of $11.91 per share. Half of the warrant expires in 2005 and half expires in 2006. Additionally, at the option of Yucaipa, the warrant is exercisable without the payment of cash consideration. Under this condition, the Company will withhold upon exercise the number of shares having a market value equal to the aggregate exercise price from the shares issuable. 17. RECENTLY ISSUED ACCOUNTING STANDARDS In June 1998, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities." This standard, as amended, is effective for fiscal years beginning after June 15, 2000. As a result, implementation of this standard is not mandatory for the Company until February 4, 2001. Based on the Company's current portfolio, management expects that the adoption of this standard will not have a material impact on the financial statements. Management will continue to evaluate the impact this standard will have as the Company's portfolio changes. In 1999, the Company adopted Statement of Position (SOP) 98-1, "Accounting for the Costs of Computer Software Developed or Obtained for Internal Use." The SOP requires that certain external costs and internal payroll and payroll related costs be capitalized. The adoption of this accounting standard did not have a material impact on the financial statements. In 1999, the Company adopted SOP 98-5 "Reporting on the Costs of Start-up Activities." The SOP requires that entities expense start-up as incurred. The adoption of this accounting standard did not have a material impact on the financial statements. In March 2000, the Financial Accounting Standards Board issued Interpretation No. 44, "Accounting for Certain Transactions involving Stock Compensation." This standard becomes effective July 1, 2000. We expect that the adoption of the standard will not have a material impact on the financial statements. 18. SUBSEQUENT EVENTS On February 2, 2000, the Company filed a Registration Statement on form S-3 with the Securities and Exchange Commission. This Registration Statement permits the Company to issue up to $1.725 billion of securities, of which amount $1.225 billion remains unissued. The Board of Directors approved a $750 common stock repurchase program, on March 31, 2000. This repurchase program replaces the $100 program authorized in January of 2000. 19. GUARANTOR SUBSIDIARIES The Company's outstanding public debt (the "Guaranteed Notes") is jointly and severally, fully and unconditionally guaranteed by certain Kroger subsidiaries (the "Guarantor Subsidiaries"). At January 29, 2000 a total of approximately $5.1 billion of Guaranteed Notes were outstanding. The Guarantor Subsidiaries and non-guarantor subsidiaries are wholly-owned subsidiaries of Kroger. Separate financial statements of Kroger and each of the Guarantor Subsidiaries are not presented because the guarantees are full and unconditional and the Guarantor Subsidiaries are jointly and severally liable. The Company believes that separate financial statements and other disclosures concerning the Guarantor Subsidiaries would not be material to investors. The non-guaranteeing subsidiaries represent less than 3% on an individual and aggregate basis of consolidated assets, pretax earnings, cash flow, and equity. Therefore, the non-guarantor subsidiaries' information is not separately presented in the tables below. 44 46 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED There are no current restrictions on the ability of the Guarantor Subsidiaries to make payments under the guarantees referred to above, except, however, the obligations of each guarantor under its guarantee are limited to the maximum amount as will result in obligations of such guarantor under its guarantee not constituting a fraudulent conveyance or fraudulent transfer for purposes of Bankruptcy Law, the Uniform Fraudulent Conveyance Act, the Uniform Fraudulent Transfer Act, or any similar Federal or state law (e.g. adequate capital to pay dividends under corporate laws). The following tables present summarized financial information as of January 29, 2000 and January 2, 1999, and for the three years ended January 29, 2000. Summarized financial information as of January 29, 2000 and the year then ended:
GUARANTOR KROGER SUBSIDIARIES ELIMINATIONS CONSOLIDATED - --------------------------------------------------------------------------------------------------------- Current assets.................................. $ 578 $ 4,953 $ -- $ 5,531 Non-current assets.............................. $11,652 $11,180 $(10,397) $12,435 Current liabilities............................. $ 1,109 $ 4,619 $ -- $ 5,728 Non-current liabilities......................... $ 8,437 $ 1,118 $ -- $ 9,555 Sales........................................... $ 6,333 $39,617 $ (598) $45,352 Gross profit.................................... $ 1,250 $10,821 $ (50) $12,021 Operating profit................................ $ 31 $ 1,750 $ -- $ 1,781 Net earnings.................................... $ 628 $ 1,002 $ (1,002) $ 628
Summarized financial information as of January 2, 1999 and for the year then ended:
GUARANTOR KROGER SUBSIDIARIES ELIMINATIONS CONSOLIDATED - --------------------------------------------------------------------------------------------------------- Current assets.................................. $ 734 $ 4,337 $ -- $ 5,071 Non-current assets.............................. $ 5,622 $10,398 $ (4,450) $11,570 Current liabilities............................. $ 1,199 $ 4,251 $ -- $ 5,450 Non-current liabilities......................... $ 3,240 $ 6,034 $ -- $ 9,274 Sales........................................... $ 8,849 $34,845 $ (612) $43,082 Gross profit.................................... $ 1,566 $ 9,543 $ (85) $11,024 Operating profit................................ $ (94) $ 1,610 $ -- $ 1,516 Net earnings.................................... $ 237 $ 453 $ (453) $ 237
Summarized financial information for the year ended December 27, 1997:
GUARANTOR KROGER SUBSIDIARIES ELIMINATIONS CONSOLIDATED - --------------------------------------------------------------------------------------------------------- Sales........................................... $ 8,220 $26,299 $ (592) $33,927 Gross profit.................................... $ 1,604 $ 6,957 $ (102) $ 8,459 Operating profit................................ $ 114 $ 1,228 $ -- $ 1,342 Net earnings.................................... $ 465 $ 566 $ (566) $ 465
45 47 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONCLUDED 20. QUARTERLY DATA (UNAUDITED)
QUARTER ------------------------------------------------- FIRST SECOND THIRD FOURTH TOTAL YEAR 1999 (16 WEEKS) (12 WEEKS) (12 WEEKS) (12 WEEKS) (52 WEEKS) - -------------------------------------------------------------------------------------------------------------- SALES......................................... $13,493 $10,289 $10,329 $11,241 $45,352 GROSS PROFIT.................................. $ 3,531 $ 2,699 $ 2,723 $ 3,068 $12,021 EARNINGS BEFORE EXTRAORDINARY ITEMS........... $ 207 $ 56 $ 129 $ 246 $ 638 EXTRAORDINARY LOSS............................ $ -- $ (10) $ -- $ -- $ (10) NET EARNINGS.................................. $ 207 $ 46 $ 129 $ 246 $ 628 NET EARNINGS PER COMMON SHARE: EARNINGS BEFORE EXTRAORDINARY LOSS....... $ 0.25 $ 0.07 $ 0.16 $ 0.29 $ 0.77 EXTRAORDINARY LOSS....................... -- (0.01) -- -- (0.01) ------- ------- ------- ------- ------- BASIC NET EARNINGS PER COMMON SHARE........... $ 0.25 $ 0.06 $ 0.16 $ 0.29 $ 0.76 DILUTED EARNINGS PER COMMON SHARE: EARNINGS BEFORE EXTRAORDINARY LOSS....... $ 0.24 $ 0.06 $ 0.15 $ 0.29 $ 0.74 EXTRAORDINARY LOSS....................... -- (0.01) -- -- (0.01) ------- ------- ------- ------- ------- DILUTED NET EARNINGS PER COMMON SHARE......... $ 0.24 $ 0.05 $ 0.15 $ 0.29 $ 0.73
Quarter ------------------------------------------------- First Second Third Fourth Total Year 1998 (12 weeks) (12 weeks) (16 weeks) (13 weeks) (53 weeks) - --------------------------------------------------------------------------------------------------------------- Sales.......................................... $10,429 $ 9,947 $11,501 $11,205 $43,082 Gross Profit................................... $ 2,590 $ 2,553 $ 2,949 $ 2,932 $11,024 Earnings before extraordinary items............ $ (20) $ 100 $ 151 $ 263 $ 494 Extraordinary loss............................. $ (221) $ (1) $ (7) $ (28) $ (257) Net earnings................................... $ (241) $ 99 $ 144 $ 235 $ 237 Net earning per common share: Earnings before extraordinary loss........ $ (0.02) $ 0.12 $ 0.18 $ 0.33 $ 0.61 Extraordinary loss........................ (0.28) -- (0.01) (0.03) (0.32) ------- ------- ------- ------- ------- Basic net earnings per common share............ $ (0.30) $ 0.12 $ 0.17 $ 0.30 $ 0.29 Diluted earnings per common share: Earnings before extraordinary loss........ $ (0.02) $ 0.12 $ 0.18 $ 0.30 $ 0.58 Extraordinary loss........................ (0.28) -- (0.01) (0.01) (0.30) ------- ------- ------- ------- ------- Diluted net earnings per common share.......... $ (0.30) $ 0.12 $ 0.17 $ 0.29 $ 0.28
Quarterly amounts for the 1st quarter of 1999 and all four quarters of 1998 do not match amounts previously filed on the respective Forms 10-Q as the amounts above reflect a business combination accounted for as a pooling of interests (See note 2 of the financial statements). 46 48 ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this item concerning directors is set forth in Item No. 1, Election of Directors, 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. 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, or written representations from certain persons that no Forms 5 were required for those persons, the Company believes that during fiscal year 1999 all filing requirements applicable to its officers, directors and ten percent beneficial owners were timely satisfied except that Mr. Geoffrey Covert filed a Form 4 reporting the sale of 1,700 shares of stock that inadvertently was not reported on a prior Form 4 during 1999, Mr. Warren Bryant filed a Form 5 reporting the purchase of 3,000 shares of stock that inadvertently was not reported on a Form 4 during 1999, and Mr. John L. Clendenin filed a Form 5 reporting the exercise of three stock options aggregating 24,000 shares of stock and the acquisition of the underlying securities that inadvertently were not reported on a Form 4 during 1999. 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 March 6, 2000. Except as otherwise noted below, each person has held office for at least five years and was elected to that office at the 1999 Organizational Meeting of the Board of Directors held May 20, 2000. Each officer will hold office at the discretion of the Board for the ensuing year until removed or replaced.
Recent Name Age Employment History Donald E. Becker 50 Mr. Becker was promoted to Senior Vice President effective January 26, 2000. Prior to his election, Mr. Becker was appointed President of the Company's Central Marketing Area in 1996. Before this, Mr. Becker served in a number of key management positions in the Company's Cincinnati/Dayton Marketing Area, including Vice President of Operations and Vice President of Merchandising. He joined the Company in 1969. Warren F. Bryant 54 Mr. Bryant was promoted to Senior Vice President of The Kroger Co. in January 1999. He was elected President and Chief Executive Officer of Dillon Companies, Inc., a subsidiary of the Company, effective September 1, 1996. Prior to this Mr. Bryant was elected President and Chief Operating Officer of Dillon Companies, Inc. on June 18,
49
1995, Senior Vice President of Dillon Companies, Inc. on May 1, 1993, and Vice President of Dillon Companies, Inc. on March 1, 1990. Before this, he served as Vice President of Marketing, Dillon Stores Division, from June 1988 until March 1990, and in a number of key management positions with the Company, including Director of Merchandising for the Mid-Atlantic Marketing Area and Director of Operations for the Charleston, West Virginia division of the Mid-Atlantic Marketing Area. Mr. Bryant joined the Company in 1964. Geoffrey J. Covert 48 Mr. Covert was promoted to Senior Vice President effective April 25, 1999. Prior to that he was Group Vice President and President of Kroger Manufacturing effective April 19, 1998. Mr. Covert joined the Company and was appointed Vice President, Grocery Products Group, on March 18, 1996. Prior to joining the Company, he had 23 years of service with Procter & Gamble. In his last role with Procter & Gamble, Mr. Covert was responsible for Manufacturing Purchasing, Customer Service/Logistics, Engineering, Human Resources, and Contract Manufacturing for Procter & Gamble's Hard Surface Cleaner business for North America. Terry L. Cox 58 Mr. Cox was promoted to Group Vice President - Drug/GM Merchandising and Procurement effective April 25, 1999. He was promoted to Vice President, Drug/GM Merchandising in December 1989. Prior to that Mr. Cox served as President of Peyton's, Inc., Kroger's drug and general merchandise procurement and distribution division, and as Director of Marketing in the Company's Grocery Merchandising Department. He joined Kroger in 1962. David B. Dillon 48 Mr. Dillon was named 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 of Kroger 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. Before his election he was appointed President of Dillon Companies, Inc. Paul W. Heldman 48 Mr. Heldman was elected 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 Mr. Heldman held various positions in the Company's Law Department. He joined the Company in 1982.
50
Michael S. Heschel 58 Mr. Heschel was elected Executive Vice President effective June 18, 1995. Prior to this he was elected Senior Vice President - Information Systems and Services on February 10, 1994, and Group Vice President - Management Information Services on July 18, 1991. Before this Mr. Heschel served as Chairman and Chief Executive Officer of Security Pacific Automation Company. From 1985 to 1990 he was Vice President of Baxter International, Inc. Carver L. Johnson 50 Mr. Johnson joined the Company as Group Vice President of Management Information Systems in December 1999. Prior to joining the Company, he served as Vice President and Chief Information Officer of Gymboree. From 1993 to 1998, Mr. Johnson was Senior Systems Director of Corporate Services for Sears, Roebuck & Co. He previously held management positions with Jamesway Corp., Linens 'n Things, and Pay 'n Save Stores, Inc. Lynn Marmer 47 Ms. Marmer was elected Group Vice President 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. Don W. McGeorge 45 Mr. McGeorge was promoted to Executive Vice President effective January 26, 2000. Prior to that he was elected Senior Vice President effective August 10, 1997. Before his election, Mr. McGeorge was President of the Company's Columbus Marketing Area effective December 29, 1996; and prior thereto President of the Company's Michigan Marketing Area effective June 20, 1993. Before this he served in a number of key management positions with the Company, including Vice President of Merchandising of the Company's Nashville Marketing Area. Mr. McGeorge joined the Company in 1977. W. Rodney McMullen 39 Mr. McMullen was named Executive Vice President - Strategy, Planning and Finance effective January 26, 2000. Prior to that he was elected Executive Vice President and Chief Financial Officer on May 20, 1999, and elected 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. Derrick A. Penick 44 Mr. Penick was promoted to Group Vice President, Perishables Merchandising and Procurement effective April 25, 1999. Prior to that he was appointed Vice President Corporate Meat/Seafood/Deli Merchandising and
51
Procurement in 1996; and Vice President, Merchandising in the Dallas Marketing Area in 1993. Before that Mr. Penick held various management positions in meat and deli merchandising as well as operations since joining Kroger in 1974. Joseph A. Pichler 60 Mr. Pichler was elected Chairman of the Board on September 13, 1990, and Chief Executive Officer effective June 17, 1990. Prior to this he was elected President and Chief Operating Officer on October 24, 1986, and Executive Vice President on July 16, 1985. Mr. Pichler joined Dillon Companies, Inc. in 1980 as Executive Vice President and was elected President of Dillon Companies, Inc. in 1982. J. Michael Schlotman 42 Mr. Schlotman was promoted to Group Vice President and Chief Financial Officer effective January 26, 2000. Prior to that he was appointed Vice President, Financial Services and Control in 1995, and served in various positions in corporate accounting since joining Kroger in 1985. James R. Thorne 53 Mr. Thorne was elected Senior Vice President effective June 18, 1995. Prior to his election he was appointed President of the Company's Mid-Atlantic Marketing Area in 1993. Before this Mr. Thorne served in a number of key management positions in the Mid-Atlantic Marketing Area, including Advertising Manager, Zone Manager, Director of Operations, and Vice President- Merchandising. He joined the Company in 1966 as a part-time grocery clerk. Felicia Thornton 36 Ms. Thornton was named Group Vice President of Retail Operations effective March 12, 2000. She previously served as Group Vice President of Finance and Administration and also as Vice President of Administration with Ralphs Grocery Co., a wholly-owned subsidiary of the Company. During her seven years at Ralphs, Ms. Thornton held a series of management positions in corporate planning, strategic projects, accounting and administration. Lawrence M. Turner 52 Mr. Turner was elected Vice President on December 5, 1986. He was elected Treasurer on December 2, 1984. Mr. Turner has been with the Company since 1974.
ITEM 11. EXECUTIVE COMPENSATION The information required by this item is set forth in the section entitled Compensation of Executive Officers 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 52 The information required by this item is set forth in the tabulation of the amount and nature of Beneficial Ownership of the Company's securities 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 The information required by this item is set forth in the section entitled Information Concerning The Board Of Directors - Certain Transactions 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. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K (a) Financial Statements: Report of Independent Public Accountants Consolidated Balance Sheet as of January 29, 2000 and January 2, 1999 Consolidated Statement of Income for the years ended January 29, 2000, January 2, 1999, and December 27, 1997 Consolidated Statement of Cash Flows for the years ended January 29, 2000 and January 2, 1999 Consolidated Statement of Changes in Shareowners' Equity (Deficit) Notes to Consolidated Financial Statements 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 (b) Reports on Form 8-K: On December 6, 1999, The Kroger Co. filed a Current Report on Form 8-K with the SEC disclosing its earnings release for the third quarter 1999, disclosing the text of prepared remarks for an investor conference call on December 6, 1999, disclosing identical store sales increases thus far for the fourth quarter, and disclosing a revision in its estimate of what combined sales and earnings per share for the third and fourth quarters 1998 would have been taking into account the merger with Fred Meyer and the change in its fiscal year. On January 12, 2000, The Kroger Co. filed a Current Report on Form 8-K with the SEC disclosing its reaffirmation of its earnings per share estimate for fourth quarter 1999, of its estimated earnings per share growth rate for 2000-2002, and of its expected combined synergy savings from the Kroger/Fred Meyer merger and prior Fred Meyer mergers. In that same Current Report, Kroger disclosed adjustments to sales and earnings per share estimates for fourth quarter 1998, adjusting for the 53rd week calendar in 1998 for pre-merger Kroger, and normalization of Ralphs' depreciation and amortization during the fourth quarter of 1998. It also disclosed its best estimates of reasonable assumptions to be used for 2000 by analysts in completing models. Finally, it filed as an exhibit to the Current Report detailed income statements year-to-date. (c) Exhibits 3.1 Amended Articles of Incorporation of The Kroger Co. are incorporated by reference to Exhibit 3.1 of The Kroger Co.'s Quarterly Report on Form 10-Q for the quarter ended 53 October 3, 1998. The Kroger Co.'s Regulations are incorporated by reference to Exhibit 4.2 of The Kroger Co.'s Registration Statement on Form S-3 (Registration No. 33-57552) filed with the SEC on January 28, 1993. 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 Material Contracts - Third Amended and Restated Employment Agreement dated as of July 22, 1993, between the Company and Joseph A. Pichler is hereby incorporated by reference to Exhibit 10.1 to the Company's Form 10-Q for the quarter ended October 9, 1993. 10.2 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. 10.3 Yucaipa Warrant Agreement. Incorporated by reference to Exhibit 10.3 of Smith's Food & Drug Centers, Inc.'s Registration Statement on Form S-3, No. 333-14953, filed on October 28, 1996. Supplemental Warrant, dated as of September 9, 1997, among Fred Meyer, Inc. (formerly Meyer-Smith Holdco, Inc.) and the Yucaipa Companies. Incorporated by reference to Exhibit 10.3 of Fred Meyer, Inc.'s Form 10-Q for the quarter ended November 8, 1997, SEC File No. 1-13339. Second Supplemental Warrant, dated as of May 27, 1999, between The Kroger Co. and the Yucaipa Companies. 12.1 Statement of Computation of Ratio of Earnings to Fixed Charges. 21.1 Subsidiaries of the Registrant. 23.1 Consent of Independent Public Accountants. 23.2 Consent of Independent Public Accountants. 23.3 Consent of Independent Public Accountants. 24.1 Powers of Attorney. 27.1 Financial Data Schedule. 99.1 Annual Reports on Form 11-K for The Kroger Co. Savings Plan and the Dillon Companies, Inc. Employee Stock Ownership Plan and Trust for the Year 1999. 99.2 Annual Report on Form 11-K for the Fred Meyer, Inc. 401(k) Savings Plan for the Plan Year ended March 31, 2000 will be filed by amendment on or before September 27, 2000. 54 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 27, 2000 By (*Joseph A. Pichler) Joseph A. Pichler, Chairman of the Board of Directors and Chief Executive Officer Dated: April 27, 2000 By (*J. Michael Schlotman) J. Michael Schlotman Group Vice President and Chief Financial Officer Dated: April 27, 2000 By (*M. Elizabeth Van Oflen) M. Elizabeth Van Oflen Vice President & Corporate Controller and Principal Accounting 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 27th day of April, 2000.
(*Reuben V. Anderson) Director Reuben V. Anderson (*Robert D. Beyer) Director Robert D. Beyer (*Ronald W. Burkle) Director Ronald W. Burkle (*John L. Clendenin) Director John L. Clendenin (*David B. Dillon) President, Chief Operating David B. Dillon Officer, and Director
55
(*Carlton J. Jenkins) Director Carlton J. Jenkins (*Bruce Karatz) Director Bruce Karatz (*John T. LaMacchia) Director John T. LaMacchia ________________________ Director Edward M. Liddy (*Clyde R. Moore) Director Clyde R. Moore (*T. Ballard Morton, Jr.) Director T. Ballard Morton, Jr. (*Thomas H. O'Leary) Director Thomas H. O'Leary (*Katherine D. Ortega) Director Katherine D. Ortega (*Joseph A. Pichler) Chairman of the Board of Joseph A. Pichler Directors, Chief Executive Officer, and Director (*Steven R. Rogel) Director Steven R. Rogel ________________________ Director Martha Romayne Seger (*Bobby S. Shackouls) Director Bobby S. Shackouls (*James D. Woods) Director James D. Woods
*By: (Bruce M. Gack) Bruce M. Gack Attorney-in-fact EX-10.3 2 EXHIBIT 10.3 1 Exhibit 10.3 SECOND SUPPLEMENTAL WARRANT AGREEMENT SECOND SUPPLEMENTAL WARRANT AGREEMENT (the "Agreement") dated as of May 27, 1999, between THE KROGER CO., an Ohio corporation (the "Company"), and THE YUCAIPA COMPANIES, a California general partnership, or its registered permitted assigns (the "Consultant"). WHEREAS, Fred Meyer, Inc., a Delaware corporation ("Fred Meyer"), has become a wholly-owned subsidiary of the Company as a result of the transactions (collectively, the "Merger") contemplated in the Agreement and Plan of Merger dated as of October 18, 1998 (the "Merger Agreement") by and between the Company, Jobsite Holdings, Inc., a Delaware corporation, and Fred Meyer. WHEREAS, Smith's Food and Drug Centers, Inc., a Delaware corporation ("Smith's"), became a wholly-owned subsidiary of Fred Meyer as a result of the transaction (the "Smith's Merger") contemplated in the Agreement and Plan of Reorganization and Merger dated as of May 11, 1997, between Smith's and FM Stores, Inc., a Delaware corporation and predecessor to Fred Meyer. WHEREAS, prior to the effective date of the Smith's Merger, Smith's was a party to a Warrant Agreement dated May 23, 1996 (the "Warrant Agreement") between Smith's and the Consultant pursuant to which Smith's issued 1,842,555 warrants to purchase an aggregate of 1,842,555 shares of Class C Common Stock, $.01 par value per share, of Smith's. WHEREAS, upon consummation of the Smith's Merger, the Warrant Agreement was supplemented pursuant to its terms and Fred Meyer became a party to a Supplemental Warrant Agreement dated September 9, 1997 (the "First Supplement") between Fred Meyer and the Consultant pursuant to which Fred Meyer issued 3,869,366 warrants to purchase an aggregate of 3,869,366 shares of common stock, $.01 par value per share, of Fred Meyer (as adjusted to account for a 2-for-1 stock split subsequent to the effective date of the First Supplement). Defined terms used herein and not otherwise defined herein have the meanings set forth in the Warrant Agreement as supplemented by the First Supplement. WHEREAS, pursuant to the terms of the Merger Agreement, the Warrant Agreement and the First Supplement, the Company is required to enter into a supplemental warrant agreement to provide for the issuance of common stock ("Common Stock") of the Company upon exercise of the warrants subject to the Warrant Agreement and the First Supplement. 2 NOW, THEREFORE, in consideration of the premises and the mutual agreements set forth in this Agreement, the Warrant Agreement, the First Supplement and the Merger Agreement, the parties hereto agree as follows: SECTION 1. The Warrant Agreement, as supplemented by the First Supplement, is hereby amended such that, unless the context requires otherwise, the following defined terms contained therein shall have the meanings set forth below: (a) "Common Stock" shall mean and refer to the Common Stock of the Company. (b) "Company" shall mean and refer to The Kroger Co., an Ohio corporation. (c) "Holder(s)" shall mean and refer to the registered holder(s) of the Warrant Certificates or the New Warrant Certificates, as defined below. (d) "Merger Agreement" shall mean and refer to the Agreement and Plan of Merger dated as of October 18, 1998, by and between the Company, Jobsite Holdings, Inc. and Fred Meyer. (e) "Warrant Shares" shall mean and refer to the Common Stock of the Company issuable upon exercise of the Warrants. (f) "Warrants" shall mean and refer to the 3,869,366 warrants, as described herein, in the First Supplement and in the Warrant Agreement, to purchase an aggregate of 3,869,366 shares (subject to adjustment) of Common Stock of the Company, pursuant hereto and pursuant to the Merger Agreement. SECTION 2. Subject to the terms and conditions of the Warrant Agreement and the First Supplement, the Company shall issue shares of its Common Stock as set forth in Section 3 hereof to Holders of Warrants upon exercise of such Warrants. SECTION 3. The Warrants shall be exercisable initially for an aggregate of 3,869,366 Warrant Shares at an Exercise Price of $23.80952 per share, subject in each case to the adjustment provisions contained in the Warrant Agreement. SECTION 4. Upon tender and delivery to the Company by any Holder of Series A Warrant Certificates or Series B Warrant Certificates (as defined in the Warrant Agreement) or both and upon cancellation thereof, the Company shall issue and deliver new warrant certificates ("New Warrant Certificates") evidencing the Warrants of such tendering Holders. The New Warrant Certificates shall reflect the amendments to the Warrant Agreement and the First Supplement contained herein. 3 Series A Warrant Certificates and Series B Warrant Certificates shall continue to be valid evidence of the Warrants, and shall continue to be exercisable for the Common Stock of the Company pursuant to the terms hereof and in the Warrant Agreement, as supplemented by the First Supplement. The New Warrant Certificates shall comply with and be subject to all of the terms and conditions of the Warrant Agreement, as supplemented, applicable to the Warrant Certificates. SECTION 5. Section 12 of the Warrant Agreement is hereby amended so that notices shall be made as set forth therein to the Company at 1014 Vine Street, Cincinnati, Ohio 45202, Attn: Chief Financial Officer, with a copy to the General Counsel. SECTION 6. The Company hereby assumes all obligations of Fred Meyer under the Warrant Agreement and the First Supplement thereto and agrees to be bound by all of the provisions thereof, as amended by this Agreement. IN WITNESS WHEREOF, the parties hereto have caused this Agreement to be duly executed, as of the day and year first above written. THE KROGER CO. By: /s/ Paul W. Heldman ------------------------------ Name: Paul W. Heldman Title: Senior Vice President THE YUCAIPA COMPANIES By: /s/ Ronald W. Burkle ------------------------------ Name: Ronald W. Burkle Title: Managing General Partner EX-12.1 3 EXHIBIT 12.1 1 Exhibit 12.1 SCHEDULE OF COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES OF THE KROGER CO. AND CONSOLIDATED SUBSIDIARY COMPANIES FOR THE FIVE FISCAL YEARS ENDED JANUARY 29, 2000
Fiscal Years Ended ----------------------------------------------------------------------------- January 29, January 2, December 27, December 28, December 30, 2000 1999 1997 1996 1995 (52 weeks) (53 weeks) (52 weeks) (52 weeks) (52 weeks) ---------- ---------- ---------- ---------- ---------- (in millions of dollars) Earnings: Earnings before tax expense (credit), and extraordinary loss ... $ 1,129 $ 871 $ 954 $ 701 $ 591 Fixed charges ............ 1,031 1,038 679 595 596 Capitalized interest ..... (5) (9) (10) (12) (11) ------- ------- ------- ------- ------- $ 2,155 $ 1,900 $ 1,623 $ 1,284 $ 1,176 ======= ======= ======= ======= ======= Fixed charges: Interest ................. $ 659 $ 654 $ 397 $ 361 $ 369 Portion of rental payments deemed to be interest ....... 372 384 282 234 227 ------- ------- ------- ------- ------- $ 1,031 $ 1,038 $ 679 $ 595 $ 596 ======= ======= ======= ======= ======= Ratio of earnings to fixed charges ............ 2.1 1.8 2.4 2.2 2.0
EX-21.1 4 EXHIBIT 21.1 1 EXHIBIT 21.1 SUBSIDIARIES OF THE KROGER CO.
Name State of Incorporation/Organization - ---- ----------------------------------- Agri-Products, Inc. Arkansas Bluefield Beverage Company Ohio Country Oven, Inc. Ohio Dillon Companies, Inc. Kansas Also Doing Business As: Dillon Food Stores N/A* Dillon Stores Division, Inc. N/A* GHC Merchandise Distribution, Inc. N/A* Gerbes Supermarkets N/A* King Soopers, Inc. N/A* Sav-Mor N/A* Dotto, Inc. Indiana Drug Distributors, Inc. Indiana Embassy International, Inc. Ohio Fred Meyer, Inc. Delaware Ft. Wayne Food Stores, Inc. Ohio Henke & Pillot, Inc. Texas Henpil, Inc. Texas (Subsidiary of Rocket Newco, Inc.) Inter-American Foods, Inc. Ohio Inter-American Products, Inc. Ohio (Formerly known as Jubilee Products, Inc.) J.V. Distributing, Inc. Michigan KRGP Inc. Ohio KRLP Inc. Ohio The Kroger Co. of Michigan Michigan Also Doing Business As: The Apple Orchard Fruit Market N/A* Bi-Lo Discount Foods N/A* World of Videos, Movies and Munch More N/A* Michigan Dairy, L.L.C. Michigan (limited liability company) Kroger Dedicated Logistics Co. Ohio Kroger Limited Partnership I Ohio (limited partnership) Also Doing Business As: Kentucky Distribution Center N/A* Kroger Kare Home Infusion N/A* The Pet Food Super Center N/A* The Petfood Place N/A* Peyton's Southeastern N/A* Peyton's Southeastern, Inc. N/A* Kroger Limited Partnership II Ohio (limited partnership) Also Doing Business As: Country Oven Bakery N/A* Crossroad Farms Dairy N/A* Indianapolis Bakery N/A* K. B. Specialty Foods N/A* Kenlake Foods N/A*
2 EXHIBIT 21.1 SUBSIDIARIES OF THE KROGER CO.
Name State of Incorporation/Organization - ---- ----------------------------------- Pace Dairy of Indiana N/A* Peyton's N/A* Peyton's Mid-South Company N/A* Peyton's Northern N/A* Winchester Farms Dairy N/A* Kroger Management Co. Michigan Kroger Texas L.P. Ohio (limited partnership) Also Doing Business As: America's Beverage Company N/A* Vandervoort's Dairy Food Company N/A* MANUCO Incorporated Ohio One Holdings, Inc. Delaware Also Doing Business As: Seven Holdings, Inc. N/A* Pace Dairy Foods Company Ohio Pay Less Super Markets, Inc. Indiana Peyton's-Southeastern, Inc. Tennessee Also Doing Business As: Supermarket Merchandisers Co. N/A* Pontiac Foods, Inc. South Carolina RJD Assurance, Inc. Vermont Rocket Newco, Inc. Texas Southern Ice Cream Specialties, Inc. Ohio Ten Holdings, Inc. Delaware Three Holdings, Inc. Delaware Topvalco, Inc. Ohio Two Holdings, Inc. Delaware Vine Court Assurance Incorporated Vermont Wydiv, Inc. Texas (Subsidiary of Rocket Newco, Inc.)
Subsidiaries of Dillon Companies, Inc.
Name State of Incorporation/Organization - ---- ----------------------------------- City Market, Inc. Colorado Also Doing Business As: Circle Super N/A* Dillon Real Estate Co., Inc. Kansas Jackson Ice Cream Co., Inc. Kansas Also Doing Business As: Jackson & Company N/A*
3 EXHIBIT 21.1 SUBSIDIARIES OF THE KROGER CO. Subsidiaries of Dillon Companies, Inc.
Name State of Incorporation/Organization - ---- ----------------------------------- Junior Food Stores of West Florida, Inc. Florida Also Doing Business As: Tom Thumb Food Stores N/A* Kwik Shop, Inc. Kansas Mini Mart, Inc. Wyoming Also Doing Business As: Loaf 'N Jug, Inc. N/A* Quik Stop Markets, Inc. California Royalty Enterprises, Ltd. Colorado (Subsidiary of Mini Mart, Inc.) THGP Co., Inc. Pennsylvania THLP Co., Inc. Pennsylvania Turkey Hill, L.P. Pennsylvania (limited partnership) Also Doing Business As: Turkey Hill Dairy, Inc. N/A* Turkey Hill Minit Markets N/A* Wells Aircraft, Inc. Kansas (Subsidiary of Dillon Real Estate Co., Inc.)
Subsidiaries of Fred Meyer, Inc.
Name State of Incorporation/Organization - ---- ----------------------------------- Fred Meyer Stores, Inc. Delaware (Subsidiary of Fred Meyer, Inc.) CB&S Advertising Agency, Inc. Oregon (Subsidiary of Fred Meyer Stores, Inc.) Distribution Trucking Company Oregon (Subsidiary of Fred Meyer Stores, Inc.) FM, Inc. Utah (Subsidiary of Fred Meyer Stores, Inc.) FM Holding Corporation Delaware (Subsidiary of Fred Meyer Stores, Inc.) Grand Central, Inc. Utah (Subsidiary of FM Holding Corporation) FM Retail Services, Inc. Washington (Subsidiary of Fred Meyer Stores, Inc.) Fred Meyer, Inc. Washington (Subsidiary of Fred Meyer Stores, Inc.) Fred Meyer of Alaska, Inc. Alaska (Subsidiary of Fred Meyer Stores, Inc.) Fred Meyer of California, Inc. California (Subsidiary of Fred Meyer Stores, Inc.) Fred Meyer (HK) Limited Hong Kong (Subsidiary of Fred Meyer Stores, Inc.) Fred Meyer Jewelers, Inc. Delaware (Subsidiary of Fred Meyer Stores, Inc.)
4 EXHIBIT 21.1 SUBSIDIARIES OF THE KROGER CO. Subsidiaries of Fred Meyer, Inc.
Name State of Incorporation/Organization - ---- ----------------------------------- Merksamer Jewelers, Inc. California (Subsidiary of Fred Meyer Jewelers, Inc.) Natur Glo, Inc. Oregon (Subsidiary of Fred Meyer Stores, Inc.) Roundup Co. Washington (Subsidiary of Fred Meyer Stores, Inc.) JH Properties, Inc. Washington (Subsidiary of Roundup Co.) Smith's Food & Drug Centers, Inc. Delaware (Subsidiary of Fred Meyer, Inc.) Richie's, Inc. Texas (Subsidiary of Smith's Food & Drug Centers, Inc.) Smith's Beverage of Wyoming Wyoming (Subsidiary of Smith's Food & Drug Centers, Inc.) Smitty's Supermarkets, Inc. Delaware (Subsidiary of Smith's Food & Drug Centers, Inc.) Smitty's Super Valu, Inc. Delaware (Subsidiary of Smitty's Supermarkets, Inc.) Compare, Inc. Delaware (Subsidiary of Smitty's Super Valu, Inc.) Saint Lawrence Holding Company Delaware (Subsidiary of Smitty's Super Valu, Inc.) SLHC 2, Inc. Delaware (Subsidiary of Saint Lawrence Holding Company) Smitty's Equipment Leasing, Inc. Delaware (Subsidiary of Smitty's Super Valu, Inc.) Treasure Valley Land Company, L.C. Idaho (Subsidiary of Smith's Food & Drug Centers, Inc.) Western Property Investment Group, Inc. California (Subsidiary of Smith's Food & Drug Centers, Inc.) Healthy Options Inc. Delaware (Subsidiary of Fred Meyer, Inc.) Quality Food Centers, Inc. Washington (Subsidiary of Fred Meyer, Inc.) Hughes Markets, Inc. California (Subsidiary of Quality Food Centers, Inc.) Hughes Realty, Inc. California (Subsidiary of Hughes Markets, Inc.) KU Acquisition Corporation Washington (Subsidiary of Quality Food Centers, Inc.) Quality Food, Inc. Delaware (Subsidiary of Quality Food Centers, Inc.) Quality Food Holdings, Inc. Delaware (Subsidiary of Quality Food, Inc.) QFC Sub, Inc. Washington (Subsidiary of Quality Food Holdings, Inc.)
5 EXHIBIT 21.1 SUBSIDIARIES OF THE KROGER CO. Subsidiaries of Fred Meyer, Inc.
Name State of Incorporation/Organization - ---- ----------------------------------- Second Story, Inc. Washington (Subsidiary of Quality Food Centers, Inc.) Art's Food Center, Inc. Washington (Subsidiary of Quality Food Centers, Inc.) Food 4 Less Holdings, Inc. Delaware (Subsidiary of Fred Meyer, Inc.) Ralphs Grocery Company Delaware (Subsidiary of Food 4 Less Holdings, Inc.) Cala Co. Delaware (Subsidiary of Ralphs Grocery Company) Bay Area Warehouse Stores, Inc. California (Subsidiary of Cala Co.) Bell Markets, Inc. California (Subsidiary of Cala Co.) Cala Foods, Inc. California (Subsidiary of Cala Co.) Crawford Stores, Inc. California (Subsidiary of Ralphs Grocery Company) Food 4 Less of Southern California, Inc. Delaware (Subsidiary of Ralphs Grocery Company) Alpha Beta Company California (Subsidiary of Food 4 Less of Southern California, Inc.) Food 4 Less GM, Inc. California (Subsidiary of Alpha Beta Company) Food 4 Less of California, Inc. California (Subsidiary of Alpha Beta Company) Food 4 Less Merchandising, Inc. California (Subsidiary of Alpha Beta Company)
EX-23.1 5 EXHIBIT 23.1 1 Exhibit 23.1 CONSENT OF INDEPENDENT ACCOUNTANTS We hereby consent to the incorporation by reference in the registration statements of The Kroger Co. on Form S-8 (File No. 33-2056), Form S-8 (File No.2-98858), Form S-8 (File No. 33-20734), Form S-8 (File No. 33-25698), Form S-8 (File No. 33-38121), Form S-8 (File No. 33-38122), Form S-8 (File No. 33-53747), Form S-8 (File No. 33-55501), Form S-8 (File No.333-11859), Form S-8 (File No. 333-11909), Form S-8 (File No. 333-27211), Form S-4 (File No. 333-66961), Form S-8 (File No.333-78935), Form S-4 (File No. 333-85725), Form S-8 (File No. 333-89977), and Form S-3 (File No. 333-95955) of our report (which includes an explanatory paragraph relating to the Company's change in its application of the LIFO method of accounting for store inventories as of December 28, 1997) dated March 9, 2000, on our audits of the consolidated financial statements of The Kroger Co. as of and for the three years ended January 29, 2000, which report is included in this Annual Report on Form 10-K. /s/ PricewaterhouseCoopers LLP PricewaterhouseCoopers LLP Cincinnati, Ohio April 27, 2000 EX-23.2 6 EXHIBIT 23.2 1 Exhibit 23.2 INDEPENDENT AUDITORS' CONSENT We consent to the incorporation by reference in Registration Statement Nos. 33-2056, 2-98858, 33-20734, 33-25698, 33-38121, 33-38122, 33-53747, 33-55501, 333-11859, 333-11909, 333-27211, 333-78935, and 333-89977 of The Kroger Co., all on Form S-8, Registration Statement Nos. 333-66961 and 333-85725 of The Kroger Co., all on Form S-4, and Registration Statement No. 333-95955 of The Kroger Co. on Form S-3, of our report dated March 10, 1999 on our audits of the consolidated financial statements of Fred Meyer, Inc. as of January 30, 1999 and for the years ended January 30, 1999 and January 31, 1998, which statements are included by The Kroger Co. in its consolidated financial statements as of January 29, 2000 and January 2, 1999, and for the years ended January 29, 2000, January 2, 1999, and December 27, 1999, giving retroactive effect to the merger of Fred Meyer, Inc. on May 27, 1999 in a transaction accounted for as a pooling of interests, which report is included in this Annual Report on Form 10-K. /s/ Deloitte & Touche LLP DELOITTE & TOUCHE LLP Portland, Oregon April 25, 2000 EX-23.3 7 EXHIBIT 23.3 1 EXHIBIT 23.3 ------------ Consent of Independent Accountants ---------------------------------- We consent to the incorporation by reference in the registration statement of The Kroger Co. on Form S-8 (333-11859) of our report dated April 18, 2000, on our audits of the financial statements and financial statement schedules of The Kroger Co. Savings Plan as of December 31, 1999 and 1998, and for the years then ended, which report is included in this annual report on Form 10-K. We also consent to the incorporation by reference in the registration statement of The Kroger Co. on Form S-8 (333-11909) of our report dated April 7, 2000, on our audits of the financial statements and financial statement schedules of Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan as of December 31, 1999 and 1998, and for the years then ended, which report is included in this annual report on Form 10-K. /s/ PricewaterhouseCoopers LLP - -------------------------------- PricewaterhouseCoopers LLP Cincinnati, Ohio April 27, 2000 EX-24.1 8 EXHIBIT 24.1 1 Exhibit 24.1 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS, That each of the undersigned directors of THE KROGER CO. (the "Company") hereby makes, constitutes and appoints Paul W. Heldman and Bruce M. Gack, or either of them, his or her true and lawful attorneys-in-fact to sign and execute for and on his or her behalf the Company's annual report on Form 10-K, and any and all amendments thereto, to be filed with the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, as amended, in such form as they, or either of them, may approve and to do any and all other acts which said attorneys-in-fact, or either of them, may deem necessary or desirable to enable The Kroger Co. to comply with said Act or the rules and regulations thereunder. IN WITNESS WHEREOF, the undersigned directors have hereunto set their hands as of the 31st day of March, 2000. (John L. Clendenin) (Bruce Karatz) John L. Clendenin Bruce Karatz (Katherine D. Ortega) (Robert D. Beyer) Katherine D. Ortega Robert D. Beyer (T. Ballard Morton, Jr.) (John T. LaMacchia) T. Ballard Morton, Jr. John T. LaMacchia (Steven R. Rogel) (Carlton J. Jenkins) Steven R. Rogel Carlton J. Jenkins (Ronald W. Burkle) (Reuben V. Anderson) Ronald W. Burkle Reuben V. Anderson (Joseph A. Pichler) (Clyde R. Moore) Joseph A. Pichler Clyde R. Moore (David B. Dillon) (Bobby S. Shackouls) David B. Dillon Bobby S. Shackouls (Thomas H. O'Leary) Thomas H. O'Leary (James D. Woods) James D. Woods 2 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS: The undersigned officer of THE KROGER CO. (the "Company") does hereby severally make, constitute and appoint Paul W. Heldman and Bruce M. Gack, or either of them, his true and lawful attorneys-in-fact to sign and execute for and on his behalf the Company's annual report on Form 10-K, and any and all amendments thereto, to be filed with the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, as amended, in such form as they, or either of them, may approve and to do any and all other acts which said attorneys-in-fact, or either of them, may deem necessary or desirable to enable The Kroger Co. to comply with said Act or the rules and regulations thereunder. IN WITNESS WHEREOF, I have hereunto set my hand. March 31, 2000 (J. Michael Schlotman) J. Michael Schlotman Group Vice President & Chief Financial Officer 3 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS: The undersigned officer of THE KROGER CO. (the "Company") does hereby severally make, constitute and appoint Paul W. Heldman and Bruce M. Gack, or either of them, his true and lawful attorneys-in-fact to sign and execute for and on his behalf the Company's annual report on Form 10-K, and any and all amendments thereto, to be filed with the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, as amended, in such form as they, or either of them, may approve and to do any and all other acts which said attorneys-in-fact, or either of them, may deem necessary or desirable to enable The Kroger Co. to comply with said Act or the rules and regulations thereunder. IN WITNESS WHEREOF, I have hereunto set my hand. (Joseph A. Pichler) March 31, 2000 Joseph A. Pichler Chief Executive Officer and Director 4 POWER OF ATTORNEY KNOW ALL PERSONS BY THESE PRESENTS: The undersigned officer of THE KROGER CO. (the "Company") does hereby severally make, constitute and appoint Paul W. Heldman and Bruce M. Gack, or either of them, his true and lawful attorneys-in-fact to sign and execute for and on his behalf the Company's annual report on Form 10-K, and any and all amendments thereto, to be filed with the Securities and Exchange Commission pursuant to the Securities Exchange Act of 1934, as amended, in such form as they, or either of them, may approve and to do any and all other acts which said attorneys-in-fact, or either of them, may deem necessary or desirable to enable The Kroger Co. to comply with said Act or the rules and regulations thereunder. IN WITNESS WHEREOF, I have hereunto set my hand. (M. Elizabeth Van Oflen) March 31, 2000 M. Elizabeth Van Oflen Vice President, Corporate Controller and Principal Accounting Officer EX-27.1 9 EXHIBIT 27.1
5 THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE CONSOLIDATED BALANCE SHEET AS OF JANUARY 29, 2000 AND THE CONSOLIDATED STATEMENT OF INCOME FOR THE YEAR THEN ENDED AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL STATEMENTS. 1,000,000 YEAR JAN-29-2000 JAN-31-1999 JAN-29-2000 281 0 622 0 3,938 5,531 13,042 4,767 17,966 5,728 9,014 0 0 885 1,798 17,966 45,352 45,352 33,331 33,331 10,240 0 652 1,129 491 638 0 (10) 0 628 0.76 0.73
EX-99.1 10 EXHIBIT 99.1 1 EXHIBIT 99.1 The Kroger Co. Savings Plan Report On Audits Of Financial Statements And Supplemental Schedules For The Years Ended December 31, 1999 and 1998 2 The Kroger Co. Savings Plan Index To Financial Statements December 31, 1999 and 1998 Pages ----- Report of Independent Accountants 2 Statement of Net Assets Available For Plan Benefits at December 31, 1999 and 1998 3 Statement of Changes in Net Assets Available For Plan Benefits for the years ended December 31, 1999 and 1998 4 Notes to Financial Statements 5-7 Item 27a - Schedule of Assets Held for Investment Purposes at December 31, 1999 8 Item 27d - Schedule of Reportable Transactions for the year ended December 31, 1999 9 3 REPORT OF INDEPENDENT ACCOUNTANTS To the Administrative Committee of The Kroger Co. Savings Plan In our opinion, the accompanying statement of net assets available for benefits and the related statement of changes in net assets available for benefits present fairly, in all material respects, the net assets available for benefits of The Kroger Co. Savings Plan (the "Plan") at December 31, 1999 and 1998, and the changes in net assets available for benefits for the years then ended in conformity with accounting principles generally accepted in the United States. These financial statements are the responsibility of the Plan's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes 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. We believe that our audits provide a reasonable basis for the opinion expressed above. Our audits were conducted for the purpose of forming an opinion on the basic financial statements taken as a whole. The supplemental schedules referred to in the Index to Financial Statements are presented for the purpose of additional analysis and are not a required part of the basic financial statements but are supplementary information required by the Department of Labor's Rules and Regulations for Reporting and Disclosure under the Employee Retirement Income Security Act of 1974. These supplemental schedules are the responsibility of the Plan's management. The supplemental schedules have been subjected to the auditing procedures applied in the audits of the basic financial statements and, in our opinion, are fairly stated in all material respects in relation to the basic financial statements taken as a whole. /s/ PricewaterhouseCoopers LLP PricewaterhouseCoopers LLP Cincinnati, Ohio April 18, 2000 4 THE KROGER CO. SAVINGS PLAN STATEMENT OF NET ASSETS AVAILABLE FOR PLAN BENEFITS at December 31, 1999 and 1998 (In thousands of dollars)
1999 1998 ---------- ------- Assets Investments: Employer Stock Fund $1,080,905 $1,636,141 Merrill Lynch Equity Index Trust 136,422 118,631 Merrill Lynch Basic Value 25,569 26,195 Merrill Lynch Global Allocation 14,807 9,271 American Capital Emerging Growth 70,421 32,398 Templeton Foreign 13,644 11,014 Fixed Income 141,567 159,273 Participation Loans 28,869 27,059 Temporary Investment Fund 650 5,028 ---------- ---------- Total investments 1,512,854 2,025,010 Receivables: Contributions 10,270 6,293 Interest and dividends 508 388 ---------- ---------- Total assets 1,523,632 2,031,691 ---------- ---------- Liabilities Payable for administrative fees 207 140 ---------- ---------- Total liabilities 207 140 ---------- ---------- Net assets available for plan benefits $1,523,425 $2,031,551 ========== ==========
The accompanying notes are an integral part of the financial statements. 3 5 THE KROGER CO. SAVINGS PLAN STATEMENT OF CHANGES IN NET ASSETS AVAILABLE FOR PLAN BENEFITS for the years ended December 31, 1999 and 1998 (In thousands of dollars)
1999 1998 ---------- ------- Additions to (reduction in) net assets attributable to: Employee contributions $ 75,244 $ 60,770 Employer contributions 9,504 6,296 Transfer from (to) other trusts 89,397 - ---------- ---------- Total contributions and transfers 174,145 67,066 Investment activity Dividends 11,860 5,937 Interest 12,180 11,376 Net (depreciation) appreciation (607,066) 673,043 ---------- ---------- Total (reductions) additions (408,881) 757,422 ---------- ---------- Distributions to participants 98,193 83,248 Payable for administrative fees 1,052 425 ---------- ---------- Total deductions 99,245 83,673 ---------- ---------- Net (decrease) increase (508,126) 673,749 Net assets available for plan benefits: Beginning of year 2,031,551 1,357,802 ---------- ---------- End of year $1,523,425 $2,031,551 ========== ==========
The accompanying notes are an integral part of the financial statements. 4 6 THE KROGER CO. SAVINGS PLAN NOTES TO FINANCIAL STATEMENTS 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The following describes the significant policies followed in the preparation of these financial statements. INVESTMENTS VALUATION Investments in equity securities, mutual funds and collective trusts are valued at fair value (quoted market prices where available) or estimated fair values. Investment contracts are valued at contract value (cost plus accrued interest). PERVASIVENESS OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of net assets available for plan benefits as of the date of the Plan's financial statements and the reported changes in net assets available for plan benefits during the reporting period. Actual results could differ from those estimates. OTHER Purchases and sales of securities are reflected on a trade date basis. Gain or loss on sales of securities are based on average cost. Dividend income is recorded on the ex-dividend date. Income from other investments is recorded as earned. The Plan presents in the statement of changes in net assets available for plan benefits the net appreciation or depreciation in the fair value of its investments which consists of the realized gains or losses and the unrealized appreciation or depreciation on those investments. Participants may borrow from their fund accounts a minimum of $1,000 up to a maximum equal to the lowest of: a) account balance less $2,500; b) 50% of account balance; c) $50,000 less the highest outstanding loan balance over the last 12 months. Loan transactions are treated as a transfer from the investment fund to the Participant Loan Fund. Loan terms range from 1-4 years or up to 6 years for the purchase of a primary residence. The loans are collateralized by the balance in the participant's account and bear interest at a rate of Prime plus 1.5%. The rate is changed quarterly and the Prime rate used for a quarter is the Prime rate on the last business day of the previous quarter. Principal and interest are paid through periodic payroll deductions. 2. PLAN DESCRIPTION The Plan provides for eligible employees of The Kroger Co. and subsidiaries (the "Company") to redirect a portion of their salary, up to limits defined in the Plan, to the seven investment funds of the Plan at any time. Employee contributions to the Plan are limited to the lower of $10,000 or 19% (6% if the participant is a highly compensated employee as defined by the Internal Revenue Service) of the employee's annual compensation during the period in which they are a participant in the Plan, subject to Internal Revenue Service Code limitations. At the end of each year, the Company makes a basic matching contribution into the Employer Stock Fund equal to ten percent (10%) of the salary directed by participants to the Employer Stock Fund during the year. A supplemental matching contribution is allocated in proportion to salary directed to all investment funds. This supplemental contribution is automatically invested in the Employer Stock Fund. The supplemental contribution is based on the annual financial results of the Company and determined annually by the Board of Directors. The supplemental contribution ranges from none to twenty percent (20%) of participant contributions. 5 7 In 1999, the Company made matching and supplemental contributions. The supplemental contribution was 6%. In 1998, the Company made a matching contribution and a supplemental contribution of 4%. Each participant's account is credited with the participant's contribution and an allocation of the Company's matching contribution, Plan earnings, and other adjustments as defined in the Plan. Allocations are based on participant earnings or account balances as defined. The benefit to which a participant is entitled is the benefit that can be provided from the participant's account. Further information about the Plan, including vesting, allocation and benefit provisions, and employer and employee contributions is contained in the Plan, and Plan amendments. Copies of these documents are available from the Company's Personnel Department. 3. INVESTMENT CONTRACTS The Plan's Fixed Income Fund contains various investment contracts which are fully benefit-responsive. A fully benefit-responsive investment provides a liquidity guarantee by a financially responsible third party of principal and previously accrued interest for liquidations, transfers, loans, or withdrawals initiated by plan participants under the terms of the ongoing Plan. Certain employer initiated events (i.e., lay-offs, mergers, bankruptcy, plan termination) are not eligible for the liquidity guarantee. The following information is presented in the aggregate for the investment contracts: 1999 1998 ------------ ------------ Fair value $137,432,142 $135,981,239 Crediting interest rates 5.2% to 7.2% 5.4% to 7.3% Average yield 6.6% 6.8% The crediting interest rates for the investment contracts are based upon the contract rate or a predetermined formula which factors in duration, market value and book value of the investment. Certain of the crediting rates are adjusted quarterly. The minimum crediting interest rate for these investments is zero. The fair value of the investment contracts is calculated as the aggregate present value of the underlying cash flows using interest rates quoted for securities with similar duration and credit risk. 4. TAX STATUS The Plan obtained its latest determination letter in March 1998, in which the Internal Revenue Service stated that the Plan, as then designed, was in compliance with the Internal Revenue Code. Therefore, no provision for income taxes has been included in the Plan's financial statements. Participant contributions and earnings of the Plan are not subject to federal income tax until distribution, at which time they are taxable to the recipient. 5. NONPARTICIPANT-DIRECTED INVESTMENTS ----------------------------------- Investments in the Employer Stock Fund are generated from participant-directed contributions, the Company's basic matching contribution, and the Company's supplemental matching contribution. Employee and employer amounts included in the Employer Stock Fund cannot be separately determined. Accordingly, the investments in the Employer Stock Fund are considered non-participant directed for disclosure purposes. 6 8 The information about the net assets and the significant components of the changes in net assets relating to the nonparticipant-directed investments in the Employer Stock Fund is as follows:
Net Assets: December 31, ------------------------ 1999 1998 ---------- ----------- Employer Stock Fund $1,080,905 $1,636,141 ========== ==========
Year Ended December 31, 1999 ------------------ Change in Net Assets in the Employer Stock Fund: Employee contributions $ 50,787 Employer contributions 6,493 Transfer from other trusts 9,975 Interest 1,931 Net depreciation (663,689) Distributions to participants (58,717) Administrative expenses (261) Transfers from other funds 98,245 ---------- $ (555,236) ==========
7 9 THE KROGER CO. SAVINGS PLAN ITEM 27a - SCHEDULE OF ASSETS HELD FOR INVESTMENT PURPOSES at December 31, 1999 (In Thousands of Dollars) -------------------------
NUMBER OF SHARES 1999 ---------------------- CARRYING NAME OF ISSUER AND TITLE OF ISSUE AMOUNT COST VALUE - --------------------------------- ----------------- ---------- -------- EMPLOYER STOCK FUND The Kroger Co. common shares* 57,266,000 shs. $ 436,520 $1,080,905 MERRILL LYNCH EQUITY INDEX TRUST Collective Investment Trust 1,348,000 shs. 62,248 136,422 MERRILL LYNCH BASIC VALUE Mutual Funds 670,000 shs. 23,359 25,569 MERRILL LYNCH GLOBAL ALLOCATION Mutual Funds 1,056,000 shs. 15,182 14,807 AMERICAN CAPITAL EMERGING GROWTH Mutual Funds 806,000 shs. 37,697 70,421 TEMPLETON FOREIGN Mutual Funds 1,216,000 shs. 11,913 13,644 FIXED INCOME Guaranteed Investment Contracts(GICs) 2,055 2,055 Synthetic GICs 139,512 137,432 Wrapper Contracts for Synthetic GICs 0 2,080 --------- ---------- 141,567 141,567 PARTICIPANT LOANS Loans to Participants 0 28,869 Temporary Cash Investments 650 650 --------- ---------- Total $ 729,136 $1,512,854 ========= ==========
*Represents party in interest transactions. 8 10 THE KROGER CO. SAVINGS PLAN ITEM 27d - SCHEDULE OF REPORTABLE TRANSACTIONS For the Year Ended December 31, 1999 (In thousands of dollars)
Transaction # of # of Realized Type Security Description Trans Shares Cost Proceeds Gain(loss) - ----------- ----------------------- ----- ----------- ------------ ------------ ----------- KROGER COMMON STOCK* BUY Kroger Co. Common Stock 1,085 6,732,080 $175,603 SELL Kroger Co. Common Stock 1,420 2,643,663 $ 44,934 $110,780 $65,846 POOLED SEPARATE A/C(GICS) BUY Fixed Income Fund 1,122 83,697,257 $ 83,697 SELL Fixed Income Fund 1,251 101,403,139 $101,403 $101,403 $ - TEMPORARY INVESTMENT FUNDS BUY Temporary Investment Fund 252 146,196,046 $146,196 SELL Temporary Investment Fund 252 148,012,767 $148,013 $148,013 $ -
*Represents party in interest transactions. 9 11 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN FINANCIAL STATEMENTS FOR THE YEARS ENDED DECEMBER 31, 1999 AND 1998 12 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN December 31, 1999 and 1998 TABLE OF CONTENTS Financial Statements: Pages - --------------------- ----- Report of Independent Accountants 2 Statement of Net Assets Available for Plan Benefits 3 Statement of Changes in Net Assets Available for Plan Benefits 4 Notes to Financial Statements 5-8 Supplemental Schedules: Schedule - ----------------------- -------- Item 27(a) - Schedule of Assets Held for Investment Purposes 1 Item 27(d) - Schedule of Reportable Transactions 2 All other schedules required by Form 5500 have been omitted as being not applicable. 13 REPORT OF INDEPENDENT ACCOUNTANTS --------------------------------- To the Trust Committee Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan In our opinion, the accompanying statement of net assets available for benefits and the related statement of changes in net assets available for benefits present fairly, in all material respects, the net assets available for benefits of Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan (the "Plan") at December 31, 1999 and 1998, and the changes in net assets available for benefits for the years then ended in conformity with accounting principles generally accepted in the United States. These financial statements are the responsibility of the Plan's management; our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits of these statements in accordance with auditing standards generally accepted in the United States, which require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes 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. We believe that our audits provide a reasonable basis for the opinion expressed above. Our audits were conducted for the purpose of forming an opinion on the basic financial statements taken as a whole. The supplemental schedules referred to in the Table of Contents are presented for the purpose of additional analysis and are not a required part of the basic financial statements but are supplementary information required by the Department of Labor's Rules and Regulations for Reporting and Disclosure under the Employee Retirement Income Security Act of 1974. These supplemental schedules are the responsibility of the Plan's management. The supplemental schedules have been subjected to the auditing procedures applied in the audits of the basic financial statements and, in our opinion, are fairly stated in all material respects in relation to the basic financial statements taken as a whole. /s/ PricewaterhouseCoopers LLP - -------------------------------------- PricewaterhouseCoopers LLP Cincinnati, Ohio April 7, 2000 2 14 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Statement of Net Assets Available for Plan Benefits As of December 31, 1999 and 1998
1999 1998 ------------- -------- ASSETS Cash and cash equivalents $ 2,954,492 $ 4,919,899 Investment contracts with insurance companies 0 661,350 Investments in BASIC 23,715,578 28,853,965 Investments in PIMCO 20,655,524 22,279,441 Investments in State Street Fixed Fund 13,245,099 16,127,809 Investments in CDC Investment Management 3,060,815 5,264,821 Investments in Transamerica Life Insurance 8,015,337 8,103,865 The Kroger Co. common stock 378,176,896 654,913,963 Trust funds managed by: Sanford C. Bernstein & Co. 21,699,098 27,196,483 State Street Global Advisors Index Fund 36,223,166 37,551,936 ----------- ----------- Total assets 507,746,005 805,873,532 ----------- ----------- LIABILITIES Accounts payable 184,032 187,427 Dividends payable 16,763 16,763 ----------- ----------- Total liabilities 200,795 204,190 ----------- ----------- Net assets available for plan benefits $507,545,210 $805,669,342 =========== ===========
See accompanying notes to financial statements. 3 15 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Statement of Changes in Net Assets Available for Plan Benefits For the Years Ended December 31, 1999 and 1998
1999 1998 ------------- ------------ Additions to net assets attributed to: Investment income: Net appreciation (depreciation)in fair value of investments: The Kroger Co. common stock $(223,185,255) $260,908,978 ------------- ----------- Interest: Short-term investments 99,724 186,902 Investment contracts with insurance companies, investments in BASIC, investments in PIMCO, investments in State Street Fixed Fund, investments in CDC Investment Management, investments in Transamerica Life Insurance 5,854,266 5,627,138 ----------- ----------- 5,953,990 5,814,040 ----------- ----------- Net investment income of trust funds managed by: Sanford C. Bernstein & Co. 1,587,174 3,309,564 State Street Global Advisors Index Fund 7,170,884 8,085,828 ----------- ----------- 8,758,058 11,395,392 ----------- ----------- Contributions: Employer 2,933,393 2,533,545 Employee 26,759,713 27,018,626 ----------- ----------- 29,693,106 29,552,171 ----------- ----------- Total additions (178,780,101) 307,670,581 ------------- ----------- Deductions from net assets attributed to: Benefits paid to participants 41,062,823 49,711,845 Assets transferred to another trust 78,196,732 0 Administrative expenses 84,476 79,153 ----------- ----------- Total deductions 119,344,031 49,790,998 ----------- ----------- Increase (Decrease) in net assets available for plan benefits (298,124,132) 257,879,583 Net assets available at beginning of period 805,669,342 547,789,759 ----------- ----------- Net assets available at end of period $507,545,210 $805,669,342 =========== ===========
See accompanying notes to financial statements. 4 16 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Notes to Financial Statements December 31, 1999 and 1998 1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES The accompanying financial statements have been prepared on an accrual basis and present the net assets available for plan benefits and changes in those net assets based on fair value (quoted market prices where available). Fixed investments are valued at contract value (cost plus accrued interest). Purchases and sales of The Kroger Co. common stock are recorded on a trade date basis. The Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan (the Plan) presents in the statement of changes in net assets the net appreciation (depreciation) in the fair value of its investments which consists of the realized gains or losses and the unrealized appreciation (depreciation) on those investments. 2) DESCRIPTION OF DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Employees of Dillon Companies, Inc. (the Company) and its subsidiaries with one year of service and who have attained age 21 are eligible to become a participant on January 1 or July 1 following completion of eligibility requirements. The interest of all participants in the Plan is fully vested at all times and is not subject to forfeiture or cancellation under any circumstances. Plan assets are for participants only and may never revert to the employer. Plan income and expenses for each period are allocated to the participants' accounts in the ratio that the balance in the account of each participant bears to the balance of all the participants' accounts immediately before the allocation. Employer contributions are allocated based on participants' salaries as stated in the Plan. All distributions to participants are in cash or in whole shares of The Kroger Co. common stock (cash is paid for fractional shares). Participants and beneficiaries individually exercise voting rights on the shares of The Kroger Co. common stock allocated to their account. Under the 401(k) salary reduction provision, Plan participants may make an election to have the Company contribute to the Plan on their behalf from two percent (2%) to twenty percent (20%) of the qualifying compensation that would otherwise be payable to them for the Plan year. A basic matching employer contribution is allocated to participants of the Stock Fund equal to ten percent (10%) of salaries directed by participants. A supplemental employer contribution is allocated in proportion to all participants' salaries directed to all investments. The supplemental contribution is based on the annual financial results of The Kroger Co. and determined annually by the Board of Directors. The Company currently has discontinued contributions to the ESOP portion of the Plan and has no present intentions to resume such contributions. 5 17 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Notes to Financial Statements, Continued December 31, 1999 and 1998 2) DESCRIPTION OF DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN, CONTINUED Participants of the 401(k) portion of the Plan and participants of the ESOP portion of the Plan who are over age 55 are allowed monthly and annual investment option selections, respectively, to direct all or a portion of their contributions to the following funds: Fixed Index Balanced Kroger Stock 3) INVESTMENTS The Dillon Companies, Inc. Employee Master Trust (the Trust) was formed on July 1, 1987, as the funding medium for various employee benefit plans administered by the Company. All assets of the Dillon Companies, Inc. Profit Sharing and Savings Plan, Dillon Companies, Inc. Pension Plan, and Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan are funded through the Dillon Companies, Inc. Employee Master Trust. The allocation of assets between plans is based upon individual plan assets adjusted monthly for contributions, benefit payments, earnings and administrative expenses. The Plan's investments are held by the Trust and are administered by the Dillon Companies, Inc. Trust Committee. The Trust Committee selects investment managers to manage certain assets of the Plan. The net change in funds managed by investment managers includes revenue earned, unrealized and realized gains and losses on investments, and fiduciary expenses. The investments and changes therein of the trust funds managed by investment managers have been reported to the Plan by the trustees as having been determined through the use of fair value or estimated fair values for all assets and liabilities of the trust funds. During 1999, certain employees of Smith's, a wholly-owned subsidiary of the Kroger Co., became employees of Fry's Food Stores (Fry's). Previously, Fry's employees participated in the Dillon Companies, Inc. Employees' Stock Ownership and Savings Plan, while Smith's employees participated in a different 401(K) plan. In order to conform all current Fry's employees into the same plan, all such employee balances under previously existing plans were transferred to The Kroger Co. 401(K) and Savings Plan. As such, approximately $78 million was transferred out of the Trust in 1999. 4) FIXED INVESTMENTS The Plan had the following fixed investments in the fixed fund as of December 31, 1999: * Benefit Accessible Securities Investment Contracts (BASIC) with annual crediting interest rates ranging from 6.00% to 7.88% and maturities from one to nine years. * Investment in Pacific Investment Management Company (PIMCO) with a variable crediting interest rate of 6.64%. The variable crediting interest rate is adjusted quarterly. * Investment in Diversified Financial Products Inc. (State Street Fixed Fund) with a variable crediting interest rate of 6.48%. The variable crediting interest rate is adjusted quarterly. 6 18 4) FIXED INVESTMENTS, CONTINUED * CDC Investment Management with annual crediting interest rates ranging from 6.20% to 6.45% and maturities from one to two years. * Investment in Transamerica Life Insurance and Annuity Company (J.P. Morgan Investment Management Inc.) with a variable crediting interest rate of 6.05%. The variable crediting interest rate is adjusted quarterly. The crediting interest rate for investment contracts with BASIC, and CDC Investment Management is the contract rate. The crediting interest rate for investments in PIMCO, State Street Fixed Fund, and J.P. Morgan Investment Management Inc. is based upon a predetermined formula which factors in duration, market value, and book value of the portfolio. The minimum crediting interest rate for these investments is zero percent. All of the Plan's fixed investments are fully benefit-responsive. A fully benefit-responsive investment provides a liquidity guarantee by a financially responsible third party of principal and previously accrued interest for liquidations, transfers, loans, or withdrawals initiated by plan participants under the terms of the ongoing Plan. Certain employer initiated events (i.e. lay-offs, mergers, bankruptcy, plan termination) are not eligible for the liquidity guarantee. The following information is presented in the aggregate for the fixed investments:
1999 1998 ------------- --------- Fair Value $70,698,625 $90,158,673 Average Yield 7.80% 7.19%
The fair value of the fixed investments are calculated as the aggregate present value of the underlying cash flows using interest rates quoted for securities with similar duration and credit risk. 5) TAX STATUS The Internal Revenue Service has issued a determination letter to the Plan that the requirements for a qualified plan under Section 401(a) of the Internal Revenue Code have been met and the Plan is exempt from federal and state income taxes. 6) PRIORITIES UPON TERMINATION OF THE PLAN It is the intent of the Company to continue the Plan indefinitely; however, the Company reserves the right to terminate the Plan at any time. In the event of termination of the Plan, the Trustees shall continue to administer the Plan in accordance with the provisions of the Plan until all obligations have been discharged or satisfied. 7) USE OF ESTIMATES The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of net assets available for plan benefits as of the date of the Plan's financial statements and the reported changes in net assets available for plan benefits during the reporting period. Actual results could differ from those estimates. 7 19 DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Notes to Financial Statement, Continued December 31, 1999 and 1998 8) NONPARTICIPANT-DIRECTED INVESTMENTS Information about the net assets and the significant components of the changes in net assets relating to the nonparticipant-directed investments is as follow
NET ASSETS 1999 1998 ---------- ---------------- --------------- The Kroger Co. common stock $ 378,176,896 $ 654,913,963 ================ =============== CHANGES IN NET ASSETS 1999 1998 --------------------- ---------------- --------------- Contributions $ 20,569,936 $ 18,443,212 Net appreciation(depreciation) (223,185,255) 260,908,978 Benefits paid to participants (28,613,716) (37,814,424) Transfers in 16,077,288 638,544 Transfers to another trust (61,585,320) ---------------- --------------- $ 276,737,067 $ 242,176,310 ================ ===============
8 20 SCHEDULE 1 ---------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(a) - Schedule of Assets Held for Investment Purposes (Master Trust) December 31, 1999
Annual Interest Maturity Carrying Rate Date Cost Value ---------- -------- ------------ --------- CASH AND CASH EQUIVALENTS: - ------------------------- Short Term Investments with PIMCO $ 12,412,583 $ 12,408,956 =========== =========== ALLOCATION: ---------- Profit Sharing $ 8,476,769 $ 8,474,292 Pension 318,786 318,693 ESOP 401(k) 3,617,028 3,615,971 ----------- ----------- $ 12,412,583 $ 12,408,956 =========== ===========
21 SCHEDULE 1, CONT. ----------------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(a) - Schedule of Assets Held for Investment Purposes (Master Trust) December 31, 1999
Annual Interest Maturity Carrying Rate Date Cost Value -------- -------- ------------ ------------ INVESTMENTS IN BASIC: - -------------------- FNMA 92-16KD 7.000% 2005 4,759,312 4,924,296 FHLMC 1365PI 7.250% 2005 3,961,844 4,102,804 FNMA 92-182PH 7.000% 2005 2,881,109 3,066,915 FNMA 92-200H 7.000% 2006 2,946,875 3,091,259 FHLMC 1458J 7.000% 2005 4,856,601 5,072,994 FHLMC 1457PJ 7.000% 2006 4,922,875 5,100,398 FHLMC 1542H 6.500% 2003 5,915,832 6,014,579 FHLMC 1625H 6.000% 2008 9,695,313 9,881,290 FNMA 93-134G 6.500% 2006 7,415,000 7,749,473 FNMA 94-48E 6.000% 2007 6,002,062 6,363,531 FNMA 94-10PC 6.500% 2005 9,006,250 9,474,607 10 YR UST 7.875% 2004 4,042,185 4,064,910 FNMA 93-107D 6.500% 2002 2,902,969 2,980,593 FNMA 93-118H 6.500% 2004 5,932,992 5,986,453 FNMA 93-209J 6.000% 2008 4,641,333 4,770,699 ------------ ------------ Total Dillon Companies, Inc. Employee Master Trust $ 79,882,552 $ 82,644,801 ============ ============ Fair Value $ 87,792,783 Wrap Value (5,147,982) ------------ $ 82,644,801 ============ ALLOCATION: ---------- Profit Sharing $ 56,072,139 $ 58,011,051 Pension 887,484 918,172 ESOP 401(k) 22,922,929 23,715,578 ------------ ------------ $ 79,882,552 $ 82,644,801 ============ ============
22 SCHEDULE 1, CONT. ----------------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(a) - Schedule of Assets Held for Investment Purposes (Master Trust) December 31, 1999
Annual Interest Maturity Carrying Rate Date Cost Value -------- -------- ------------ --------- INVESTMENTS IN PIMCO: - -------------------- Total Dillon Companies, Inc. Employee Master Trust 6.640% Variable $ 45,750,000 $ 71,181,328 =========== =========== Fair Value $ 68,938,237 Wrap Value 2,243,091 ----------- $ 71,181,328 =========== ALLOCATION: ---------- Profit Sharing $ 32,474,184 $ 50,525,804 Pension - - ESOP 401(k) 13,275,816 20,655,524 ----------- ----------- $ 45,750,000 $ 71,181,328 =========== =========== INVESTMENTS IN STATE STREET FIXED FUND: - -------------------------------------- Total Dillon Companies, Inc. Employee Master Trust 6.476% Variable $ 28,750,000 $ 45,644,145 =========== =========== Fair Value $ 43,668,592 Wrap Value 1,975,553 ---------- $ 45,644,145 =========== ALLOCATION: ---------- Profit Sharing $ 20,407,274 $ 32,399,046 Pension - - ESOP 401(k) 8,342,726 13,245,099 ----------- ----------- $ 28,750,000 $ 45,644,145 =========== =========== INVESTMENTS IN CDC INVESTMENT MANAGEMENT: - ---------------------------------------- Total Dillon Companies, Inc. 6.200% Employee Master Trust to 6.450% Variable $ 8,078,769 $ 10,547,923 =========== =========== Fair Value $ 10,523,926 =========== Wrap Value 23,997 ----------- $ 10,547,923 =========== ALLOCATION: ---------- Profit Sharing $ 5,734,457 $ 7,487,108 Pension - - ESOP 401(k) 2,344,312 3,060,815 ----------- ----------- $ 8,078,769 $ 10,547,923 =========== ===========
23 SCHEDULE 1, CONT. ----------------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(a) - Schedule of Assets Held for Investment Purposes (Master Trust) December 31, 1999
Annual Interest Maturity Carrying Rate Date Cost Value ---------- -------- ------------ -------------- INVESTMENTS IN TRANSAMERICA LIFE INSURANCE: - ------------------------------------------ Total Dillon Companies, Inc. Employee Master Trust 6.05% Variable $ 25,000,000 $ 27,621,778 ============ ============= Fair Value $ 26,001,380 Wrap Value 1,620,398 ------------- $ 27,621,778 ============= ALLOCATION: ---------- Profit Sharing $ 17,745,455 $ 19,606,441 Pension - - ESOP 401(k) 7,254,545 8,015,337 ----------- ------------- $ 25,000,000 $ 27,621,778 =========== ============= INVESTMENTS IN THE KROGER CO. COMMON STOCK:* - ------------------------------------------ Total Dillon Companies, Inc. Employee Master Trust $212,835,359 $ 640,803,185 =========== ============= ALLOCATION: SHARES ----------- Profit Sharing 13,358,014 $111,943,070 $ 252,132,519 Pension 555,962 3,382,308 10,493,770 ESOP 401(k) 20,035,862 97,509,981 378,176,896 ---------- ----------- ------------- 33,949,838 $212,835,359 $ 640,803,185 ========== =========== =============
*Represents party in interest transactions. 24 SCHEDULE 1, CONT. ----------------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(a) - Schedule of Assets Held for Investment Purposes (Master Trust) December 31, 1999
Annual Interest Maturity Carrying Rate Date Cost Value ---------- -------- ------------ -------------- INVESTMENTS IN TRUST FUNDS MANAGED BY: - ------------------------------------- SANFORD C. BERNSTEIN & CO.: -------------------------- Total Dillon Companies, Inc. Employee Master Trust $ 62,168,505 $ 69,711,516 =========== =========== ALLOCATION: ---------- Profit Sharing $ 42,817,319 $ 48,012,418 Pension - - ESOP 401(k) 19,351,186 21,699,098 ----------- ----------- $ 62,168,505 $ 69,711,516 =========== =========== STATE STREET GLOBAL ADVISORS INDEX FUND: --------------------------------------- Total Dillon Companies, Inc. Employee Master Trust $ 86,307,797 $ 97,752,976 =========== =========== ALLOCATION: ---------- Profit Sharing $ 54,325,736 $ 61,529,810 Pension - - ESOP 401(k) 31,982,061 36,223,166 ----------- ----------- $ 86,307,797 $ 97,752,976 =========== =========== INVESTMENTS IN MELLON TRUST: - --------------------------- Total Dillon Companies, Inc. Employee Master Trust $ 47,970,875 $ 93,702,898 =========== =========== ALLOCATION: ---------- Profit Sharing $ - $ - Pension 47,970,875 93,702,898 ESOP 401(k) - - ----------- ----------- $ 47,970,875 $ 93,702,898 =========== ===========
25 SCHEDULE 2 ---------- DILLON COMPANIES, INC. EMPLOYEES' STOCK OWNERSHIP AND SAVINGS PLAN Item 27(d) - Schedule of Reportable Transactions (Master Trust) Year Ended December 31, 1999
Current Value on Selling Cost of Date of Net Gain Description of Transaction Price Price Asset Transactions or (Loss) - -------------------------------------- ----------- ----------- ----------- ------------ ---------- PIMCO time deposits $82,180,000 -- $82,180,000 $82,180,000 -- PIMCO time deposits -- $89,600,000 89,600,000 89,600,000 -- Mutual Benefit Life of New Jersey investment contract -- 1,500,000 1,500,000 1,500,000 -- FNMA 90-128H investment contract -- 69,669 69,669 69,669 -- FNMA 92-134H investment contract -- 6,838,022 6,838,022 6,838,022 -- 5 YR UST investment contract -- 4,005,212 4,005,212 4,005,212 -- State Street Fixed Fund trust investment -- 10,000,000 10,000,000 10,000,000 -- PIMCO trust investment -- 6,000,000 6,000,000 6,000,000 -- CDC Investment Management trust investment -- 6,921,256 6,921,256 6,921,256 -- Merrill Lynch The Kroger Co. common stock* 724,445 shares 13,799,986 -- 13,799,986 13,799,986 -- Morgan Stanley The Kroger Co. common stock* 1,697,500 shares 45,501,880 -- 45,501,880 45,501,880 -- Morgan Stanley The Kroger Co. common stock* 423,800 shares -- 12,122,754 2,204,562 12,122,754 $ 9,918,192 Mellon Trust The Kroger Co. common stock* 134,092 shares 2,110,904 -- 2,110,904 2,110,904 -- Sanford C. Bernstein & Co. trust investment 400,000 -- 400,000 400,000 -- Sanford C. Bernstein & Co. trust investment -- 15,036,095 15,036,095 15,036,095 -- Mellon Capital Index Fund trust investment 1,000,000 -- 1,000,000 1,000,000 -- Mellon Capital Index Fund trust investment -- 2,100,000 2,100,000 2,100,000 -- State Street Global Advisors Index Fund trust investment -- 14,145,306 14,145,306 14,145,306 -- Mellon Trust trust investment -- 3,610,904 3,610,904 3,610,904 --
*Represents party in interest transactions. -----END PRIVACY-ENHANCED MESSAGE-----