UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
SCHEDULE 14A INFORMATION
Proxy Statement Pursuant to Section 14(a) of the Securities
Exchange Act of 1934 (Amendment No. )
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RULE 14A-6(E)(2))
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[_] Soliciting Material Pursuant to Section 240.14a-11(c) or Section 240.14a-12
The Kroger Company
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(Name of Registrant as Specified In Its Charter)
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Notes:
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PROXY
NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
PROXY STATEMENT
AND
1997 ANNUAL REPORT
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[KROGER LOGO]
[RECYCLING LOGO] COVER PRINTED ON RECYCLED PAPER
TO OUR FELLOW SHAREHOLDERS:
The Kroger Co. produced a strong performance in Fiscal Year 1997. New records
were set for sales, cash flow, earnings, and earnings per share. These results
are especially impressive because Kroger operations continued to grow at a
rapid pace as we build for the future. During the year:
. Retail square footage increased by 5.7% with 96 supermarket openings
and expansions;
. Distribution and technology enhancements were deployed at an
accelerated rate;
. Our Manufacturing divisions developed exciting new products that helped
increase Kroger-brand sales and profits well above expectations.
Kroger shareholders benefited from these achievements as the value of Kroger
shares rose 58% during 1997. Over the past five years, the price of Kroger
shares has increased at a compounded annual rate of 38.1%.
1997 IN REVIEW
Earnings before a charge for early debt retirement were $444.0 million,
compared to $352.7 million in 1996. Earnings per share rose 24% to $1.69 from
$1.36. After the debt retirement charge, Kroger's net earnings were $411.7
million, or $1.57 per share. Operating cash flow increased 13.2% to $1.384
billion.
Sales in 1997 reached $26.6 billion, a 5.5% increase over 1996. Food store
sales rose 5.5% and the convenience store group enjoyed a fine year, with sales
increasing 6%.
At the end of 1997, Kroger operated 1,392 food stores under six names and 816
convenience stores under six banners. Retail operations are supported by 35
manufacturing plants that produce Kroger label products as well as items for
other food manufacturing and retail clients.
FINANCIAL REVIEW AND DEBT REDUCTION
Kroger's financial structure continued to improve in 1997. Net interest expense
declined 4.7% to $285.9 million, the lowest since 1988. Net total debt
decreased $216 million to $3.2 billion. During 1997, Kroger invested $646
million in capital projects.
OPERATING STRATEGY, 1998-2000
Kroger's objective is to generate a minimum 13-15% annualized increase in
earnings per share, calculated over each three year period. Management believes
that the Company can produce this consistent growth because of several
strategic advantages:
. The combination store format. Kroger's combination stores are a formidable
competitive format because they are large enough to offer one-stop shopping for
the widest variety of household consumable products, yet small enough to be a
convenient neighborhood store for time-pressed shoppers. Combination stores
respond to customer preferences with a fully stocked supermarket, a complete
pharmacy, and an array of specialty departments.
Strong financial capability enables Kroger to make substantial investments in
building, expanding and remodeling stores. Capital investments for 1998 are
projected to equal $775-$850 million, including real estate. This will enable
the Company to open, relocate and expand approximately 90-100 supermarkets,
remodel 60 stores and increase retail square footage about 5%.
. Geographic diversity. Kroger supermarkets operate in 26 states and 30 major
metropolitan areas, including high growth cities such as Atlanta, Denver,
Nashville, Houston, and Phoenix. Moreover, we command the leading or second
market share position in 28 of these major markets. As a result, the Company is
well equipped to withstand intensified competitive challenges in one or more
markets while producing strong financial results.
. Kroger label products. Kroger brand products offer customers first-quality
products at very attractive prices. These products build customer loyalty and
earn increased profits for Kroger. Private label now accounts for more than 24%
of grocery sales and a growing share of drug and general merchandise sales.
During 1997, more than 160 new Kroger label products were introduced to the
marketplace.
1
. Economies of scale. As the nation's largest supermarket company, Kroger is
able to reduce costs by generating economies of scale in key activities:
- -- coordinated purchasing. Company-wide purchases of national brand items
reduce product costs and enhance Kroger's competitive position. Volume-based
transactions also reduce the cost of store supplies and equipment such as
plastic bags, freezer cases, and fluorescent bulbs.
- -- technology applications. Kroger continues to invest in sophisticated
technologies that improve operating efficiencies in stores and distribution
centers. Computer assisted ordering, now installed in more than 650 stores,
enables stores to better manage shelf space by matching product selection and
shipments to actual sales volume. Computer based store labor scheduling has
been fully implemented across Company stores to schedule cashiers and baggers
in response to business volumes. PRISM, an online manufacturing planning and
control system, has been installed in the majority of the Company's plants and
is reducing inventories and increasing plant productivity.
- -- logistics improvements. Investments in new logistics systems will reduce the
costs of transporting, stocking, and delivering products throughout the
Company. During 1997, Kroger expanded one division distribution center and
closed four satellite warehouses. In 1998, three new warehouses will be opened
and two will be expanded. The new warehouse inventory network reduces the cost
of warehouse receiving and order selection by continuously adjusting work
assignments based upon "real time" information regarding product availability
and location. Kroger is expanding the use of multi-temperature trailers that
consolidate into one truck perishable products that must be maintained at
different temperatures. These innovations will reduce working capital and
improve the efficient, timely delivery of thousands of products to Kroger
stores.
- -- operational consolidations. The Company continues to reduce overhead costs
by consolidating support functions such as accounting and data processing.
These important functions are being consolidated into regional operations,
reducing costs and improving efficiencies. The consolidation of the Dallas and
Houston divisions into the Kroger Southwest Marketing Area is expected to
produce substantial merchandising and administrative savings in our Texas
operations.
LABOR RELATIONS
The Company successfully negotiated five major and numerous smaller collective
bargaining agreements during 1997. Many of these are extended, 4-5 year
contracts.
COMMUNITY ACTIVITIES
Retail store divisions, manufacturing units, and convenience stores encourage
the involvement of Kroger associates in activities that benefit our communities
and enhance the Company's reputation among customers, civic and charitable
organizations, and public officials. Our community role was especially evident
in the early Spring of 1997 when severe flooding ravaged the Midwest. Several
Kroger divisions provided money, volunteer workers, and badly needed supplies
to flood victims. Kroger Food Stores, dairies and bakeries, and customers
contributed approximately $300,000 in product donations and cash contributions
to displaced residents in southern Ohio, Kentucky, and West Virginia.
The Kroger Co. Foundation provides the Company's units with a stable source of
non-operating funds for charitable contributions. In 1997, the Foundation
contributed $2.9 million to a wide variety of non-profit and community
organizations. In addition, Kroger divisions and manufacturing plants
contributed millions of dollars of cash and product to assist local food banks
and other charitable organizations.
THE YEAR AHEAD
Management believes that Kroger's strategies will continue to generate solid
growth in our business and increased value for shareholders. The Company is
well positioned geographically, strategically, and financially to continue our
strong record of performance. We extend our sincere thanks to our 212,000
Kroger colleagues for their commitment and service to customers.
2
DIRECTOR AND EXECUTIVE CHANGES
Clyde R. Moore, President and Chief Executive Officer of Thomas & Betts
Corporation, was elected to the Board of Directors. Richard W. Dillon, a member
of the Board since 1983 and Chairman Emeritus of Dillon Companies, retired in
September after a distinguished 46-year career.
During 1997, three executives were named Senior Vice Presidents: Paul W.
Heldman, responsible for human resources and labor relations, in addition to
his duties as General Counsel and Secretary; W. Rodney McMullen, Chief
Financial Officer; and Don W. McGeorge, formerly President of the Columbus
Marketing Area, responsible for corporate merchandising and several Kroger
Marketing Areas. Lynn Marmer was promoted to Group Vice President-Corporate
Affairs, succeeding Jack Partridge, who left Kroger after 20 years of
exceptional service.
Patrick J. Kenney, Executive Vice President, retired in July after a
distinguished 42-year career. Thomas E. Murphy, Group Vice President-Human
Resources and Labor Relations, retired in January of 1998, concluding an
outstanding 23-year career. Lyle Yates, President of the Dallas Marketing Area,
retired in January, completing 41 years of devoted service. Charles Grass,
retired in March as President of the Springfield Division of Dillon Companies
after serving Kroger customers for 41 years. We extend our thanks to Pat, Tom,
Lyle, and Charlie for their contributions to The Kroger Co.
Marnette Perry, who had been Vice President-Merchandising in Kroger's Delta
Marketing Area was promoted to President of the Michigan Marketing Area. Ms.
Perry succeeds Bruce A. Lucia, who was promoted to President of the Columbus
Marketing Area. E. John Burgon was named President of King Soopers, replacing
Don Gallegos, who became Chairman of King Soopers' Executive Committee after 31
years of distinguished service. Paul Scutt, Vice President-Merchandising for
the Central Marketing Area, was promoted to Vice President of Dillon Companies,
Inc. Van S. Tarver joined the Dillon Companies' Convenience Store group as
President of Quik Stop Markets, Inc., replacing Larry Kranich who retired after
30 years of service.
/s/ Joseph A. Pichler /s/ David B. Dillon
Joseph A. Pichler David B. Dillon
Chairman and President and
Chief Executive Officer Chief Operating Officer
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NOTICE OF ANNUAL MEETING OF SHAREHOLDERS
Cincinnati, Ohio, April 13, 1998
To All Shareholders
of The Kroger Co.:
The annual meeting of shareholders of The Kroger Co. will be held at the OMNI
NETHERLAND PLAZA, 35 W. 5TH STREET, Cincinnati, Ohio, on May 14, 1998, at 10
A.M., for the following purposes:
1. To elect five directors to serve until the annual meeting of
shareholders in 2001 or until their successors have been elected and
qualified;
2. To consider and act upon a proposal to authorize an amendment to the
Amended Articles of Incorporation to increase the authorized shares of
Common Stock from 350,000,000 to 1,000,000,000;
3. To consider and act upon a proposal to ratify the selection of
auditors for the Company for the year 1998; and
4. To transact such other business as may properly be brought before the
meeting; all as set forth in the Proxy Statement accompanying this
Notice.
Holders of common shares of record at the close of business on March 17, 1998,
will be entitled to vote at the meeting.
YOUR MANAGEMENT DESIRES TO HAVE A LARGE NUMBER OF SHAREHOLDERS REPRESENTED AT
THE MEETING, IN PERSON OR BY PROXY. PLEASE SIGN AND DATE THE ENCLOSED PROXY AND
MAIL IT AT ONCE IN THE ENCLOSED SELF-ADDRESSED ENVELOPE. NO POSTAGE IS REQUIRED
IF MAILED WITHIN THE UNITED STATES.
By order of the Board of
Directors,
Paul W. Heldman, Secretary
PROXY STATEMENT
Cincinnati, Ohio, April 13, 1998
The accompanying proxy is solicited by the Board of Directors of The Kroger
Co., and the cost of solicitation will be borne by the Company. The Company
will reimburse banks, brokers, nominees, and other fiduciaries for postage and
reasonable expenses incurred by them in forwarding the proxy material to their
principals. The Company has retained The Altman Group, 60 E. 42nd Street, New
York, New York to assist in the solicitation of proxies and will pay that firm
a fee estimated at present not to exceed $15,000. Proxies may be solicited
personally, or by telephone, as well as by use of the mails.
Joseph A. Pichler, John T. LaMacchia, and T. Ballard Morton, Jr., all of whom
are directors of the Company, have been named members of the Proxy Committee.
The principal executive offices of The Kroger Co. are located at 1014 Vine
Street, Cincinnati, Ohio 45202-1100. Its telephone number is 513-762-4000. This
Proxy Statement and Annual Report, and the accompanying proxy, were first sent
or given to shareholders on April 13, 1998.
As of the close of business on March 17, 1998, the Company's outstanding voting
securities consisted of 255,664,563 shares of common stock, the holders of
which will be entitled to one vote per share at the annual meeting. The shares
represented by each proxy will be voted unless the proxy is revoked before it
is exercised. Revocation may be in writing to the Secretary of the Company or
in person at the meeting or by appointment of a subsequent proxy. The laws of
Ohio, under which the Company is organized, provide for cumulative voting for
the election of directors. If notice in writing is given by any shareholder to
the President, a Vice President, or the Secretary of the Company not less than
48 hours before the time fixed for holding the meeting that the shareholder
intends to cumulate votes for the election of directors and, if an announcement
of the giving of that notice is made by or on behalf of the shareholder or by
the Chairman or Secretary upon the convening of the meeting, each shareholder
will have the right to cumulate votes at the election. If cumulative voting is
in effect, a shareholder
4
voting for the election of directors may cast a number of votes equal to five
times the number of shares held on the record date for a single nominee or
divide them among nominees in full votes in any manner. Any vote "FOR" the
election of directors will constitute discretionary authority to the Proxy
Committee to cumulate votes, as the Proxy Committee determines, if cumulative
voting is requested.
The effect of broker non-votes and abstentions on matters presented for
shareholder vote is as follows. The election of directors is, pursuant to Ohio
law, determined by plurality; broker non-votes and abstentions, therefore, will
have no effect on that proposal. Amendments to the Company's Amended Articles
of Incorporation authorizing additional shares of Common Stock require approval
of holders of a majority of the shares. Broker non-votes and abstentions,
therefore, will have the effect of a vote against such proposal. Ratification
by shareholders of the selection of auditors requires the affirmative vote of
the majority of common shares represented. Accordingly, broker non-votes will
have no effect and abstentions will have the effect of a vote against the
proposal.
5
PROPOSALS TO SHAREHOLDERS
ELECTION OF DIRECTORS
(ITEM NO. 1)
The Board of Directors, as now authorized, consists of 14 members divided into
three classes. Five directors are to be elected at the annual meeting to serve
until the annual meeting in 2001 or until their successors have been elected by
the shareholders, or by the Board of Directors pursuant to the Company's
Regulations, and qualified. Candidates for director receiving the greatest
number of votes cast by holders of shares entitled to vote at a meeting at
which a quorum is present are elected, up to the maximum number of directors to
be chosen at the meeting. The committee memberships stated below are those in
effect as of the date hereof. It is intended that, except to the extent that
authority is withheld, the accompanying proxy will be voted for the election of
the following five persons:
PROFESSIONAL DIRECTOR
NAME OCCUPATION (1) AGE SINCE
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NOMINEES FOR DIRECTOR FOR TERMS OF OFFICE CONTINUING UNTIL 2001
JOHN L. CLENDENIN Mr. Clendenin is Chairman Emeritus of BellSouth Corpora- 63 1986
tion, a holding company with subsidiaries in the telecom-
munications business. From January 1984 thru December 1996
he was its Chairman of the Board and Chief Executive Offi-
cer. Mr. Clendenin is a director of Wachovia Corp.;
Equifax Incorporated; RJR Nabisco Holdings Corp.; Springs
Industries, Inc.; Coca Cola Enterprises, Inc.; The Home
Depot, Inc.; and National Service Industries, Inc. He is
chair of the Corporate Governance Committee and a member
of the Compensation Committee.
DAVID B. DILLON Mr. Dillon was elected President and Chief Operating Offi- 47 1995
cer of Kroger in 1995. He was elected Executive Vice Pres-
ident in 1990; Chairman of the Board of Dillon Companies,
Inc., a wholly-owned subsidiary of Kroger, in 1992; and
President of Dillon Companies, Inc., in 1986. Mr. Dillon
is an advisory director of the First National Bank of
Hutchinson, Kansas. He is vice chair of the Executive Com-
mittee.
PATRICIA SHONTZ Dr. Longe is an Economist and a Senior Partner of The 64 1977
LONGE Longe Company, an economic consulting and investment firm.
She is a director of Jacobson Stores, Inc.; Comerica,
Inc.; Comerica Bank & Trust, FSB; and Warner-Lambert Com-
pany. Dr. Longe is vice chair of the Corporate Governance
Committee and a member of the Audit Committee.
THOMAS H. O'LEARY Mr. O'Leary is the retired Chairman of Burlington Re- 64 1977
sources Inc., a natural resources business. He is a member
of the Compensation and the Corporate Governance Commit-
tees.
6
PROFESSIONAL DIRECTOR
NAME OCCUPATION (1) AGE SINCE
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JAMES D. WOODS Mr. Woods is Chairman Emeritus and Consultant of Baker 66 1994
Hughes Incorporated, a company that provides equipment and
services to the petroleum and process industries. From
1989-1997 he was Chairman of the Board of Baker Hughes
Incorporated, and its President and Chief Executive Offi-
cer from 1987-1996. Mr. Woods is a director of Howmet In-
ternational Inc.; Varco International; and Wynn's Inter-
national Inc. He is vice chair of the Social Responsibil-
ity Committee and a member of the Financial Policy Com-
mittee.
DIRECTORS WHOSE TERMS OF OFFICE CONTINUE UNTIL 2000
REUBEN V. ANDERSON Mr. Anderson is a member, in the Jackson, Mississippi 55 1991
office, of Phelps Dunbar, a New Orleans law firm. Prior to
joining this law firm, he was a justice of the Supreme
Court of Mississippi. Mr. Anderson is a director of
Trustmark National Bank and BellSouth Corporation. He is
chair of the Social Responsibility Committee and a member
of the Audit Committee.
CLYDE R. MOORE Mr. Moore was elected President and Chief Executive Offi- 44 1997
cer of Thomas & Betts Corporation, a manufacturer of
electrical and electronic components, in 1997. He is also
one of its directors. Mr. Moore served as President and
Chief Operating Officer of Thomas & Betts Corporation from
1994-1997 and as its President-Electrical Division from
1992-1994. He is a member of the Audit and Financial Pol-
icy Committees.
JOHN D. ONG Mr. Ong is Chairman Emeritus of The BFGoodrich Company, a 64 1975
chemical and aerospace company. From 1979-1997 he was
Chairman of the Board of The BFGoodrich Company, and its
Chief Executive Officer from 1979-1996. Mr. Ong is a di-
rector of Cooper Industries, Inc.; Defiance, Inc.;
Ameritech Corporation; The Geon Company; ASARCO Incorpo-
rated; and TRW Inc. He is chair of the Financial Policy
Committee and a member of the Executive Committee.
JOSEPH A. PICHLER Mr. Pichler is Chairman of the Board and Chief Executive 58 1983
Officer of Kroger. He is a director of The BFGoodrich
Company; Cincinnati Milacron; and Federated Department
Stores, Inc. Mr. Pichler's term as a director of the
BFGoodrich Company will expire on April 20, 1998, and he
will not continue in the position. He is chair of the Ex-
ecutive Committee.
7
PROFESSIONAL DIRECTOR
NAME OCCUPATION (1) AGE SINCE
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MARTHA ROMAYNE SEGER Dr. Seger is a Financial Economist and currently is a Dis- 66 1991
tinguished Visiting Professor at Central Michigan Univer-
sity. From 1991-1993 she was the John M. Olin Distin-
guished Fellow at The Karl Eller Center of the University
of Arizona. Dr. Seger was a member of the Board of Gover-
nors of the Federal Reserve System from 1984-1991. She is
a director of Amerisure Companies; Amoco Corporation;
Fluor Corporation; Tucson Electric Power Company; and Xe-
rox Corporation. Dr. Seger is a member of the Financial
Policy and Social Responsibility Committees.
DIRECTORS WHOSE TERMS OF OFFICE CONTINUE UNTIL 1999
JOHN T. LAMACCHIA Mr. LaMacchia is President, Chief Executive Officer, and a 56 1990
director of Cincinnati Bell Inc., a telecommunications
holding company. He is a director of Burlington Resources,
Inc. Mr. LaMacchia is vice chair of the Compensation Com-
mittee and a member of the Corporate Governance and Execu-
tive Committees.
EDWARD M. LIDDY Mr. Liddy is President and Chief Operating Officer of The 52 1996
Allstate Corporation, the largest publicly held personal
lines insurance company in the United States. Prior to
this he was Senior Vice President and Chief Financial Of-
ficer of Sears, Roebuck and Co., where he held a variety
of senior operating and financial positions since 1988.
Mr. Liddy also serves as a non-executive Chairman of the
Board of The PMI Group, Inc., the third largest private
mortgage insurer in the United States. Mr. Liddy's term as
a director of The PMI Group, Inc., will expire on May 21,
1998, and he will not continue in the position. He is vice
chair of the Financial Policy Committee and a member of
the Corporate Governance Committee.
T. BALLARD MORTON, Mr. Morton is Executive in Residence of the College of 65 1968
JR. Business & Public Administration of the University of Lou-
isville. He is a director of LG&E Energy Corp. Mr. Morton
is chair of the Compensation Committee, vice chair of the
Audit Committee, and a member of the Executive Committee.
KATHERINE D. ORTEGA Ms. Ortega served as an Alternate Representative of the 63 1992
United States to the 45th General Assembly of the United
Nations in 1990-1991. Prior to that, she served as Trea-
surer of the United States. Ms. Ortega is a director of
Ultramar Diamond Shamrock Corporation; Ralston Purina Co.;
Long Island Lighting Company; and Rayonier Inc.; and an
Advisory Board Member of Washington Mutual Investors Fund.
She is chair of the Audit Committee and a member of the
Social Responsibility Committee.
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(1) Except as noted, each of the directors has been employed by his or her
present employer (or a subsidiary) in an executive capacity for at least
five years.
8
INFORMATION CONCERNING THE BOARD OF DIRECTORS
DIRECTORS' COMPENSATION
Each non-employee director is currently paid an annual retainer of $28,000 plus
fees of $1,500 for each board meeting and $1,000 for each committee meeting
attended. Committee chairs receive an additional annual retainer of $4,000.
Directors who are employees of the Company receive no compensation for service
as directors. The Company provides accidental death and disability insurance
for directors at a cost to the Company in 1997 of $167 per director. The
Company also provides a major medical plan for directors.
Under the 1997 Long-Term Incentive Plan, in 1997 the Company granted to each of
its non-employee directors owning a minimum of 1,000 shares of Company common
stock as of the date of the annual meeting of shareholders, options to purchase
2,000 shares of common stock at an option price equal to the fair market value
of the stock at the date of the grant, and each non-employee director received
a grant on that date. The options vest in equal share amounts on the five
annual anniversaries of the date of grant. Based on the closing price of Kroger
stock on the New York Stock Exchange, as of December 27, 1997, the value of
each grant of options made in 1997, none of which were exercisable, was
$12,490.
The Company has an unfunded retirement program for outside directors first
elected to the Board prior to July 1, 1997. The Board has adopted no retirement
plan for directors newly elected after that date but may consider additional
stock option grants in lieu of a retirement plan. The retirement benefit is the
average compensation for the five calendar years preceding retirement.
Directors who retire from the Board prior to age 70 will be credited with 50%
vesting after five years of service and an additional 10% for each year served
thereafter. Benefits for directors who retire prior to age 70 will commence at
the time of retirement from the Board or age 65, whichever comes later.
COMMITTEES OF THE BOARD
The Board of Directors has a number of standing committees including Audit,
Compensation, and Corporate Governance Committees. During 1997, the Audit
Committee met three times, the Compensation Committee met two times, and the
Corporate Governance Committee met two times. Committee memberships are shown
on pages 6 through 8 of this Proxy Statement. The Audit Committee reviews
external and internal auditing matters and recommends the selection of the
Company's independent auditors for approval by the Board and ratification by
shareholders. The Compensation Committee determines the compensation of the
Company's senior management and administers its stock option and benefit
programs. The Corporate Governance Committee is responsible for developing
criteria for selecting and retaining members of the Board; seeks out qualified
candidates for the Board; and reviews the performance of the Company, the Chief
Executive Officer, and the Board. The Board of Directors met eight times in
1997. During 1997, all directors attended at least 75% of the aggregate number
of Board meetings and committee meetings on which that director was a member.
The Corporate Governance Committee will consider shareholder recommendations
for nominees for membership on the Board of Directors. Recommendations relating
to the Company's annual meeting in May 1999, together with a description of the
proposed nominee's qualifications and other relevant information, must be
submitted in writing to Paul W. Heldman, Secretary of the Company, and received
at the Company's executive offices not later than December 14, 1998.
CERTAIN TRANSACTIONS
The law firm of Phelps Dunbar, of which Reuben V. Anderson is a partner,
rendered legal services to the Company that resulted in fees paid to the law
firm by the Company in 1997 of $68,144. The management of the Company has
determined that amounts paid by the Company for the services are fair and
competitive.
9
COMPENSATION OF EXECUTIVE OFFICERS
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SUMMARY COMPENSATION
The following table shows the compensation for the past three years of the
Chief Executive Officer and each of the Company's four most highly compensated
executive officers, excluding the Chief Executive Officer, and one additional
former executive officer (the "named executive officers"):
SUMMARY COMPENSATION TABLE
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ANNUAL COMPENSATION LONG TERM COMPENSATION(1)
------------------------------ -------------------------
AWARDS
----------------------------
RESTRICTED SECURITIES
OTHER ANNUAL STOCK UNDERLYING ALL OTHER
NAME AND PRINCIPAL SALARY BONUS COMPENSATION AWARDS OPTIONS/SARS COMPENSATION
POSITION YEAR ($) ($) ($) ($) (#) ($)
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(2) (3) (4) (5)
Joseph A. Pichler 1997 $471,508 $381,688 $21,441 45,000 $ 30,575
Chairman and Chief 1996 $452,400 $486,893 $18,741 60,000 $ 26,760
Executive Officer 1995 $447,046 $614,197 $16,412 60,000 $ 24,300
David B. Dillon 1997 $351,477 $254,458 $ 5,934 30,000 $ 9,280
President and Chief 1996 $326,977 $321,773 $ 5,186 36,000 $504,955(6)
Operating Officer 1995 $305,083 $309,731 $ 4,456 $332,250 50,000 $ 31,166(7)
Ronald R. Rice 1997 $231,538 $278,006 $14,646 22,500 $ 21,511
Senior Vice President 1996 $223,692 $155,080 $13,186 30,000 $ 19,411
1995 $215,885 $194,364 $10,984 30,000 $ 17,130
Michael S. Heschel 1997 $291,292 $207,548 $11,703 22,500 $ 16,020
Executive Vice President 1996 $268,100 $258,455 $ 9,275 50,000 $ 13,470
1995 $252,308 $293,688 $ 7,389 $138,437 40,000 $ 11,633
Patrick J. Kenney 1997 $289,523 $135,704 $17,570 0 $ 25,615
Former Executive 1996 $278,100 $258,455 $15,732 30,000 $ 22,085
Vice President 1995 $262,308 $293,688 $12,291 $138,437 40,000 $ 18,065
James R. Thorne 1997 $210,462 $135,850 $ 4,912 21,000 $ 7,846
Senior Vice President 1996 $196,923 $166,279 $ 4,446 28,000 $ 41,297(8)
1995 $187,308 $169,269 $ 2,618 $276,876 44,000 $ 5,401
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(1) During the period presented, the Company has made no long-term incentive
plan payouts other than restricted stock and stock options.
(2) Represents reimbursement for the tax effects of payment for certain
premiums on a policy of life insurance.
(3) Messrs. Pichler, Dillon, Heschel, Kenney, and Thorne had 200,000, 14,400,
23,000, 23,000, and 12,000 shares outstanding, respectively, at December
27, 1997, with an aggregate value of $6,625,000, $477,000, $761,875,
$761,875, and $397,500, respectively. The aggregate value is based on the
market price of the Company's common stock on December 27, 1997. Mr. Rice
had no restricted stock awards outstanding at December 27, 1997.
Restrictions remaining on outstanding restricted stock awards to Mr.
Pichler in 1995, previously reported as a long-term incentive plan award,
lapse in January 2000, based on performance goals achieved in 1995 through
1999 and more particularly described in the Compensation Committee Report
which follows. The shares will vest immediately if Mr. Pichler leaves the
Company due to death or disability or in the event of a change in control
of the Company. The restrictions remaining on Mr. Dillon's 1995 restricted
stock grant lapse in equal amounts over the next three years. The
restrictions remaining on Mr. Heschel's outstanding restricted stock awards
lapse as to 1,500 shares over the next year, 9,000 shares in 1999, and
1,000 shares in 2000. The restrictions remaining on outstanding restricted
stock awards to Mr. Thorne lapse in equal amounts over the next three
years. The Company is currently prohibited by contract from paying cash
dividends on its common stock but, should this prohibition be lifted,
dividends, as and when declared, would be payable on these shares.
(4) Represents options granted during the respective fiscal year. Options
granted in 1995 and 1996 vest for equal number of shares in the three
succeeding years from the date of grant. Half of the options granted in
1997 vest for equal number of shares in the five succeeding years from the
date of grant. The other half vest based on the performance of the
Company's common stock, as more particularly described on page 11. Options
terminate in 10 years if not earlier exercised or terminated. No stock
appreciation rights ("SARs") were granted in any of the three years
presented.
(5) For 1997, these amounts include the Company's matching contribution under
The Kroger Co. Savings Plan in the amounts of $475, $950, $950, $475, $950,
and $950, respectively, for Messrs. Pichler, Dillon, Rice, Heschel, Kenney,
and Thorne and reimbursement of certain premiums for policies of life
insurance in the amounts of $30,100, $8,330, $20,561, $15,545, $24,665, and
$6,896, respectively, for Messrs. Pichler, Dillon, Rice, Heschel, Kenney,
and Thorne.
(6) $496,775 of this amount represents an additional payment to Mr. Dillon
pursuant to the Company's relocation program.
(7) $23,154 of this amount represents an additional payment to Mr. Dillon
pursuant to the Company's relocation program.
(8) $34,155 of this amount represents an additional payment to Mr. Thorne
pursuant to the Company's relocation program.
10
STOCK OPTION/STOCK APPRECIATION RIGHT GRANTS
The Company has in effect employee stock option plans pursuant to which
options to purchase common stock of the Company are granted to officers and
other employees of the Company and its subsidiaries. Half of the stock option
grants made in 1997 to Vice Presidents and Officers of the Company, including
the named executive officers, are performance-based options. Those options vest
during the first four years from the date of grant only if the Company's stock
price has achieved a 63% appreciation from the option price. Thereafter, those
options vest only if the Company's stock price has achieved a minimum of a 13%
appreciation per annum from the date of grant or 200% appreciation, whichever
is less. The following table shows option grants in fiscal year 1997 to the
named executive officers:
OPTION/SAR GRANTS IN LAST FISCAL YEAR
- ------------------------------------------------------------------------------------------
POTENTIAL REALIZABLE
VALUE AT ASSUMED RATES
OF STOCK PRICE
APPRECIATION FOR OPTION
INDIVIDUAL GRANTS TERM
- ------------------------------------------------------------------ -----------------------
NUMBER OF
SECURITIES % OF TOTAL
UNDERLYING OPTIONS/SARS EXERCISE
OPTIONS/SARS GRANTED TO OR BASE
GRANTED(1) EMPLOYEES IN PRICE EXPIRATION
NAME (#) FISCAL YEAR ($/SHARE) DATE 0% 5% 10%
- ------------------------------------------------------------------------------------------
Joseph A. Pichler 45,000 1.48% $26.88 5/14/2007 $0 $760,711 $1,927,791
David B. Dillon 30,000 0.98% $26.88 5/14/2007 $0 $507,141 $1,285,194
Ronald R. Rice 22,500 0.74% $26.88 5/14/2007 $0 $380,355 $ 963,895
Michael S. Heschel 22,500 0.74% $26.88 5/14/2007 $0 $380,355 $ 963,895
Patrick J. Kenney 0 0.00% -- -- $0 $ 0 $ 0
James R. Thorne 21,000 0.69% $26.88 5/14/2007 $0 $354,998 $ 899,636
- ------
(1) No SARs were granted or outstanding during the fiscal year. Half of these
options vest in equal number of shares on the five annual anniversary dates
of the date of grant. The other half vest as described above this chart.
The options terminate in 10 years if not earlier exercised or terminated.
The assumptions set forth in the chart above are merely examples and do not
represent predictions of future stock prices or a forecast by the Company with
regard to stock prices.
AGGREGATED OPTION/SAR EXERCISES IN FISCAL YEAR AND OPTION/SAR VALUES
The following table shows information concerning the exercise of stock
options during fiscal year 1997 by each of the named executive officers and the
fiscal year-end value of unexercised options:
AGGREGATED OPTION/SAR EXERCISES IN LAST FISCAL YEAR AND FY-END OPTION/SAR
VALUES TABLE
- --------------------------------------------------------------------------
NUMBER OF
SECURITIES
UNDERLYING VALUE OF UNEXERCISED
UNEXERCISED IN-THE-MONEY
OPTIONS/SARS AT OPTIONS/SARS AT F/Y
F/Y END (1) (#) END (1) ($)
SHARES
ACQUIRED
ON VALUE
EXERCISE REALIZED EXERCISABLE/ EXERCISABLE/
NAME (#) ($) UNEXERCISABLE UNEXERCISABLE
- ------------------------------------------------------------------------------
Joseph A. Pichler 108,160 $2,434,812 434,000/105,000 $10,327,590/$1,183,525
David B. Dillon 40,000 $1,020,886 271,331/ 70,669 $ 6,481,755/$ 817,395
Ronald R. Rice 0 $ 0 156,000/ 52,500 $ 3,413,130/$ 591,763
Michael S. Heschel 29,998 $ 399,934 16,666/ 69,170 $ 206,242/$ 821,089
Patrick J. Kenney 187,406 $4,936,658 148,664/ 33,336 $ 3,202,192/$ 515,568
James R. Thorne 0 $ 0 100,665/ 54,335 $ 2,135,999/$ 653,701
- ------
(1) No SARs were granted or outstanding during the fiscal year.
11
As of March 1, 1998, senior officers held options to acquire stock of the
Company that expire in varying amounts from 1998 through 2007. Of these
options, 165,000, 18,000, and 256,000, expire in 1998, 1999, and 2000,
respectively. It is expected that these options will be exercised prior to
their expiration.
LONG-TERM INCENTIVE PLAN AWARDS
The Company made no Long-Term Incentive Plan awards, excluding stock options
and restricted stock, to any named executive officer during fiscal year 1997.
COMPENSATION COMMITTEE REPORT
The Company's compensation policies are applicable to virtually all levels of
its work force, including its executive officers. These policies require the
Company to:
. be competitive in total compensation;
. include, as part of total compensation, opportunities for equity
ownership;
. use incentives that offer more than competitive compensation when the
Company achieves superior results;
. base incentive payments on earnings before interest, taxes, depreciation
and LIFO charges ("EBITD") and on sales results.
Accordingly, the Company's compensation plans include grants of stock options
for executive, management, and hourly employees. In determining the size of
option grants to the Chief Executive Officer and the other executive officers,
the Compensation Committee considers, without use of a formula, competitive
practices among retailers, the individual executive officer's level within
Kroger and the level of past awards of stock options and restricted stock to
the individual. Grants of options to the Chief Executive Officer and the other
executive officers are generally lower than those of their counterparts in the
retail industry because the Company grants options to several thousand
management and hourly employees instead of, as is common in the industry, only
a small group of executives.
The 1997 Long-Term Incentive Plan, approved by the shareholders at the Annual
Meeting in 1997, authorized the issuance of 10,000,000 shares of common stock.
During 1997, Kroger granted 3,076,610 stock options to over 4,500 employees
throughout the Company. The number of options granted and the number of
employees receiving options was typical of grants made in the past several
years. The Company expects to continue to use a broad-based stock option
program as a means of attracting and retaining employees, due to the direct
relationship between value received by the optionee and shareholder return.
The Compensation Committee establishes the fixed portion of executive officer
cash compensation, or salary, by considering internal equity and competitor
salary data as described below. Additionally, a large percentage of employees
at all levels of the organization, including executive officers, are eligible
to receive a bonus incentive based upon Company or unit performance. Bonus
potentials for executives are established by level within the Company, and
actual payouts are based on achievement of sales and EBITD targets. Actual
payouts can exceed these potentials if results exceed the targets. In the case
of Mr. Bryant, approximately 38% of total potential cash compensation is based
on Dillon EBITD and sales performance. In the case of all other executive
officers, approximately 50% of total potential cash compensation is based on
Company or unit EBITD and sales performance.
Salary and bonus levels are compared to a grouping of food wholesalers and
retailers, the Wholesale/Retail Compensation Survey, from which the peer group
is selected (see Performance Graph, below), to ensure that executive and
management compensation is competitive. The Committee establishes salaries for
executive officers that generally are at the median of compensation paid by
peer group companies for comparable positions (where data for comparable
positions are available) with a bonus potential that, if realized, would cause
their total cash
12
compensation to be in the upper quartile of peer group compensation. The
Company's outstanding performance in 1997 is reflected by bonuses paid for all
executive officers. Bonus payouts for Messrs. Pichler, Dillon and McMullen are
based on combined Kroger and Dillon operations and represented 63.6% of their
potentials. Mr. Bryant's bonus payout is based in total on Dillon operations
and represented 25.1% of his potential. Mr. Rice's bonus payout is based in
part on the manufacturing group's operations and represented 123.6% of his
potential. All other executive officers received bonus payouts of 75.5% of
their respective potentials.
The compensation of Kroger's Chief Executive Officer is determined annually
pursuant to the policies described above. Mr. Pichler's variable compensation
or bonus for the last fiscal year, which represented 63.6% of his bonus
potential, reflects the extent to which the Company achieved the EBITD and
sales targets that were established by this Committee at the beginning of the
year. The value of stock options granted to Mr. Pichler in the last fiscal year
fluctuates based on the Company's performance in the stock market.
In 1995, the Compensation Committee engaged Towers Perrin to compare the Chief
Executive Officer's compensation to that of CEOs of other retailers and found
that Mr. Pichler's compensation has not been competitive. As a result, the
Board adopted a performance based restricted stock plan and made awards under
which Mr. Pichler could earn as many as 100,000 shares over a five-year period.
As with all other shares of Company common stock, these were adjusted to
200,000 shares to reflect the effect of the 2-for-1 stock split in 1997. The
restrictions on these shares lapse on January 1, 2000, but only as to that
number of shares remaining after certain reductions based on a comparison of
the Company's shareholder return to that of a group including the Peer Group.
In general, each fiscal year the Chief Executive Officer can earn up to 40,000
of the shares depending upon the extent to which the Company's performance
exceeds that of the reference group. On the other hand, up to 20,000 otherwise
previously earned shares will be forfeited in those years in which the
Company's performance does not exceed the median compared to that same group.
In 1995, 1996, and 1997, Mr. Pichler tentatively earned 40,000, 20,000, and
40,000 shares, respectively. Mr. Pichler also is party to an employment
contract with the Company that is more particularly described elsewhere in the
Proxy statement. (See p. 16). That agreement establishes minimum compensation
at levels below his total compensation determined in consideration of the
factors identified above.
The Omnibus Budget Reconciliation Act of 1993 places a $1,000,000 limit on the
amount of certain types of compensation for each of the executive officers that
is tax deductible by the Company. The Company believes that its 1997 Long-Term
Incentive Plan, under which stock option grants and restricted stock awards
were made to the executive officers, complies with the Internal Revenue
Service's regulations on the deductibility limit. Accordingly, the compensation
expense incurred thereunder should be deductible. The Company continues to
consider modifications to its other compensation programs based on the
regulations. The Company's policy is, primarily, to design and administer
compensation plans that support the achievement of long-term strategic
objectives and enhance shareholder value. Where it is material and supports the
Company's compensation philosophy, the Committee also will attempt to maximize
the amount of compensation expense that is tax deductible by the Company.
Compensation Committee:
T. Ballard Morton, Jr., Chair
John T. LaMacchia, Vice-Chair
John L. Clendenin
Thomas H. O'Leary
13
PERFORMANCE GRAPH
Set forth below is a line graph comparing the five year cumulative total
shareholder return on the Company's common stock, based on the market price of
the common stock and assuming reinvestment of dividends, with the cumulative
total return of companies on the Standard & Poor's 500 Stock Index and the
major food companies selected from the Wholesale/Retail Compensation Survey:
COMPARISON OF FIVE YEAR CUMULATIVE TOTAL RETURN* OF THE KROGER CO., S&P 500 AND
PEER GROUP**
[PERFORMANCE GRAPH]
1992 1993 1994 1995 1996 1997
---- ---- ---- ---- ---- ----
Kroger $100 $138 $165 $256 $316 $453
S&P 500 100 110 112 153 189 252
Peer Group 100 99 105 135 170 221
The Company's fiscal year ends on the Saturday closest to December 31.
- ------
*Total assumes $100 invested on January 3, 1993 in The Kroger Co., S&P 500
Index, and the major food companies selected from the Wholesale/Retail
Compensation Survey (the "Peer Group"), with reinvestment of dividends.
**The Peer Group consists of Albertson's, Inc., American Stores Company,
Fleming Companies, Inc., Giant Food Inc. (Class A), Great Atlantic & Pacific
Tea Company, Inc., Safeway Inc., Supervalu Inc., The Vons Companies, Inc.,
and Winn-Dixie Stores, Inc. The Vons Companies, Inc. was acquired by Safeway
Inc. on June 16, 1997.
The Company's peer group is composed of the major food companies (excluding
the Company) within the Wholesale/Retail Compensation Survey (the "Survey"),
which permits a comparison of the return of the Company's shareholders to that
of companies against which executive compensation levels are measured. The
Compensation Committee establishes the compensation for executives and
management by comparison to compensation reported in the Survey.
Neither the foregoing Compensation Committee Report nor the foregoing
Performance Graph will be deemed incorporated by reference into any other
filing, absent an express reference thereto.
14
COMPENSATION PURSUANT TO PLANS
The Company maintains various benefit plans which are available to management
and certain other employees. The Company derives the benefit of certain tax
deductions as a result of its contributions to some of the plans. Each of the
executive officers of the Company was eligible to participate in one or more of
the following plans.
THE KROGER CO. EMPLOYEE PROTECTION PLAN
The Company adopted The Kroger Co. Employee Protection Plan ("KEPP") during
fiscal 1988. All management employees, including the executive officers, and
administrative support personnel of the Company with at least one year of
service are covered. KEPP provides for severance benefits and the extension of
Company paid health care in the event an eligible employee actually or
constructively is terminated from employment without cause within two years
following a change of control of the Company (as defined in the plan). For
persons over 40 years of age with more than six years of service, severance pay
ranges from approximately 9 to 18 months' salary and bonus, depending upon
Company pay level and other benefits. KEPP may be amended or terminated by the
Board of Directors at any time prior to a change of control, and will expire in
1998 unless renewed by the Board of Directors.
PENSION PLANS
The Company maintains the Kroger Retirement Benefit Plan, a defined benefit
plan, to provide pension benefits to retired or disabled management employees
and certain groups of hourly personnel. The Plan generally provides for
benefits at age 62 or later equal to 1 1/2% times the years of service, after
attaining age 21, (or, for participants prior to January 1, 1986, after
attaining age 25) times the highest average earnings for any five years during
the ten calendar years preceding retirement, less an offset tied to Social
Security benefits. The Company also maintains an Excess Benefits Plan under
which the Company pays benefits which exceed the maximum benefit payable under
ERISA by defined benefit plans. The following table gives examples of annual
retirement benefits payable on a straight-life basis under the Company's
retirement program.
YEARS OF SERVICE
FIVE YEAR -----------------------------------------------------------------
AVERAGE REMUNERATION 15 20 25 30 35 40
- -------------------- ---------- ---------- ---------- ---------- ---------- ----------
$ 150,000 $ 33,750 $ 45,000 $ 56,250 $ 67,500 $ 78,750 $ 90,000
250,000 56,250 75,000 93,750 112,500 131,250 150,000
450,000 101,250 135,000 168,750 202,500 236,250 270,000
650,000 146,250 195,000 243,750 292,500 341,250 390,000
850,000 191,250 255,000 318,750 382,500 446,250 510,000
900,000 202,500 270,000 337,500 405,000 472,500 540,000
1,200,000 270,000 360,000 450,000 540,000 630,000 720,000
No deductions have been made in the above table for offsets tied to Social
Security benefits.
Remuneration earned by Messrs. Pichler, Dillon, Rice, Heschel, Kenney, and
Thorne in 1997, which was covered by the Plan, was $958,400, $673,250,
$386,618, $549,748, $547,979, and $376,741, respectively. As of December 27,
1997, they had 10, 2, 37, 6, 36, and 26 years of credited service,
respectively.
DILLON PLANS
Dillon Companies, Inc. and its subsidiaries maintain pension, profit sharing,
stock ownership, and savings plans that provide benefits at levels comparable
to the plans described above. David B. Dillon has 20 years of credited service
and Joseph A. Pichler has 6 years of credited service under certain of the
pension and profit sharing plans, but no further credited service will be
accrued for either of them under those plans.
15
Under the Dillon Employees' Profit Sharing Plan, Dillon and each of its
participating subsidiaries contributes a certain percentage of net income,
determined annually, to be allocated among participating employees based on the
percent that the participating employee's total compensation bears to the total
compensation of all participating employees employed by the particular Dillon
division or subsidiary. On participating employees' termination upon attaining
the age 60, death or disability, they are entitled to their full contribution
account balance. In addition to this plan, Dillon and several of its
subsidiaries have adopted the Dillon Pension Plan, a defined benefit plan, for
their eligible employees. Under the pension plan, the normal retirement benefit
for eligible employees is a certain percentage of average compensation during a
certain period of employment multiplied by the years of credited service (in
some of these plans there is a maximum period of credited service), minus the
benefit provided by the Profit Sharing Plan (except as may be limited by
provisions of ERISA).
The following table shows the estimated annual pension payable upon retirement
to persons covered by Dillon's Plans. Benefits payable under the Profit Sharing
Plan may exceed the amount payable under the Pension Plan, and participants are
entitled to the greater of the two. The table does not reflect benefits payable
under Dillon's Profit Sharing Plan, since benefits under that plan are not
determined by years of service, and no deductions have been made in the table
for offsets tied to Social Security benefits. Dillon also maintains an Excess
Benefit Plan that pays benefits which exceed the maximum benefit payable under
ERISA by defined benefit and defined contribution plans.
YEARS OF SERVICE
AVERAGE -----------------------------------------------------------------
COMPENSATION 15 20 25 30 35 40
------------ ---------- ---------- ---------- ---------- ---------- ----------
$150,000 $ 33,750 $ 45,000 $ 56,250 $ 67,500 $ 78,750 $ 90,000
250,000 56,250 75,000 93,750 112,500 131,250 150,000
450,000 101,250 135,000 168,750 202,500 236,250 270,000
650,000 146,250 195,000 243,750 292,500 341,250 390,000
850,000 191,500 255,000 318,750 382,500 446,250 510,000
The amounts contributed by Dillon and its subsidiaries pursuant to these
retirement plans are not readily ascertainable for any individual, and thus are
not set forth above.
EMPLOYMENT CONTRACTS
The Company entered into an amended and restated employment agreement with Mr.
Pichler dated as of July 22, 1993. During his employment, the Company agrees to
pay Mr. Pichler at least $420,000 a year, unless the amount is reduced due to
adverse business conditions. Mr. Pichler's employment may be terminated at the
discretion of the Board of Directors. The contract also provides that the
Company will continue to pay Mr. Pichler's salary to his beneficiary for a
period of five years after a termination of employment resulting from his
death, or will pay to Mr. Pichler his salary for a term equal to the lesser of
five years or until October 4, 2005, if Mr. Pichler's termination of employment
results from his involuntary separation. The Company also has agreed to
reimburse Mr. Pichler for premiums on a policy of life insurance plus the tax
effects of that reimbursement. After his termination of employment for any
reason after age 62, if he is not entitled to receive the salary continuation
described above, Mr. Pichler will, in exchange for his availability to provide
certain consulting services, then receive each year until his death an amount
equal to 25% of the highest salary paid him during the term of this agreement.
16
BENEFICIAL OWNERSHIP OF COMMON STOCK
As of February 6, 1998, the directors of the Company, the named executive
officers and the directors and executive officers as a group, beneficially
owned shares of the Company's common stock as follows:
AMOUNT AND
NATURE OF BENEFICIAL
NAME OWNERSHIP
- -------------------------------------------------------------------------------
Reuben V. Anderson................................. 9,996(8)
John L. Clendenin.................................. 9,996(8)
David B. Dillon.................................... 461,462(1)(6)(7)
Michael S. Heschel................................. 31,187(6)(7)
Patrick J. Kenney.................................. 233,198(6)(7)
John T. LaMacchia.................................. 9,996(8)
Edward M. Liddy.................................... 6,132(9)
Patricia Shontz Longe.............................. 15,996(8)
Clyde R. Moore..................................... 1,000
T. Ballard Morton, Jr.............................. 27,996(8)
Thomas H. O'Leary.................................. 9,996(8)
John D. Ong........................................ 9,996(8)
Katherine D. Ortega................................ 11,174(8)
Joseph A. Pichler.................................. 1,034,999(2)(6)(7)
Ronald R. Rice..................................... 189,317(6)(7)
Martha Romayne Seger............................... 10,396(8)
James R. Thorne.................................... 130,460(3)(6)
James D. Woods..................................... 9,996(8)
Directors and Executive Officers as a group (in-
cluding those named above)........................ 2,951,792(4)(5)(6)(7)
- --------------------------------------------------------------------------------
(1) This amount does not include 67,857 shares owned by Mr. Dillon's wife,
27,012 shares in his children's trust or 26,568 shares owned by his
children. Mr. Dillon disclaims beneficial ownership of these shares.
(2) This amount does not include 14,200 shares owned by Mr. Pichler's wife or
2,816 shares owned by his son. Mr. Pichler disclaims beneficial ownership
of these shares.
(3) This amount does not include 14,000 shares owned by Mr. Thorne's wife. Mr.
Thorne disclaims beneficial ownership of these shares.
(4) The figure shown does not include an aggregate of 480 additional shares
held by, or for the benefit of, the immediate families or other relatives
of all directors and executive officers as a group not previously listed
above. In each case the director or executive officer disclaims beneficial
ownership of those shares.
(5) No director or executive officer owned as much as 1% of common stock of the
Company. The directors and executive officers as a group beneficially owned
1.2% of common stock of the Company.
(6) This amount includes shares that represent options exercisable on or before
April 7, 1998, in the following amounts: Mr. Dillon, 251,331; Mr. Heschel,
0; Mr. Kenney, 182,000; Mr. Pichler, 434,000; Mr. Rice, 156,000; Mr.
Thorne, 100,665; and all directors and executive officers as a group,
1,776,610.
(7) The fractional interest resulting from allocations under Kroger's 401(k)
plan and Dillon's ESOP and 401(k) plan has been rounded to the nearest
whole number.
(8) This amount includes 7,996 shares that represent options exercisable on or
before April 7, 1998.
(9) This amount includes 1,332 shares that represent options exercisable on or
before April 7, 1998.
17
As of February 6, 1998, the following persons reported beneficial ownership of
the Company's common stock based on reports on Schedule 13G filed with the
Securities and Exchange Commission or other reliable information as follows:
AMOUNT AND
NATURE OF PERCENTAGE
NAME ADDRESS OF BENEFICIAL OWNER OWNERSHIP OF CLASS
- --------------------------------------------------------------------------------------------------
The Kroger Co. Savings Plan 1014 Vine Street 28,442,201(1) 11.1%
Cincinnati, OH 45202
The Dillon Cos. Employee Master Trust 700 East 30th Street 17,601,798(1) 6.9%
Hutchinson, KS 67052
- ------
(1) Shares beneficially owned by plan trustees for the benefit of participants
in employee benefit plans.
SECTION 16(A) BENEFICIAL OWNERSHIP REPORTING COMPLIANCE
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers and directors, and persons who own more than ten percent of a
registered class of the Company's equity securities, to file reports of
ownership and changes in ownership with the Securities and Exchange Commission
and the New York Stock Exchange. Those officers, directors, and shareholders
are required by SEC regulation to furnish the Company with copies of all
Section 16(a) forms they file.
Based solely on its review of the copies of forms received by the Company, or
written representations from certain reporting persons that no Forms 5 were
required for those persons, the Company believes that during fiscal year 1997
all filing requirements applicable to its officers, directors and ten percent
beneficial owners were satisfied except that Mr. Ronald R. Rice inadvertently
filed an amended Form 5, reporting a gift of 600 shares by a trust under which
he is a co-trustee, 24 days late.
INCREASE AUTHORIZED SHARES OF COMMON STOCK
(ITEM NO. 2)
The Board of Directors believes it would be in the best interest of the Company
and its shareholders and therefore proposes that the shareholders authorize the
amendment of the Amended Articles of Incorporation to increase the number of
shares of common stock ("Common Stock") that the Company may issue from the
350,000,000 shares presently authorized to 1,000,000,000 shares (the
"Proposal"). At the annual meeting of shareholders held in 1994, the
shareholders authorized an increase in the authorized shares of Common Stock
from 350,000,000 to 500,000,000, but, in the interest of avoiding unnecessary
fees, that increase has not been implemented. If the Proposal is approved by
shareholders, the increase in authorized shares of Common Stock will be
implemented by filing Amended Articles of Incorporation with the Ohio Secretary
of State if and when determined by the Board of Directors to be in the best
interest of the Company. On March 17, 1998, there were 255,664,563 shares of
Common Stock issued and outstanding. An additional approximately 32,200,000
shares of Common Stock have been reserved for issuance pursuant to the
Company's stock option and other employee benefit plans.
The purpose of the Proposal is to provide additional shares that could be used
for proper corporate purposes, including, without limitation, stock splits,
acquisitions, other compensation plans, and raising additional capital. The
officers of the Company are from time-to-time engaged in general discussions
with principals of other organizations and other companies with a view toward
possible acquisitions by the Company. If the Proposal is adopted, the Board of
Directors will have the authority to issue the additional authorized shares or
any part thereof to such persons and for such consideration as it may determine
without further action by the shareholders except
18
as shareholder action may be required by law or contractual arrangements. Any
such issuances (or an issuance of authorized but unissued preferred stock)
could have the effect of discouraging an attempt to acquire control of the
Company. For example, stock could be issued to persons, firms or entities known
to be friendly to management. With the exception of the warrant dividend plan
discussed in the accompanying annual report and redemption provisions contained
in debt instruments exercisable upon a change in control, there are no other
provisions of the Company's Amended Articles of Incorporation, Regulations, or
debt instruments that management believes could reasonably be deemed to have an
anti-takeover effect. Except with respect to stock option and employee benefit
plans, as set forth in the preceding paragraph, the Company does not now have
any commitments, arrangements or understandings that would require the issuance
of additional shares of Common Stock.
Under Ohio law, a plan of merger requires shareholder approval if the non-
surviving entity acquires one-sixth or more of the voting power of the Company.
In addition, the Company is required by the rules of the New York Stock
Exchange to submit certain transactions to a vote of its shareholders,
including, without limitation, mergers involving subsidiaries (which otherwise
are not subject to required approval of the Company's shareholders), where the
issuance of shares of Common Stock could result in an increase in the number of
outstanding shares by 20 percent or more. Approval of the Proposal would not
alter in any way the Company's obligations under these authorities.
Each additional share of Common Stock authorized by the proposed amendment will
have the same rights and privileges as each share of outstanding Common Stock.
Shareholders of Common Stock have no preemptive rights to receive or purchase
any shares of the presently authorized but unissued Common Stock or to the
shares authorized by this proposed amendment.
In order for the Proposal to be adopted, it must be approved by the holders of
a majority in voting power of the outstanding shares of Common Stock.
THE BOARD OF DIRECTORS AND MANAGEMENT RECOMMEND A VOTE FOR THIS PROPOSAL.
19
SELECTION OF AUDITORS
(ITEM NO. 3)
The Board of Directors, on February 20, 1998, appointed the firm of Coopers &
Lybrand L.L.P. as Company auditors for 1998, subject to ratification by
shareholders. This appointment was recommended by the Company's Audit
Committee, comprised of directors who are not employees of the Company. If the
firm is unable for any reason to perform these services, or if selection of the
auditors is not ratified, other independent auditors will be selected to serve.
Ratification of this appointment requires the adoption of the following
resolution by the affirmative vote of the holders of a majority of the shares
represented at the meeting:
"RESOLVED, That the appointment by the Board of
Directors of Coopers & Lybrand L.L.P. as Company
auditors for 1998 be, and it hereby is, ratified."
Fees for all audit services provided by Coopers & Lybrand L.L.P. in 1997
totaled $684,550. In addition, fees totaling $53,958 were charged for non-audit
services.
A representative of Coopers & Lybrand L.L.P. is expected to be present at the
meeting to respond to appropriate questions and to make a statement if he or
she desires to do so.
THE BOARD OF DIRECTORS AND MANAGEMENT RECOMMEND A VOTE FOR THIS PROPOSAL.
-------------
SHAREHOLDER PROPOSALS--1999 ANNUAL MEETING. Shareholder proposals intended for
inclusion in the Company's proxy material relating to the Company's annual
meeting in May 1999 should be addressed to the Secretary of the Company and
must be received at the Company's executive offices not later than December 14,
1998.
-------------
Attached to this Proxy Statement is the Company's 1997 Annual Report which
includes a brief description of the Company's business indicating its general
scope and nature during 1997, together with the audited financial information
contained in the Company's 1997 report to the Securities and Exchange
Commission on Form 10-K. A COPY OF THAT REPORT IS AVAILABLE TO SHAREHOLDERS ON
REQUEST BY WRITING: LAWRENCE M. TURNER, VICE PRESIDENT AND TREASURER, THE
KROGER CO., 1014 VINE STREET, CINCINNATI, OHIO 45202-1100 OR BY CALLING 1-513-
762-1220.
The management knows of no other matters that are to be presented at the
meeting but, if any should be presented, the Proxy Committee expects to vote
thereon according to its best judgment.
By order of the Board
of Directors,
Paul W. Heldman,
Secretary
20
1997 ANNUAL REPORT
FINANCIAL REPORT 1997
MANAGEMENT'S RESPONSIBILITY FOR FINANCIAL REPORTING
The management of The Kroger Co. has the responsibility for preparing the
accompanying financial statements and for their integrity and objectivity. The
statements were prepared in accordance with generally accepted accounting
principles applied on a consistent basis and are not misstated due to material
error or fraud. The financial statements include amounts that are based on
management's best estimates and judgments. Management also prepared the other
information in the report and is responsible for its accuracy and consistency
with the financial statements.
The Company's financial statements have been audited by Coopers & Lybrand
L.L.P., independent certified public accountants, approved by the shareholders.
Management has made available to Coopers & Lybrand L.L.P. all of the Company's
financial records and related data, as well as the minutes of stockholders' and
directors' meetings. Furthermore, management believes that all representations
made to Coopers & Lybrand L.L.P. during its audit were valid and appropriate.
Management of the Company has established and maintains a system of internal
control that provides reasonable assurance as to the integrity of the financial
statements, the protection of assets from unauthorized use or disposition, and
the prevention and detection of fraudulent financial reporting. The system of
internal control provides for appropriate division of responsibility and is
documented by written policies and procedures that are communicated to
employees with significant roles in the financial reporting process. The
policies and procedures are updated as necessary. Management continually
monitors the system of internal control for compliance. The Company maintains a
strong internal auditing program that independently assesses the effectiveness
of the internal controls and recommends possible improvements thereto. In
addition, as part of its audit of the Company's financial statements, Coopers &
Lybrand L.L.P. completed a review of selected internal accounting controls to
establish a basis for reliance thereon in determining the nature, timing and
extent of audit tests to be applied. Management has considered the internal
auditor's and Coopers & Lybrand L.L.P.'s recommendations concerning the
Company's system of internal control and has taken actions that we believe are
cost-effective in the circumstances to respond appropriately to these
recommendations. Management believes that, as of December 27, 1997, the
Company's system of internal control is adequate to accomplish the objectives
discussed herein.
Management also recognizes its responsibility for fostering a strong ethical
climate so that the Company's affairs are conducted according to the highest
standards of personal and corporate conduct. This responsibility is
characterized and reflected in the Company's code of corporate conduct, which
is publicized throughout the Company. The code of conduct addresses, among
other things, the necessity of ensuring open communication within the Company;
potential conflicts of interests; compliance with all domestic and foreign
laws, including those relating to financial disclosure; and the confidentiality
of proprietary information. The Company maintains a systematic program to
assess compliance with these policies.
JOSEPH A. PICHLER W. RODNEY MCMULLEN
Chairman of the Board and Senior Vice President and
Chief Executive Officer Chief Financial Officer
AUDIT COMMITTEE CHAIR'S LETTER
The Audit Committee of the Board of Directors is composed of five independent
directors. The committee held three meetings during fiscal year 1997. In
addition, members of the committee received and reviewed various reports from
the Company's internal auditor and from Coopers & Lybrand L.L.P. throughout the
year.
The Audit Committee oversees the Company's financial reporting process on
behalf of the Board of Directors. In fulfilling its responsibility, the
Committee recommended to the Board of Directors, subject to shareowner
approval, the selection of the Company's independent public accountant, Coopers
& Lybrand L.L.P. The Audit Committee discussed with the Company's internal
auditor and Coopers & Lybrand L.L.P. the overall scope and specific plans for
their respective audits. The committee also discussed the Company's
consolidated financial statements and the adequacy of the Company's internal
controls. At each meeting, the Committee met with the Company's internal
auditor and Coopers & Lybrand L.L.P., in each case without management present,
to discuss the results of their audits, their evaluations of the Company's
internal controls, and the overall quality of the Company's financial
reporting. Those meetings also were designed to facilitate any private
communications with the Committee desired by the Company's internal auditor or
Coopers & Lybrand L.L.P.
KATHERINE D. ORTEGA
Audit Committee Chair
A-1
THE COMPANY
The Kroger Co. (the "Company") was founded in 1883 and incorporated in 1902. As
of December 27, 1997, 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.
As of December 27, 1997, the Company operated 1,392 supermarkets, most of which
are leased. Of this number, 1,132 supermarkets were operated, directly 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
260 supermarkets directly or through wholly-owned subsidiaries (the "Dillon
Supermarkets"). The Dillon Supermarkets, principally located in Colorado,
Kansas, Arizona and Missouri, operate under the names "King Soopers", "Dillon
Food Stores", "Fry's Food Stores", "City Market", "Gerbes Supermarkets", and
"Sav-Mor".
As of December 27, 1997, the Company, through its Dillon subsidiary, operated
816 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 697 of these stores while 119
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.
A-2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF
OPERATIONS
SALES
Total sales for the fourth quarter of 1997 were $6.5 billion compared to $6.2
billion in the fourth quarter of 1996, a 5.0% increase. Total sales and food
store sales both increased 5.5% for the full year. Food stores sales for the
fourth quarter 1997 rose 5.2% compared to the fourth quarter 1996. Sales by
lines of business for the three years ended December 27, 1997, were as follows:
1997 1996 1995
% OF 1997 -------------- -------------- --------------
SALES AMOUNT CHANGE AMOUNT CHANGE AMOUNT CHANGE
--------- ------- ------ ------- ------ ------- ------
(MILLIONS OF DOLLARS)
Food Stores.............. 93.4% $24,801 +5.5% $23,508 +4.5% $22,488 +4.9%
Convenience Stores....... 3.8% 1,006 +6.0% 948 +11.6% 850 -5.4%
Other sales.............. 2.8% 760 +6.5% 714 +19.0% 600 -3.1%
----- ------- ------- -------
Total Sales.............. 100.0% $26,567 +5.5% $25,170 +5.1% $23,938 +4.3%
Sales in identical food stores, which include stores that have been in
operation and have not been expanded or relocated for five quarters, increased
.7% in the fourth quarter and were flat for the full year. Comparable store
sales, which include identical stores plus expanded and relocated stores,
increased 3.0% in the fourth quarter. The increase in food store sales
correlates to the 5.7% square footage growth generated by the Company's capital
expenditure program. This program enabled the Company to open, relocate or
expand 96 food stores during 1997. Most of the new and expanded stores feature
the Company's combination store format. Combination stores are expected to
generate higher sales per customer by the inclusion of numerous specialty
departments, such as pharmacies, video rental, floral shops, and book stores.
This "one-stop shopping" format saves time and travel for customers and is
adaptable to the demographics of individual markets.
Convenience stores total sales increased 6.0% for the year and 2.3% during the
fourth quarter of 1997. The lower sales increase during the fourth quarter can
be attributed to a 4.3% decrease in gasoline retails for the quarter. Gasoline
sales increased 8.5% for the year on a 7.9% increase in gallons sold. In-store
sales in identical convenience stores increased 2.7% for the fourth quarter and
1.5% for the full year. Gasoline sales at identical convenience stores
decreased 0.9% in 1997 on a 1.2% decrease in gallons sold.
Other sales primarily consist of sales by the Company's manufacturing divisions
to non-affiliated entities. Compared to 1996, other sales increased 0.9% for
the fourth quarter and 6.5% for the year. Manufacturing division outside sales
declined 2.6% in the fourth quarter 1997 and increased 4.7% for the full year.
Total food store square footage increased 5.7%, 6.7%, and 4.6% in 1997, 1996,
and 1995, respectively. Convenience store square footage decreased 1.3% in
1997, increased 1.5% in 1996, and decreased 10.6% in 1995.
Sales per average square foot for the last three years were:
TOTAL SALES PER
AVERAGE SQUARE FOOT
--------------------
1997 1996 1995
------ ------ ------
Food Stores................................................ $398 $401 $405
Convenience Stores......................................... $548 $519 $475
Sales per average square foot for convenience stores exclude stores operated by
franchisees. The decrease in sales per average square foot for food stores can
be attributed to the Company's substantial new construction program.
A-3
EBITD
The Company's 364-Day Credit Agreement and Five-Year Credit Agreement
(collectively, the "Credit Agreement") and the indentures underlying
approximately $706 million of publicly issued debt contain various restrictive
covenants. Many covenants are based on earnings before interest, taxes,
depreciation, LIFO charge, unusual and extraordinary items ("EBITD"). The
ability to generate EBITD at levels sufficient to satisfy the requirements of
these agreements is a key measure of the Company's financial strength. The
presentation of EBITD is not intended to be an alternative to any GAAP measure
of performance. Rather EBITD results facilitate an understanding of the
Company's performance compared to its debt covenants. At December 27, 1997 the
Company was in compliance with all Credit Agreement and indenture covenants.
The Company believes it has adequate coverage of its debt covenants to continue
to respond effectively to competitive conditions.
EBITD increased 13.2% in 1997 to $1.385 billion compared to $1.224 billion in
1996. EBITD in 1995 was $1.148 billion. Excluding the effect of strikes in the
King Soopers and City Market divisions, EBITD would have been approximately
$1.256 billion in 1996. EBITD growth in 1997 was generated by increased sales
at higher gross profit and reduced operating, general and administrative
expense rates as a percent of sales. The Company's capital expenditure program
continued to produce incremental EBITD increases.
MERCHANDISE COSTS
Merchandise costs include warehousing and transportation expenses and charges
related to valuing inventory on the Last In First Out method (LIFO). The
following table shows the relative effect of LIFO charges on merchandising
costs as a percent of sales:
1997 1996 1995
------ ------ ------
Merchandise costs as reported.............................. 75.27% 75.65% 75.60%
LIFO charge................................................ .03% .05% .05%
------ ------ ------
Merchandise costs as adjusted.............................. 75.24% 75.60% 75.55%
The merchandise cost rate for 1996 increased as a result of the work stoppages
in Colorado.
OPERATING, GENERAL AND ADMINISTRATIVE EXPENSES
Operating, general and administrative expenses as a percent of sales were
18.30%, 18.34% and 18.41%, in 1997, 1996, and 1995 respectively.
Operating, general and administrative costs declined three basis points in the
fourth quarter of 1997 and four basis points for the full year. The improved
results were caused by a combination of factors, including cost reductions
achieved through enhanced technology, a reduction in employee benefit costs,
and reduced administrative expenses.
INCOME TAXES
The Company has closed all tax years through 1983 with the Internal Revenue
Service. The Internal Revenue Service has completed its examination of the
Company's tax returns for tax years 1984-1992. With one exception, all issues
have been resolved for tax years 1984-1989. A second issue remains unresolved
for tax years 1990-1992. Efforts to resolve the issue for tax years 1984-1986
with the Appeals Division of the Internal Revenue Service were unsuccessful. As
a result the Company filed a petition with the United States Tax Court in
Washington, D.C. Litigation was completed in November 1995 and a decision was
rendered in January 1997 in favor of the Company. The Commissioner of Internal
Revenue has appealed this case to the United States Court of Appeals for the
Sixth Circuit. The issue before the court is being held in abeyance for tax
years 1987-1992 pending the ultimate outcome of this appeal. The other issue
for tax years 1990-1992 is being temporarily held in abeyance by the Internal
Revenue Service. The Company has made provisions for these and other tax
contingencies.
A-4
NET EARNINGS
Net earnings totaled $411.7 million in 1997 as compared to $349.9 million in
1996 and $302.8 million in 1995. Earnings in 1997 compared to 1996 and 1995
were affected by: (i) an after tax extraordinary loss from the early retirement
of debt in 1997 of $32.4 million compared to $2.9 million in 1996 and $16.1
million in 1995, (ii) net interest expense in 1997 of $285.9 million compared
to $300.0 million in 1996 and $312.7 million in 1995, (iii) depreciation
expense in 1997 of $380.2 million, compared to $343.8 million in 1996 and
$311.3 million in 1995, and (iv) the effect of the work stoppages during 1996
in Colorado.
LIQUIDITY AND CAPITAL RESOURCES
Debt Management and Interest Expense
During 1997, the Company redeemed $316.2 million of senior subordinated debt,
repurchased $11.5 million of its senior and senior subordinated debt issues,
and prepaid $178.0 million of mortgage loans. The redemptions and repurchases
were financed with the issuance of $200 million of senior debt, bank borrowings
and excess cash flow from operations.
In 1996, the Company made open market purchases of $49.9 million of its senior
and subordinated debt and redeemed $134.7 of its subordinated debt. The
repurchases and redemption were effected with the proceeds from the issuance of
$240 million of new senior debt, additional bank borrowings and cash generated
from operations. In 1995 the Company repurchased, on the open market, $283.0
million of high yield senior and subordinated debt which was financed by cash
generated from operations and lower cost bank debt.
The Company has in place a 364-Day Credit Agreement and a Five-Year Credit
Agreement with a consortium of bank lenders. The 364-Day Credit Agreement is a
revolving credit facility in the amount of $500 million, that terminates on May
27, 1998, unless extended as provided in the Credit Agreement. The Five-Year
Credit Agreement is a revolving credit facility in the amount of $1.5 billion,
that terminates on May 28, 2002, unless extended or terminated earlier by the
Company as provided in the Credit Agreement. The average interest rate on the
Company's bank debt was 6.06% in 1997 compared to 6.16% in 1996. The borrowing
under the Credit Agreement at year-end 1997 totaled $1.262 billion compared to
$1.001 billion at year-end 1996. The borrowing rate on the bank debt is
variable. At December 27, 1997 the Company had $709.6 million available under
its Credit Agreement to meet short-term liquidity needs.
Long-term debt, including capital leases and current portion thereof, decreased
$163.4 million to $3.517 billion at year-end 1997 from $3.681 billion at year-
end 1996. The Company purchased a portion of the debt issued by the lenders of
certain structured financings in an effort to further reduce the Company's
effective interest expense. The Company pre-funded $160 million of employee
benefit costs at year-end 1997 compared to $110 million at year-end 1996.
Excluding the debt incurred to make these purchases, which are classified as
investments, and the pre-funding of employee benefits, the Company's long-term
debt would have been $315.0 million less, or $3.202 billion, at year-end 1997
compared to $3.418 billion at year-end 1996.
Interest Rate Protection Program
The Company uses derivatives to limit its exposure to rising interest rates.
The Company follows these guidelines in using derivatives: (i) use average
daily bank balance to determine annual debt amounts subject to interest rate
exposure, (ii) limit the annual amount of floating rate debt to a total of $1.0
billion or less, (iii) include no leveraged derivative products, and (iv) hedge
without regard to profit motive or sensitivity to current mark-to-market
status. The Company's compliance with these guidelines is reviewed semi-
annually with the Financial Policy Committee of the Company's Board of
Directors.
A-5
The table below provides information about the Company's interest rate
derivative and underlying debt portfolio. The amounts per year represent 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 expected interest rate for
variable rate long-term debt are based on 6 month LIBOR using the forward yield
curve as of December 27, 1997.
EXPECTED YEAR OF MATURITY
------------------------------------------------------------------------
(IN THOUSANDS)
1998 1999 2000 2001 2002 THEREAFTER TOTAL
--------- --------- ------- ------- --------- ---------- ---------
LONG-TERM DEBT
- ------------------------
Fixed rate.............. 14,304 164,835 10,613 14,274 168,284 1,649,771 2,022,081
Average interest rate... 8.86% 8.88% 8.81% 8.81% 8.74% 8.75%
Variable rate........... 1,262,058 36,616 1,298,674
Average interest rate... 6.06% 6.14% 6.28% 6.39% 6.49% 6.19%
INTEREST RATE
DERIVATIVES
- ------------------------
Variable to fixed....... 1,300,000 1,000,000 675,000 352,500 97,500 65,000 1,400,000
Average pay rate........ 6.86% 7.08% 7.28% 7.20% 6.68% 6.80% 6.92%
Average receive rate.... 5.56% 5.64% 5.78% 5.89% 5.99% 6.05% 5.62%
Fixed to variable....... 910,000 760,000 605,000 400,000 275,000 150,000 1,135,000
Average pay rate........ 5.56% 5.64% 5.78% 5.82% 5.99% 6.05% 5.62%
Average receive rate.... 6.43% 6.24% 6.26% 6.55% 6.41% 6.03% 6.33%
It was not practicable to determine a fair value for $480.1 million of fixed
rate or any of the variable rate debt. The remaining $1,542.0 million of fixed
rate debt had an estimated fair value of $1,675.0 million. The variable to
fixed interest rate derivatives had an estimated fair value of a negative $41.6
million. The fixed to variable rate interest rate derivatives had an estimated
fair value of $11.3 million.
CAPITAL EXPENDITURES
Capital expenditures for 1997 totaled $612.2 million, compared to $733.8
million in 1996, and $726.1 million in 1995, net of reclassification for
property held for sale. During 1997 the Company opened, acquired or expanded 96
food stores and 15 convenience stores as compared to 116 food stores and 31
convenience stores in 1996, and 83 food stores and 19 convenience stores in
1995. The Company also completed 48 food store and 9 convenience store remodels
during 1997. During 1997, the Company closed or sold 41 food stores and 30
convenience stores.
CONSOLIDATED STATEMENT OF CASH FLOWS
During 1997 the Company generated $853.6 million in cash from operating
activities compared to $499.4 million in 1996 and $810.1 million in 1995. The
increase over 1996 is primarily due to a decrease in operating assets and
liabilities that provided $12.9 million of cash in 1997 compared to using
$226.9 million in 1996. The largest component of the change in operating assets
and liabilities was a decrease in net owned inventories of $16.6 million
compared to a decrease of $224.5 million in 1996. Offsetting these net uses of
cash were increases in net earnings of $61.8 million and non-cash charges for
depreciation and amortization of $36.5 million.
Investing activities used $579.4 million of cash in 1997 compared to $856.9
million in 1996 and $665.6 million in 1995. The decrease in the use of cash was
caused by decreased purchases of investments of $145.1 million and decreased
capital expenditures of $121.7 million.
Cash used by financing activities in 1997 totaled $275.7 million as compared to
$345.4 million provided in 1996 and $151.4 million used in 1995. The increase
in the use of cash during 1997 as compared to 1996 was caused by a net debt
decrease of $169.6 million in 1997 versus a net debt increase of $146.9 million
in 1996. An additional $13.1 million of cash was used for debt prepayments and
finance charges, and $85.2 million was used to repurchase capital stock.
A-6
OTHER ISSUES
The Company is party to more than 200 collective bargaining agreements with
local unions representing approximately 162,000 of the Company's employees.
During 1997 the Company negotiated over 30 labor contracts without any work
stoppages. Typical agreements are 3 to 5 years in duration and, as agreements
expire, the Company expects to enter into new collective bargaining agreements.
There can be no assurance, however, that such 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 the Company's
operations. No major union contracts will be negotiated in 1998.
OUTLOOK
The Company's outlook for 1998 is positive. Statements below regarding the
Company's expectations, hopes, beliefs, intentions or strategies are forward
looking statements within the meaning of Section 21E of the Securities Exchange
Act of 1934. While we believe that the statements are accurate, uncertainties
and other factors could cause actual results to differ materially from those
statements. In particular:
. The Company's food store strategy is to invest in existing Kroger
markets or in areas adjacent to markets where the Company has a strong
franchise and can leverage marketing, distribution, and overhead
dollars. The Company expects consistent sales and earnings increases
from the existing store base combined with incremental sales and
earnings contributions as a result of the capital investment program.
. Management believes that the combination store format and the Company's
geographic diversity are strategic advantages that will allow Kroger to
withstand continued competition from other food retailers,
supercenters, mass merchandisers, and restaurants.
. As new stores mature and capital spending levels off, the Company
expects to achieve increases in sales per average food store square
foot.
. The Company continues to invest capital in technology to enhance
Kroger's distribution network in order to improve store operations,
product procurement and distribution practices. These initiatives,
combined with increasing private label sales, are expected to have a
favorable influence on the gross profit rate.
. The Company's goal is to further reduce operating, general and
administrative expense rates. Increased sales volume combined with
investments in new technologies and lower costs, while maintaining or
improving customer service, should help achieve this goal.
. The Company currently expects 1998 net interest expense, estimated
using year-end 1997 rates, to total approximately $280 million. A 1%
increase in market rates would increase the estimated expense by
approximately $6.5 million. A 1% decrease in market rates would reduce
the estimated expense by approximately $9.4 million.
. The Company expects to increase retail food store square footage by
approximately 5% in both 1998 and 1999. In 1998, the Company plans to
open or expand 90-100 stores compared to 96 in 1997. The Company
expects 1998 capital expenditures, including additional Company owned
real estate, logistics projects, and continuing technology investments,
to total approximately $775 million. The Company also expects to
complete within-the-wall remodels of 60 food stores. The increased
square footage is planned for existing Company markets where the
Company has an established market position and an existing
administrative and logistical network.
. The Company is currently working to resolve the potential impact of the
year 2000 on the processing of date-sensitive information by the
Company's computerized information systems. The year 2000 problem is
the result of computer programs being written using two digits (rather
than four) to define the applicable year. Any of the Company's programs
that have time-sensitive software may recognize a date using "00" as
the year 1900 rather than the year 2000, which could result in
miscalculations or system failures. Based on current information, costs
of addressing potential problems are not expected to have a material
adverse impact on the Company's financial position, results of
operations or cash flows in future periods. However, if the Company,
its customers or vendors are unable to resolve such processing issues
in a timely manner, it could result in a material financial risk.
Accordingly, the Company believes it has allocated the resources
necessary to resolve all significant year 2000 issues in a timely
manner.
A-7
Inflationary factors, increased competition, construction delays, and labor
disputes could affect the Company's ability to obtain expected increases in
sales and earnings. Delays in store maturity, increased competition and
increased capital spending could adversely affect the anticipated increase in
sales per square foot. Increases in gross profit rate may not be achieved if
start up costs are higher than expected or if problems associated with
integrating new systems occur. Increased operating costs and changes in
inflationary trends, could prevent the Company from reducing operating, general
and administrative expenses, while new technologies could fail to achieve the
desired savings and efficiencies. Net interest expenses could exceed
expectations due to acquisitions, inflation, or increased competition. The
Company's ability to achieve its construction goals could be hampered by
construction delays, labor disputes, increased competition, delays in
technology projects, and its ability to generate continued EBITD growth. The
inherent complexity of computer software and reliance on third party software
vendors to interface with the Company's systems could affect the completion of
necessary "year 2000" modifications.
A-8
REPORT OF INDEPENDENT ACCOUNTANTS
To the Shareowners and Board of Directors
The Kroger Co.
We have audited the accompanying consolidated balance sheet of The Kroger Co.
as of December 27, 1997 and December 28, 1996, and the related consolidated
statements of operations and accumulated deficit, and cash flows for the years
ended December 27, 1997, December 28, 1996, and December 30, 1995. 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, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of The Kroger Co. as
of December 27, 1997 and December 28, 1996, and the consolidated results of its
operations and its cash flows for the years ended December 27, 1997, December
28, 1996, and December 30, 1995, in conformity with generally accepted
accounting principles.
/s/ Coopers & Lybrand L.L.P.
Coopers & Lybrand L.L.P.
Cincinnati, Ohio
January 22, 1998
A-9
CONSOLIDATED BALANCE SHEET
DECEMBER 27, December 28,
(In thousands of dollars) 1997 1996
- ---------------------------------------------------------------------------------
ASSETS
Current assets
Cash................................................. $ 65,484 $ 67,052
Receivables.......................................... 400,529 324,050
Inventories:
FIFO cost........................................... 2,273,896 2,175,630
Less LIFO reserve................................... (467,931) (461,689)
----------- -----------
1,805,965 1,713,941
Property held for sale............................... 39,672 38,333
Prepaid and other current assets..................... 328,901 276,440
----------- -----------
Total current assets............................... 2,640,551 2,419,816
Property, plant and equipment, net.................... 3,296,599 3,063,534
Investments and other assets.......................... 364,191 409,115
----------- -----------
TOTAL ASSETS....................................... $ 6,301,341 $ 5,892,465
=========== ===========
LIABILITIES
Current liabilities
Current portion of long-term debt.................... $ 14,304 $ 11,642
Current portion of obligations under capital leases.. 10,031 9,501
Accounts payable..................................... 1,781,527 1,717,308
Other current liabilities............................ 1,137,654 1,041,521
----------- -----------
Total current liabilities.......................... 2,943,516 2,779,972
Long-term debt........................................ 3,306,451 3,478,743
Obligations under capital leases...................... 186,624 180,748
Deferred income taxes................................. 166,013 151,036
Other long-term liabilities........................... 483,585 483,672
----------- -----------
TOTAL LIABILITIES.................................. 7,086,189 7,074,171
----------- -----------
SHAREOWNERS' DEFICIT
Common capital stock, par $1
Authorized: 350,000,000 shares
Issued: 1997--277,153,260 shares
1996--272,923,042 shares.............................. 728,644 658,230
Accumulated deficit................................... (1,184,394) (1,596,050)
Common stock in treasury, at cost
1997--22,182,650 shares
1996--19,163,712 shares............................... (329,098) (243,886)
----------- -----------
TOTAL SHAREOWNERS' DEFICIT......................... (784,848) (1,181,706)
----------- -----------
TOTAL LIABILITIES AND SHAREOWNERS' DEFICIT......... $ 6,301,341 $ 5,892,465
=========== ===========
- ---------------------------------------------------------------------------------
The accompanying notes are an integral part of the consolidated financial
statements.
A-10
CONSOLIDATED STATEMENT OF OPERATIONS AND ACCUMULATED DEFICIT
Years Ended December 27, 1997, December 28, 1996, and December 30, 1995
1997 1996 1995
(In thousands, except per share amounts) (52 WEEKS) (52 Weeks) (52 Weeks)
- --------------------------------------------------------------------------------
Sales.................................... $26,567,348 $25,170,909 $23,937,795
----------- ----------- -----------
Costs and expenses
Merchandise costs, including warehousing
and transportation..................... 19,996,381 19,041,465 18,098,027
Operating, general and administrative... 4,861,426 4,616,749 4,406,445
Rent.................................... 331,012 301,629 299,828
Depreciation and amortization........... 380,221 343,769 311,272
Net interest expense.................... 285,945 299,984 312,685
----------- ----------- -----------
Total................................. 25,854,985 24,603,596 23,428,257
----------- ----------- -----------
Earnings before tax expense and extraor-
dinary loss............................. 712,363 567,313 509,538
Tax expense.............................. 268,331 214,578 190,672
----------- ----------- -----------
Earnings before extraordinary loss....... 444,032 352,735 318,866
Extraordinary loss, net of income tax
benefit................................. (32,376) (2,862) (16,053)
----------- ----------- -----------
Net earnings.......................... $ 411,656 $ 349,873 $ 302,813
=========== =========== ===========
Accumulated Deficit
Beginning of year....................... $(1,596,050) $(1,945,923) $(2,248,736)
Net earnings............................ 411,656 349,873 302,813
----------- ----------- -----------
End of year............................. $(1,184,394) $(1,596,050) $(1,945,923)
=========== =========== ===========
Basic earnings per Common Share
Earnings before extraordinary loss ..... $ 1.75 $ 1.41 $ 1.38
Extraordinary loss...................... (.13) (.01) (.07)
------ ------ ------
Net earnings............................ $ 1.62 $ 1.40 $ 1.31
====== ====== ======
Average number of common shares used in
basic
calculation............................. 254,284 250,979 231,468
Diluted earnings per Common Share
Earnings before extraordinary loss ..... $ 1.69 $ 1.36 $ 1.28
Extraordinary loss...................... (.12) (.01) (.06)
------ ------ ------
Net earnings............................ $ 1.57 $ 1.35 $ 1.22
====== ====== ======
Average number of common shares used in
diluted
calculation............................. 262,860 258,837 251,716
- --------------------------------------------------------------------------------
The accompanying notes are an integral part of the consolidated financial
statements.
A-11
CONSOLIDATED STATEMENT OF CASH FLOWS
Years Ended December 27, 1997, December 28, 1996, and December 30, 1995
1997 1996 1995
(In thousands of dollars) (52 WEEKS) (52 Weeks) (52 Weeks)
- ----------------------------------------------------------------------------------
Cash Flows From Operating Activities:
Net earnings.................................. $ 411,656 $ 349,873 $ 302,813
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Extraordinary loss........................... 32,376 2,862 16,053
Depreciation and amortization................ 380,221 343,769 311,272
Amortization of deferred financing costs..... 13,907 13,004 13,189
Loss (gain) on sale of assets................ (3,142) 4,496 (710)
LIFO charge.................................. 6,242 12,526 14,103
Other changes, net........................... (527) (200) (1,176)
Net increase (decrease) in cash from changes
in operating assets and liabilities......... 12,857 (226,931) 154,507
--------- --------- ---------
Net cash provided by operating activities... 853,590 499,399 810,051
--------- --------- ---------
Cash Flows From Investing Activities:
Capital expenditures.......................... (612,198) (733,883) (726,142)
Proceeds from sale of assets.................. 24,657 9,242 49,530
(Increase) decrease in property held for sale. (4,165) 580 2,942
(Increase) decrease in other investments...... 12,269 (132,796) 8,106
--------- --------- ---------
Net cash used by investing activities....... (579,437) (856,857) (665,564)
--------- --------- ---------
Cash Flows From Financing Activities:
Debt prepayment costs......................... (8,012) (4,196) (22,244)
Financing charges incurred.................... (27,210) (17,927) (6,716)
Principal payments under capital lease
obligations.................................. (9,662) (9,229) (8,780)
Proceeds from issuance of long-term debt...... 662,322 382,161 113,246
Reductions in long-term debt.................. (831,952) (235,214) (304,234)
Outstanding checks............................ (17,493) 181,993 38,918
Proceeds from issuance of capital stock....... 41,498 48,120 38,602
Capital stock reacquired...................... (85,212) (254) (217)
--------- --------- ---------
Net cash provided (used) by financing
activities................................. (275,721) 345,454 (151,425)
--------- --------- ---------
Net decrease in cash and temporary cash
investments................................... (1,568) (12,004) (6,938)
Cash and Temporary Cash Investments:
Beginning of year............................. 67,052 79,506 86,444
--------- --------- ---------
End of year................................... $ 65,484 $ 67,052 $ 79,506
========= ========= =========
Increase (Decrease) In Cash From Changes In
Operating Assets And Liabilities:
Inventories (FIFO)............................ $ (98,266) $(140,750) $ 10,396
Receivables................................... (76,478) (35,983) (18,207)
Prepaid and other current assets.............. (53,476) (120,641) (3,992)
Accounts payable.............................. 81,712 (83,808) 98,681
Other current liabilities..................... 51,534 76,423 43,501
Deferred income taxes......................... 65,354 45,665 (10,008)
Other liabilities............................. 42,477 32,163 34,136
--------- --------- ---------
$ 12,857 $(226,931) $ 154,507
========= ========= =========
- ----------------------------------------------------------------------------------
The accompanying notes are an integral part of the consolidated financial
statements.
A-12
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
All dollar amounts are in thousands except per share amounts.
ACCOUNTING POLICIES
The following is a summary of the significant accounting policies followed in
preparing these financial statements:
Principles of Consolidation
The consolidated financial statements include the Company and all of its
subsidiaries. Certain prior year amounts have been restated to conform to
current year presentation.
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.
Segments of Business
The Company operates primarily in one business segment--retail food and drug
stores, predominately in the Midwest and South as well as Colorado, Arizona,
and Kansas. This segment represents more than 90% of consolidated revenue,
operating profit and identifiable assets. The Company also manufactures and
processes food for sale by its supermarkets and others and operates convenience
stores.
Inventories
Inventories are stated at the lower of cost (principally LIFO) or market.
Approximately 90% of inventories for 1997 and 88% of inventories for 1996 were
valued using the LIFO method. Cost for the balance of the inventories is
determined using the FIFO method.
Property Held for Sale
Property held for sale includes the net book value of property, plant and
equipment that the Company plans to sell. The property is valued at the lower
of cost or market on an individual property basis.
Property, Plant and Equipment
Property, plant and equipment are stated at cost. Depreciation and
amortization, which includes the amortization of assets recorded under capital
leases, are computed principally using the straight-line method over the
estimated useful lives of individual assets, composite group lives or the
initial or remaining terms of leases. Buildings and land improvements are
depreciated based on lives varying from ten 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.
Interest Rate Protection Agreements
The Company uses interest rate swaps and caps to hedge a portion of its
borrowings against changes in interest rates. The interest differential to be
paid or received is accrued as interest rates change and is recognized over the
life of the agreements currently as a component of interest expense. Gains and
losses from the disposition of hedge agreements are deferred and amortized over
the term of the related agreements.
Advertising Costs
The Company's advertising costs are predominately expensed as incurred and
included in "operating, general and administrative expenses." Advertising
expenses amounted to $312,000, $302,000, and $281,000 for 1997, 1996, and 1995,
respectively.
A-13
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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. The types of differences that give rise to significant
portions of deferred income tax liabilities or assets relate to: property,
plant and equipment; inventories and other charges; and accruals for
compensation-related costs. Deferred income taxes are classified as a net
current and noncurrent asset or liability based on the classification of the
related asset or liability for financial reporting. 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. (See Taxes Based on
Income footnote.)
Consolidated Statement of Cash Flows
For purposes of the Consolidated Statement of Cash Flows, the Company considers
all highly liquid debt instruments purchased with a maturity of three months or
less to be temporary cash investments. Outstanding checks, which are included
in accounts payable, represent disbursements that are funded as the item is
presented for payment.
Cash paid during the year for interest and income taxes was as follows:
1997 1996 1995
--------------------------
Interest............................................. $304,176 $304,240 $322,411
Income taxes......................................... 154,025 166,732 175,151
PROPERTY, PLANT AND EQUIPMENT, NET
Property, plant and equipment, net consists of:
1997 1996
------------------------
Land.................................................. $ 352,319 $ 308,451
Buildings and land improvements....................... 1,263,700 1,034,441
Equipment............................................. 3,106,548 2,895,826
Leaseholds and leasehold improvements................. 908,948 807,422
Construction-in-progress.............................. 278,821 417,080
Leased property under capital leases.................. 272,911 263,398
----------- -----------
6,183,247 5,726,618
Accumulated depreciation and amortization............. (2,886,648) (2,663,084)
----------- -----------
$ 3,296,599 $ 3,063,534
=========== ===========
Approximately $369,295 and $461,285, original cost, of Property, Plant and
Equipment collateralizes certain mortgage obligations at 1997 and 1996,
respectively.
INVESTMENTS AND OTHER ASSETS
Investments and other assets consists of:
1997 1996
-----------------
Deferred financing costs...................................... $ 59,939 $ 90,171
Goodwill...................................................... 39,119 39,745
Investments in Debt Securities................................ 155,141 152,675
Other......................................................... 109,992 126,524
-------- --------
$364,191 $409,115
======== ========
The Company is amortizing deferred financing costs using the interest method.
Substantially all goodwill is amortized on the straight-line method over 40
years.
A-14
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
OTHER CURRENT LIABILITIES
Other current liabilities consists of:
1997 1996
---------------------
Salaries and wages....................................... $ 300,202 $ 292,393
Taxes, other than income taxes........................... 147,905 146,781
Interest................................................. 36,699 39,202
Other.................................................... 652,848 563,145
---------- ----------
$1,137,654 $1,041,521
========== ==========
TAXES BASED ON INCOME
The provision for taxes based on income consists of:
1997 1996 1995
----------------------------
Federal
Current.......................................... $173,715 $146,296 $178,936
Deferred......................................... 65,354 43,638 (10,008)
-------- -------- --------
239,069 189,934 168,928
State and local................................... 29,262 24,644 21,744
-------- -------- --------
268,331 214,578 190,672
Tax credit from extraordinary loss................ (19,427) (1,792) (10,263)
-------- -------- --------
$248,904 $212,786 $180,409
======== ======== ========
Targeted job tax credits reduced the tax provision by $1,206 in 1995.
A reconciliation of the statutory federal rate and the effective rate is as
follows:
1997 1996 1995
----------------
Statutory rate................................................ 35.0% 35.0% 35.0%
State income taxes, net of federal tax benefit................ 2.7 2.8 2.8
Tax credits................................................... (.2) (.2) (.4)
Other, net.................................................... .2 .2
---- ---- ----
37.7% 37.8% 37.4%
==== ==== ====
A-15
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
The tax effects of significant temporary differences that comprise deferred tax
balances were as follows:
1997 1996
- -------------------------------------------------------------------------------
Current deferred tax assets:
Compensation related costs............................. $ 32,772 $ 27,873
Insurance related costs................................ 35,971 33,109
Inventory related costs................................ 16,257 19,092
Other.................................................. 18,001 19,844
--------- ---------
103,001 99,918
--------- ---------
Current deferred tax liabilities:
Compensation related costs............................. (85,913) (63,691)
Lease accounting....................................... (4,128) (3,680)
Inventory related costs................................ (62,830) (33,116)
Other.................................................. (9,658) (8,582)
--------- ---------
(162,529) (109,069)
--------- ---------
Current deferred taxes, net............................. $ (59,528) $ (9,151)
========= =========
Long-term deferred tax assets:
Compensation related costs............................. $ 130,825 $ 125,466
Insurance related costs................................ 37,788 43,492
Lease accounting....................................... 25,110 24,214
Other.................................................. 20,692 15,466
--------- ---------
214,415 208,638
--------- ---------
Long-term deferred tax liabilities:
Depreciation........................................... (339,951) (312,546)
Compensation related costs............................. (10,328) (14,239)
Lease accounting....................................... (740) (1,863)
Deferred charges....................................... (6,653) (7,471)
Other.................................................. (22,756) (23,555)
--------- ---------
(380,428) (359,674)
--------- ---------
Long-term deferred taxes, net........................... $(166,013) $(151,036)
========= =========
A-16
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
DEBT OBLIGATIONS
Long-term debt consists of:
1997 1996
---------- ----------
Five-Year Credit Agreement............................... $1,262,058
Variable Rate Revolving Credit Facility, due 2002........ $1,001,459
Credit Facility.......................................... 110,000
9 1/4% Senior Secured Debentures, due 2005............... 100,648 107,648
8 1/2% Senior Secured Debentures, due 2003............... 197,845 200,000
8.15% Senior Notes due 2006.............................. 240,000 240,000
7.65% Senior Notes due 2007.............................. 200,000
9 3/4% Senior Subordinated Debentures, due 2004.......... 96,008
9 3/4% Senior Subordinated Debentures, due 2004, Series
B....................................................... 46,050
9 7/8% Senior Subordinated Debentures, due 2002.......... 81,530 83,065
6 3/4% to 9 5/8% Senior Subordinated Notes, due 1999 to
2009.................................................... 171,909 346,064
10% Senior Subordinated Notes, due 1999.................. 123,861 124,703
10% Mortgage loans, with semi-annual payments due through
2004.................................................... 426,219 605,665
4 9/10% to 8 5/8% Industrial Revenue Bonds, due in vary-
ing amounts through 2021................................ 201,030 203,785
7 7/8% to 10 1/4% mortgages, due in varying amounts
through 2017............................................ 267,368 280,711
3 1/2% to 10 1/4% notes, due in varying amounts through
2017.................................................... 48,287 45,227
---------- ----------
Total debt............................................... 3,320,755 3,490,385
Less current portion..................................... 14,304 11,642
---------- ----------
Total long-term debt..................................... $3,306,451 $3,478,743
========== ==========
The aggregate annual maturities and scheduled payments of long-term debt for
the five years subsequent to 1997 are:
1998.................................................... $ 14,304
1999.................................................... $ 164,835
2000.................................................... $ 10,613
2001.................................................... $ 14,274
2002.................................................... $1,430,342
The Company has purchased a portion of the debt issued by the lenders of
certain of its structured financings in an effort to effectively further reduce
the Company's interest expense. Excluding the debt incurred to make these
purchases, which are classified as investments, the Company's total debt would
be $155,141 less or $3,165,614 for 1997 and $152,675 less or $3,337,710 for
1996.
364-Day Credit Agreement and Five-Year Credit Agreement
The Company has outstanding a 364-Day Credit Agreement and a Five-Year Credit
Agreement dated as of May 28, 1997 (collectively the "Credit Agreement"). The
following constitutes only a summary of the principal terms and conditions of
the Credit Agreement. Reference is directed to the Credit Agreement attached as
an exhibit to the Company's Current Report on Form 8-K dated June 2, 1997.
The 364-Day facility is a revolving credit facility in the amount of $500,000,
that terminates on May 27, 1998, unless extended in accordance with its terms.
It may be converted into a term loan maturing two years after the conversion
unless earlier terminated by the Company as provided in the Credit Agreement.
The Five-Year facility is a revolving credit facility in the amount of
$1,500,000. It terminates on May 28, 2002, unless extended or earlier
terminated by the Company as provided in the Credit Agreement.
A-17
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
Interest Rates
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.
The Applicable Margin for the 364-Day facility varies from .125% to .200% prior
to conversion to a term loan facility and thereafter, if exercised by the
Company, from .175% to .300%. The Applicable Margin for the Five-Year facility
varies from .105% to .175%. In addition, the Company pays a Facility Fee
ranging from .050% to .100% on the entire amount of the 364-Day facility and a
Facility Fee ranging from .070% to .125% on the entire amount of the Five-Year
facility. Both the Applicable Margin and the Facility Fee vary based on the
Company's achievement of a financial ratio. As of December 27, 1997, the
Applicable Margin for the 364-Day facility was .155% and for the Five-Year
facility was .135%. The Facility Fee for the 364-Day facility was .070% and for
the Five-Year facility was .090%.
Prepayment
The Company may prepay the Credit Agreement, in whole or in part, at any time,
without a prepayment penalty.
Certain Covenants
The Credit Agreement contains covenants which, among other things, (i) restrict
dividends; (ii) restrict mergers and consolidations; (iii) restrict certain
sales of assets; (iv) restrict changes in accounting treatment and reporting
practices except as permitted under generally accepted accounting principles;
and (v) require the maintenance of certain financial ratios and levels,
including fixed charge coverage ratios and leverage ratios.
9 1/4% Senior Secured Debentures
On January 25, 1993, the Company issued $200,000 of 9 1/4% Senior Secured
Debentures. This issue was redeemed effective January 2, 1998 at 104.625%.
8 1/2% Senior Secured Debentures
On July 1, 1993, the Company issued $200,000 of 8 1/2% Senior Secured
Debentures (the "8 1/2% Senior Secureds"). The 8 1/2% Senior Secureds become
due on June 15, 2003. The 8 1/2% Senior Secureds are redeemable at any time on
or after June 15, 1998, in whole or in part at the option of the Company. The
redemption price commences at 104.250% and is reduced by 1.4165% annually until
June 15, 2001, when the redemption price is 100%. These debentures were
originally secured. On April 29, 1996, all collateral was released pursuant to
the terms of the indenture.
Senior Subordinated Indebtedness
Senior Subordinated Indebtedness consists of the following: (i) $250,000 9 7/8%
Senior Subordinated Debentures due August 1, 2002, redeemable at any time on or
after August 1, 1999, in whole or in part at the option of the Company at par
(the Company has repurchased $168,470 of the 9 7/8% Senior Subordinated
Debentures in total, $1,535 in 1997); (ii) $355,774 6 3/4% to 9 5/8% Senior
Subordinated Notes due March 15, 1999 to October 15, 2009, with portions of
these issues subject to early redemption by the Company at varying times and
premiums (the Company has repurchased or redeemed $183,865 of the notes in
total, $174,155 in 1997); (iii) $250,000 10% Senior Subordinated Notes due May
1, 1999. This issue is not subject to early redemption by the Company (the
Company has repurchased $126,139 of the 10% Senior Subordinated Notes in total,
$842 in 1997).
Redemption Event
Subject to certain conditions (including repayment in full of all obligations
under the Credit Agreement or obtaining the requisite consents under the Credit
Agreement), the Company's publicly issued debt will be subject
A-18
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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.
Mortgage Financing
During 1989 the Company completed a $612,475, 10% mortgage financing of 127 of
its retail properties, distribution warehouse facilities, food processing
facilities and other properties (the "Properties"), with a net book value of
$325,327 held by 13 newly formed wholly-owned subsidiaries. The wholly-owned
subsidiaries mortgaged the Properties, which are leased to the Company or
affiliates of the Company, to a newly formed special purpose corporation,
Secured Finance Inc.
The mortgage loans had an original maturity of 15 years. The Properties are
subject to the liens of Secured Finance Inc. The mortgage loans are subject to
semi-annual payments of interest and principal on $150,000 of the borrowing
based on a 30-year payment schedule and interest only on the remaining $462,475
principal amount. The unpaid principal amount will be due on December 15, 2004.
During 1997 the Company prepaid 35 mortgages with an original balance of
$150,347. The mortgage balances at the time of the prepayment totaled $148,315.
Pursuant to the terms of the mortgages a 20% premium payment was required. The
premium totaled $29,663 and was applied, on a pro-rata basis, to the 92
remaining mortgage loans.
Subsequent to the prepayment the remaining mortgage loans totaled $426,219. The
remaining mortgage loans are subject to semi-annual payments of interest and
principal on $99,095 based on the original 30-year payment schedule, adjusted
for the pre-payment, and interest only on the remaining $327,124 principal
amount.
Commercial Paper
Under the Credit Agreement the Company is permitted to issue up to $2,000,000
of unrated commercial paper and borrow up to $2,000,000 from the lenders under
the Credit Agreement on a competitive bid basis. The total of unrated
commercial paper, $84,000 at December 27, 1997, and competitive bid borrowings,
$282,000 at December 27, 1997, however, may not exceed $2,000,000. All
commercial paper and competitive bid borrowings must be supported by
availability under the Credit Agreement. These borrowings have been classified
as long-term because the Company expects that during 1998 these borrowings will
be refinanced using the same type of securities. Additionally, the Company has
the ability to refinance the short-term borrowings under the Five-Year facility
of the Credit Agreement which matures May 28, 2002.
Interest Rate Protection Program
The Company uses derivatives to limit its exposure to rising interest rates.
The guidelines the Company follows are: (i) use average daily bank balance 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 $1,000,000 or less, (iii) include no leveraged
products, and (iv) hedge without regard to profit motive or sensitivity to
current mark-to-market status. The Company's compliance with these guidelines
is reviewed semi-annually with the Financial Policy Committee of the Company's
Board of Directors.
A-19
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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 6 month LIBOR using the forward yield curve as of
December 27, 1997.
1997 1996
---------- ----------
Receive fixed swaps
Notional amount........................................ $1,085,000 $1,085,000
Duration in years...................................... 3.0 4.0
Average receive rate................................... 6.33% 6.33%
Average pay rate....................................... 5.79% 5.77%
Receive variable swaps
Notional amount........................................ $1,250,000 $1,150,000
Duration in years...................................... 2.7 3.7
Average receive rate................................... 5.83% 5.75%
Average pay rate....................................... 6.92% 6.96%
Interest rate caps
Notional amount........................................ $ 200,000 $ 450,000
Duration in years...................................... .9 1.3
Average receive rate................................... 5.81% 5.65%
In addition, as of December 27, 1997, the Company hedged $200,000 of fixed rate
debt expected to be issued in 1998 by swapping $100,000 of 7 year variable rate
debt and $100,000 of 10 year variable rate debt for a 6.75% fixed rate. Based
on the terms of the agreements the Company expects the hedges to be terminated
during 1998. Any gain or loss from the hedges will be deferred and amortized
over the shorter of the life of the fixed rate debt or the terminated hedges.
A-20
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate
that value:
Long-term Investments
The fair values of these investments are estimated based on quoted market
prices for those or similar investments.
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.
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 years-end. If the swaps and caps were cancelled as of the respective
years-end the result would have been a net cash outflow for 1997 and 1996. The
swaps and caps are linked to the Company's debt portfolio. (See Accounting
Policies and Debt Obligations footnotes.)
The estimated fair values of the Company's financial instruments are as
follows:
1997 1996
--------------------- ---------------------
ESTIMATED ESTIMATED
CARRYING FAIR CARRYING FAIR
VALUE VALUE VALUE VALUE
---------- ---------- ---------- ----------
Long-term investments for which
it is
Practicable.................... $ 167,609 $ 168,512 $ 154,748 $ 154,645
Not Practicable................ $ 33,605 $ -- $ 31,576 $ --
Long-term debt for which it is
Practicable.................... $1,542,012 $1,674,983 $1,849,203 $1,980,925
Not Practicable................ $1,778,743 $ -- $1,641,182 $ --
Interest Rate Protection Agree-
ments
Receive fixed swaps............ $ -- $ 11,307 $ -- $ 4,900
Receive variable swaps......... $ -- $ (42,016) $ -- $ (37,311)
Interest rate caps............. $ 1,130 $ 434 $ 3,854 $ 2,807
---------- ---------- ---------- ----------
$ 1,130 $ (30,275) $ 3,854 $ (29,604)
========== ========== ========== ==========
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.
It was not practicable to estimate the fair value of $1,262,058 of long-term
debt outstanding under the Company's Credit Agreement. There is no liquid
market for this debt. The remaining long-term debt that it was not practicable
to estimate relates to Industrial Revenue Bonds of $201,030, various mortgages
of $267,368, and other notes of $48,287 for which there is no market.
LEASES
The Company operates primarily in leased facilities. Lease terms generally
range from 10 to 25 years with options to renew at varying terms. Certain of
the leases provide for contingent payments based on a percent of sales.
Rent expense (under operating leases) consists of:
1997 1996 1995
-------- -------- --------
Minimum rentals...................................... $321,782 $291,256 $288,961
Contingent payments.................................. 9,230 10,373 10,867
-------- -------- --------
$331,012 $301,629 $299,828
======== ======== ========
A-21
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
Assets recorded under capital leases consists of:
1997 1996
-------- ---------
Distribution and manufacturing facilities.................. $ 30,382 $ 30,381
Store facilities........................................... 242,529 233,017
Less accumulated amortization.............................. (123,891) (118,589)
-------- ---------
$149,020 $ 144,809
======== =========
Minimum annual rentals for the five years subsequent to 1997 and in the
aggregate are:
CAPITAL OPERATING
LEASES LEASES
-------- ----------
1998....................................................... $ 33,201 $ 311,199
1999....................................................... 32,912 289,903
2000....................................................... 31,968 266,225
2001....................................................... 30,909 246,497
2002....................................................... 29,848 230,057
Thereafter................................................. 259,263 1,985,448
-------- ----------
418,101 $3,329,329
==========
Less estimated executory costs included in capital leases.. 18,484
--------
Net minimum lease payments under capital leases............ 399,617
Less amount representing interest.......................... 202,962
--------
Present value of net minimum lease payments under capital
leases.................................................... $196,655
========
EXTRAORDINARY LOSS
The extraordinary loss in 1997, 1996, and 1995 relates to premiums paid to
retire certain indebtedness early and the write-off of related deferred
financing costs.
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. Diluted earnings per
common share for 1995 is computed by adjusting both earnings before
extraordinary loss and shares outstanding as if the September 1995 conversion
of the 6 3/8% Convertible Junior Subordinated Notes occurred on the first day
of the year.
Earnings per share calculations have been made in compliance with Statement of
Financial Accounting Standards No. 128, "Earnings Per Share" ("SFAS 128"). SFAS
128 became effective for fourth quarter 1997 calculations. Prior year
calculations have been restated to reflect the adoption of SFAS 128.
On March 20, 1997, the Company's Board of Directors declared a 2-for-1 stock
split to shareholders of record at the close of business on April 7, 1997. All
share amounts prior to this date have been restated to reflect this stock
split.
A-22
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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
DECEMBER 27, 1997 DECEMBER 28, 1996 DECEMBER 30, 1995
------------------------ ------------------------ ------------------------
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
- ---------
Earnings before extraor-
dinary loss............ $444,032 254,284 $1.75 $352,735 250,979 $1.41 $318,866 231,468 $1.38
===== ===== =====
Effect of Dilutive Secu-
rities
- ------------------------
Stock option awards.... 8,576 7,858 6,258
Convertible debenture.. 3,590 13,990
Diluted EPS
- -----------
Income available to
shareholders plus as-
sumed -------- ------- -------- ------- -------- -------
conversions........... $444,032 262,860 $1.69 $352,735 258,837 $1.36 $322,456 251,716 $1.28
======== ======= ===== ======== ======= ===== ======== ======= =====
PREFERRED STOCK
The Company has authorized 5,000,000 shares of voting cumulative preferred
stock; 2,000,000 were available for issuance at December 27, 1997. The stock
has a par value of $100 and is issuable in series.
COMMON STOCK
The Company has authorized 350,000,000 shares of $1 par common stock. The main
trading market for the Company's common stock is the New York Stock Exchange,
where it is listed under the symbol KR. For the three years ended December 27,
1997, changes in common stock were:
ISSUED IN TREASURY
-------------------- --------------------
SHARES AMOUNT SHARES AMOUNT
-----------------------------------------
December 31, 1994................... 241,146,296 $338,568 19,152,462 $243,516
Exercise of stock options including
restricted stock grants............ 5,013,334 40,017 16,240 272
Shares issued on conversion of Con-
vertible Junior Subordinated Notes. 21,396,212 196,451 (16,802) (157)
Tax benefit from exercise of non-
qualified stock options............ 11,505
----------- -------- ---------- --------
December 30, 1995................... 267,555,842 586,541 19,151,900 243,631
Exercise of stock options including
restricted stock grants............ 5,367,200 50,091 11,812 255
Tax benefit from exercise of non-
qualified stock options............ 21,598
----------- -------- ---------- --------
December 28, 1996................... 272,923,042 658,230 19,163,712 243,886
Exercise of stock options including
restricted stock grants............ 4,230,218 43,693 (605) 280
Open market purchases............... 3,019,543 84,932
Tax benefit from exercise of non-
qualified stock options............ 26,721
----------- -------- ---------- --------
December 27, 1997................... 277,153,260 $728,644 22,182,650 $329,098
=========== ======== ========== ========
A-23
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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 1,000 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 December 27, 1997, 7,997,891 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 511,000 shares, upon the
Company's stock reaching certain pre-determined market prices. 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:
WEIGHTED AVERAGE
SHARES SUBJECT OF EXERCISE
TO OPTION PRICE OF OPTIONS
-------------------------------
Outstanding, December 31, 1994.................. 24,611,764 $ 8.72
Granted......................................... 5,549,300 $ 12.85
Exercised....................................... (4,678,780) $ 8.45
Cancelled or expired............................ (155,230) $ 7.09
----------
Outstanding, December 30, 1995.................. 25,327,054 $ 9.68
Granted......................................... 5,687,020 $ 20.71
Exercised....................................... (5,339,416) $ 9.04
Cancelled or expired............................ (183,518) $ 16.12
----------
Outstanding, December 28, 1996.................. 25,491,140 $ 12.23
Granted......................................... 3,110,560 $ 26.67
Exercised....................................... (4,229,352) $ 9.89
Cancelled or expired............................ (210,670) $ 12.53
----------
Outstanding, December 27, 1997.................. 24,161,678 $ 14.50
==========
The Company applies Accounting Principles Board Opinion No. 25 "Accounting for
Stock Issued to Employees," and related interpretations in accounting for its
plans. Accordingly, no compensation expense has been recognized for its stock-
based compensation plans other than for restricted stock awards. 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
with the methodology prescribed under Statement of Financial Accounting
Standards No. 123, "Accounting for Stock-Based Compensation," the Company's net
income and diluted net earnings per share would have been reduced by
approximately $13,616, or $.05 per share, $12,800, or $.05 per share and $5,200
or $.04 per share, for 1997, 1996 and 1995, respectively. The weighted average
fair value of the options granted during 1997, 1996, and 1995 was estimated as
$10.82, $5.89 and $3.96, respectively, on the date of grant using the Black-
Scholes option-pricing model with the following weighted average assumptions:
volatility of 24.0%, 22.7% and 26.6% for 1997, 1996 and 1995, respectively;
risk-free interest rate of 5.7%, 6.3% and 6.4% for 1997, 1996 and 1995,
respectively; and an expected term of approximately 5.4 years for 1997 and 3.3
years for both 1996 and 1995. A summary of options outstanding and exercisable
at December 27, 1997 follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------ ------------------------
WEIGHTED-
AVERAGE WEIGHTED- WEIGHTED-
RANGE OF NUMBER REMAINING AVERAGE OPTIONS AVERAGE
EXERCISE OUTSTANDING CONTRACTUAL EXERCISE EXERCISABLE EXERCISE
PRICE AS OF 12/27/97 LIFE PRICE AS OF 12/27/97 PRICE
- ---------------------------------------------------------------------------
$ 2.46-$ 7.85 4,244,086 3.06 $ 6.41 4,244,086 $ 6.41
$ 8.10-$10.57 2,669,430 4.42 9.34 2,669,430 9.34
$11.69-$11.69 3,096,529 6.39 11.69 3,096,529 11.69
$11.72-$12.66 2,130,366 3.48 11.74 2,130,366 11.74
$12.75-$20.41 4,188,380 7.31 12.75 3,340,949 12.75
$20.75-$26.13 4,848,391 8.30 20.75 2,637,430 20.75
$26.88-$36.47 2,984,496 9.39 26.99 8,875 26.88
---------- ----------
24,161,678 18,127,665
========== ==========
A-24
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
At December 28, 1996 and December 30, 1995, options for 16,906,890 shares and
17,738,446 shares, respectively, were exercisable at a weighted average
exercise price of $9.44 and $8.52, respectively.
Also, the Company may grant restricted stock awards to eligible employee
participants. In general, a restricted stock award entitles an employee to
receive a stated number of shares of common stock of the Company subject to
forfeiture if the employee fails to remain in the continuous employ of the
Company for a stipulated period. The holder of an award is entitled to the
rights of a shareowner except that the restricted shares and the related rights
to vote or receive dividends may not be transferred. The award is charged to
earnings over the period in which the employee performs services and is based
upon the market value of common stock at the date of grant for those grants
without performance contingencies. As of December 27, 1997 and December 28,
1996, awards related to 354,850 and 357,804 shares, respectively, were
outstanding. Of the awards outstanding at December 27, 1997 and December 28,
1996, 200,000 shares are contingent on the attainment of certain performance
objectives. The charge to earnings for grants with performance-contingent
vesting includes share appreciation between the grant date and the vesting
date.
Incentive shares may be granted under the 1994 plan, which consist of shares of
common stock issued subject to achievement of performance goals. No incentive
shares were outstanding as of December 27, 1997 and December 28, 1996.
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:
Income Taxes--The Company has closed all tax years through 1983 with the
Internal Revenue Service. The Internal Revenue Service has completed its
examination of the Company's tax returns for tax years 1984-1992. With one
exception, all issues have been resolved for tax years 1984-1989. A second
issue remains unresolved for tax years 1990-1992. Efforts to resolve the issue
for tax years 1984-1986 with the Appeals Division of the Internal Revenue
Service were unsuccessful. As a result the Company filed a petition with the
United States Tax Court in Washington, D.C. Litigation was completed in
November 1995 and a decision was rendered in January 1997 in favor of the
Company. The Commissioner of Internal Revenue has appealed this case to the
United States Court of Appeals for the Sixth Circuit. The issue before the
court is being held in abeyance for tax years 1987-1992 pending the ultimate
outcome of this appeal. The other issue for tax years 1990-1992 is being
temporarily held in abeyance by the Internal Revenue Service. The Company has
provided for this and other tax contingencies.
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.
Litigation--The Company is involved in various legal actions arising in the
normal course of business. Management is of the opinion that their outcome will
not have a material adverse effect on the Company's financial position or
results of operations.
A-25
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
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. 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
tradeable, ten days after a person or group acquires 10% or more of the
Company's common stock or 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 earning 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 $.01 per right. The
rights are subject to adjustment and expire March 19, 2006. This summary
description of the Plan is qualified in its entirety by the terms of the plan
more particularly set forth in the Company's Form 8-A/A dated April 4, 1997.
PENSION 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. Employees are eligible to participate upon the
attainment of age 21 (25 for participants prior to January 1, 1986) and the
completion of one year of service, and benefits are based upon final average
salary and years of service. Vesting is based upon years of service.
The Company-administered pension benefit obligations and the assets were valued
as of the end of 1997 and 1996. Substantially all plan assets are invested in
cash and short-term investments or listed stocks and bonds, including $135,274
and $94,229 of common stock of The Kroger Co. at the end of 1997 and 1996,
respectively. The status of the plans at the end of 1997 and 1996 was:
1997 1996
-------------------
Actuarial present value of benefit obligations:
Vested employees........................................... $ 768,261 $686,203
Non-vested employees....................................... 50,499 40,837
---------- --------
Accumulated benefit obligations............................ 818,760 727,040
Additional amounts related to projected salary increases... 124,696 147,057
---------- --------
Projected benefit obligations.............................. 943,456 874,097
Plan assets at fair value................................... 1,095,118 947,725
---------- --------
Plan assets in excess of projected benefit obligations...... $ 151,662 $ 73,628
========== ========
Consisting of:
Unamortized transitional asset............................. $ 5,914 $ 14,456
Unamortized prior service cost and net gain................ 132,369 40,860
Adjustment required to recognize minimum liability......... 12,398 13,619
Prepaid pension cost in Consolidated Balance Sheet......... 981 4,693
---------- --------
$ 151,662 $ 73,628
========== ========
A-26
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
The components of net periodic pension expense (income) for 1997, 1996 and 1995
are as follows:
1997 1996 1995
-------------------------------
Service cost.................................. $ 26,682 $ 25,977 $ 20,249
Interest cost................................. 67,701 61,090 57,218
Return on assets.............................. (191,755) (110,819) (211,942)
Net amortization and deferral................. 105,055 28,785 131,360
--------- --------- ---------
Net periodic pension expense (income) for the
year......................................... $ 7,683 $ 5,033 $ (3,115)
========= ========= =========
Assumptions:
Discount rate................................ 7.25% 7.75% 7.25%
Salary Progression rate...................... 3.75% 4.75% 4.25%
Long-term rate of return on plan assets...... 9.5% 9.5% 9.5%
1997 and 1996 assumptions represent the rates in effect at the end of the
fiscal year. These rates were used to calculate the actuarial present value of
the benefit obligations at December 27, 1997 and December 28, 1996,
respectively. However, for the calculation of periodic pension expense for 1997
and 1996 the assumptions in the table above for 1996 and 1995, respectively,
were used. The 1998 calculation of periodic pension expense will be based on
the assumptions in the table above for 1997.
The Company also administers certain defined contribution plans for eligible
union and non-union employees. The cost of these plans for 1997, 1996 and 1995
was $22,445, $21,278 and $24,902, 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 and expense for 1997, 1996 and 1995 were $83,506,
$88,758 and $90,872, respectively. Information on the actuarial present value
of accumulated plan benefits and net assets available for benefits relating to
the multi-employer plans is not available.
POSTRETIREMENT HEALTH CARE AND LIFE INSURANCE BENEFITS
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. For 1997,
1996, and 1995, the combined payments for these benefits were $13,304, $10,634
and $10,025, respectively.
The following table sets forth the postretirement benefit plans combined status
at December 27, 1997 and December 28, 1996:
1997 1996
-------- --------
Accumulated postretirement benefit obligation (APBO)
Retirees.................................................... $105,678 $ 96,262
Fully eligible active participants.......................... 40,542 53,387
Other active participants................................... 84,522 103,523
-------- --------
230,742 253,172
Unrecognized net gain....................................... 75,389 59,762
-------- --------
Accrued postretirement benefit cost......................... $306,131 $312,934
======== ========
The components of net periodic postretirement benefit costs are as follows:
1997 1996 1995
------- ------- -------
Service costs (benefits attributed to employee serv-
ices during the year).............................. $ 9,463 $ 9,557 $ 9,344
Interest cost on accumulated postretirement benefit
obligations........................................ 19,608 18,006 20,662
Net amortization and deferral....................... (2,586) (991) (725)
------- ------- -------
$26,485 $26,572 $29,281
======= ======= =======
A-27
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONTINUED
The significant assumptions used in calculating the APBO are as follows:
HEALTH CARE TREND RATE
-------------------------
DISCOUNT YEARS TO
RATE INITIAL ULTIMATE ULTIMATE
-------- ------- -------- --------
Year-end 1995................................ 7.25% 10.0% 5.0% 7
Year-end 1996................................ 7.75% 9.3% 5.0% 6
Year-end 1997................................ 7.25% 5.0% 5.0% N/A
The effect of a one percent increase in the medical trend rate is as follows:
PERIODIC
COST APBO
-----------------------
Year-end 1995.................................................. $4,037 $32,209
Year-end 1996.................................................. $4,114 $23,942
Year-end 1997.................................................. $2,734 $20,464
RECENTLY ISSUED ACCOUNTING STANDARDS
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130. "Reporting Comprehensive Income," and
No. 131 "Disclosure about Segments of an Enterprise and Related Information".
The Company has not yet determined what effect, if any, these statements will
have.
QUARTERLY DATA (UNAUDITED)
QUARTER
---------------------------------------------- TOTAL
FIRST SECOND THIRD FOURTH YEAR
1997 (12 WEEKS) (12 WEEKS) (16 WEEKS) (12 WEEKS) (52 WEEKS)
- --------------------------------------------------------------------------------
Sales................... $6,139,413 $6,231,794 $7,686,639 $6,509,502 $26,567,348
Merchandise costs....... 4,626,389 4,682,365 5,789,948 4,897,679 19,996,381
Extraordinary loss...... (5,210) (3,033) (803) (23,330) (32,376)
Net earnings............ 87,050 105,104 95,727 123,775 411,656
Basic earnings per com-
mon share:
Earnings before ex-
traordinary loss .... .36 .43 .38 .58 1.75
Extraordinary loss.... (.02) (.01) (.09) (.13)
---- ---- ---- ---- ----
Basic net earnings per
common share........... .34 .42 .38 .49 1.62
Diluted earnings per
common share:
Earnings before ex-
traordinary loss .... .35 .41 .37 .56 1.69
Extraordinary loss.... (.02) (.01) (.09) (.12)
---- ---- --- ---- ----
Diluted net earnings per
common share........... .33 .40 .37 .47 1.57
1996
- --------------------------------------------------------------------------------
Sales................... $5,784,254 $5,844,366 $7,343,132 $6,199,157 $25,170,909
Merchandise costs....... 4,367,967 4,412,202 5,582,032 4,679,264 19,041,465
Extraordinary loss...... (1,084) (766) (928) (84) (2,862)
Net earnings............ 75,406 77,612 71,420 125,435 349,873
Basic earnings per com-
mon share:
Earnings before ex-
traordinary loss .... .31 .31 .29 .50 1.41
Extraordinary loss.... (.01) (.01)
---- ---- ---- ---- ----
Basic net earnings per
common share........... .31 .31 .28 .50 1.40
Diluted earnings per
common share:
Earnings before ex-
traordinary loss .... .30 .30 .28 .48 1.36
Extraordinary loss.... (.01)
---- ---- ---- ---- ----
Diluted net earnings per
common share........... .30 .30 .28 .48 1.35
A-28
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, CONCLUDED
Common Stock Price Range
1997 1996
---------------- -----------------
QUARTER HIGH LOW HIGH LOW
-----------------------------------------------------
1st............. 28 1/8 22 11/16 19 13/16 16 3/4
2nd............. 29 1/8 23 13/16 22 18 3/4
3rd............. 31 1/16 27 1/8 22 1/2 18 9/16
4th............. 37 5/16 28 1/2 23 3/4 20 3/8
The number of shareowners of record of common stock as of March 9, 1998, was
46,973.
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.
A-29
SELECTED FINANCIAL DATA
FISCAL YEARS ENDED
-------------------------------------------------------------------
DECEMBER 27, DECEMBER 28, DECEMBER 30, DECEMBER 31, JANUARY 1,
1997 1996 1995 1994 1994
(52 WEEKS) (52 WEEKS) (52 WEEKS) (52 WEEKS) (52 WEEKS)
-------------------------------------------------------------------
(IN THOUSANDS OF DOLLARS, EXCEPT PER SHARE AMOUNTS)
Sales................... $26,567,348 $25,170,909 $23,937,795 $22,959,122 $22,384,301
Earnings before
extraordinary loss and
cumulative effect of
change in accounting... 444,032 352,735 318,866 268,903 170,805
Extraordinary loss (net
of income tax
benefit)(A) ........... (32,376) (2,862) (16,053) (26,707) (23,832)
Cumulative effect of
change in accounting
(net of income tax
benefit)(B)............ (159,193)
Net earnings (loss)..... 411,656 349,873 302,813 242,196 (12,220)
Diluted earnings (loss)
per share
Earnings before ex-
traordinary loss...... 1.69 1.36 1.28 1.10 .76
Extraordinary loss(A).. (.12) (.01) (.06) (.10) (.10)
Cumulative effect of
change in
accounting(B)......... (.65)
Net earnings (loss).... 1.57 1.35 1.22 1.00 .01
Total assets............ 6,301,341 5,892,465 5,044,717 4,707,674 4,480,464
Long-term obligations,
including obligations
under capital leases... 3,493,075 3,659,491 3,489,728 3,889,194 4,135,013
Shareowners' deficit.... (784,848) (1,181,706) (1,603,013) (2,153,684) (2,459,642)
Cash dividends per com-
mon share.............. (C) (C) (C) (C) (C)
- ---------------------------------------------------------------------------------------------
(A) See Extraordinary Loss in the Notes to Consolidated Financial Statements.
(B) See Postretirement Health Care and Life Insurance Benefits in the
respective year's Notes to Consolidated Financial Statements.
(C) The Company is prohibited from paying cash dividends under the terms of its
Credit Agreement.
A-30
EXECUTIVE OFFICERS
WARREN F. BRYANT W. RODNEY MCMULLEN
President and Chief Executive Senior Vice President and
Officer--Dillon Companies, Inc. Chief Financial Officer
JOSEPH A. PICHLER
DAVID B. DILLON Chairman of the Board and Chief
President and Chief Operating Executive Officer
Officer
RONALD R. RICE
PAUL W. HELDMAN President--Manufacturing, Senior Vice
Senior Vice President, Secretary President
and General Counsel
JAMES R. THORNE
MICHAEL S. HESCHEL Senior Vice President
Executive Vice President and
Chief Information Officer LAWRENCE M. TURNER
Vice President and Treasurer
LYNN MARMER
Group Vice President
DON W. McGEORGE
Senior Vice President
- --------------------------------------------------------------------------------
The Company has a variety of plans designed to allow employees to acquire stock
in Kroger. Employees of Kroger and its subsidiaries own shares through a profit
sharing plan, as well as 401(k) plans and a payroll deduction plan called the
Kroger Stock Exchange. If employees have questions concerning their shares in
the Kroger Stock Exchange, or if they wish to sell shares they have purchased
through this plan, they should contact:
Star Bank, N.A. Cincinnati
P.O. Box 5277
Cincinnati, Ohio 45201
Toll Free 1-800-872-3307
Questions regarding the Company's 401(k) plan should be directed to the
employee's Human Resources Manager or 1-800-2KROGER.
Questions concerning any of the other plans should be directed to the
employee's local Human Resources Manager.
SHAREOWNERS: The Bank of New York is Registrar and Transfer Agent for the
Company's Common Stock. For questions concerning changes of address, etc.,
individual shareowners should contact:
Written inquiries: Certificate transfer and address changes:
- ------------------ -----------------------------------------
The Bank of New York The Bank of New York
Shareholder Relations Department-11E Receive and Deliver Department-11W
P.O. Box 11258 P.O. Box 11002
Church Street Station Church Street Station
New York, New York 10286 New York, New York 10286
The Bank's toll-free number is: 1-800-524-4458. E-mail: shareowner-
svc@email.bankofny.com
Shareholder questions and requests for forms available on the Internet at:
http://stock.bankofny.com
SHAREOWNER UPDATES: The Kroger Co. provides a pre-recorded overview of the
Company's most recent quarter. Call 1-800-4STOCKX or, in Cincinnati, 762-4723.
FINANCIAL INFORMATION: Call (513) 762-1220 to request printed financial
information, including the Company's most recent report on Form 10-Q or 10-K,
or press release. Written inquiries should be addressed to Shareholder
Relations, The Kroger Co., 1014 Vine Street, Cincinnati, Ohio 45202-1100.
Financial information also is available on the Internet at www.cfonews.com/kr.
- --------------------------------------------------------------------------------
The Kroger Co. . 1014 Vine Street . Cincinnati, Ohio 45202 . (513) 762-4000
DID YOU KNOW???
Your Company is the world's largest florist. Send flowers anywhere in the world
by calling
1-800-334-SEND
8 AM-5 PM EST
[Graphical representation of flower}
FLOWERS FROM AROUND THE WORLD
FOLD AND DETACH HERE
The Board of Directors recommends a vote FOR the nominees and FOR Proposals 2
and 3.
1. ELECTION OF DIRECTORS
FOR all nominees
listed below
WITHHOLD AUTHORITY to vote
for all nominees listed below
*EXCEPTIONS
Nominees: John L. Clendenin, David B. Dillon, Patricia Shontz Longe, Thomas H.
O'Leary, and James D. Woods.
(INSTRUCTION: To withhold authority to vote for any individual nominee mark the
Exceptions box and write that nominee's name on the space provided below.)
*EXCEPTIONS
2. Approve increase in authorized shares of Common Stock.
FOR AGAINST ABSTAIN
3. Approval of Coopers & Lybrand L.L.P., as auditors.
FOR AGAINST ABSTAIN
If you wish to vote in accordance with the recommendations of management, all
you need do is sign and return this card. The Proxy Committee cannot vote your
shares unless you sign and return the card.
Change of Address and
or Comments Mark Here
Please sign exactly as name appears hereon. Joint owners should each sign. Where
applicable, indicate position or representative capacity.
Dated: , 1998
Signature
Signature
PLEASE MARK, SIGN, DATE AND RETURN THE PROXY CARD PROMPTLY, USING THE ENCLOSED
ENVELOPE.
Votes MUST be indicated
(x) in Black or Blue ink.
Notice of Annual Meeting of Shareholders
Cincinnati, Ohio, April 13, 1998
To All Shareholders
of The Kroger Co.:
The annual meeting of shareholders of The Kroger Co. will be held at the OMNI
NETHERLAND PLAZA, 35 W. 5TH Street, Cincinnati, Ohio, on May 14, 1998, at
10 A.M., for the following purposes:
1. To elect five directors to serve until the annual meeting of shareholders in
2001 or until their successors have been elected and qualified;
2. To consider and act upon a proposal to authorize an amendment to the Amended
Articles of Incorporation to increase the authorized shares of Common Stock from
350,000,000 to 1,000,000,000;
3. To consider and act upon a proposal to ratify the selection of auditors for
the Company for the year 1998; and
4. To transact such other business as may properly be brought before the
meeting; all as set forth in the Proxy Statement accompanying this Notice.
Holders of common shares of record at the close of business on March 17, 1998,
will be entitled to vote at the meeting.
YOUR MANAGEMENT DESIRES TO HAVE A LARGE NUMBER OF SHAREHOLDERS REPRESENTED AT
THE MEETING, IN PERSON OR BY PROXY. PLEASE SIGN AND DATE THE ENCLOSED PROXY AND
MAIL IT AT ONCE IN THE ENCLOSED SELF-ADDRESSED ENVELOPE. NO POSTAGE IS REQUIRED
IF MAILED WITHIN THE UNITED STATES.
By order of the Board of Directors,
Paul W. Heldman, Secretary
FOLD AND DETACH HERE
THE KROGER CO.
PROXY
This Proxy is Solicited on Behalf of the Board of Directors
for the Annual Meeting to be Held May 14, 1998
The undersigned hereby appoints each of JOSEPH A. PICHLER, JOHN T. LA MACCHIA
and T. BALLARD MORTON, JR., or if more than one is present and acting then a
majority thereof, proxies, with full power of substitution and revocation, to
vote the common shares of The Kroger Co. which the undersigned is entitled to
vote at the annual meeting of shareholders, and at any adjournment thereof, with
all the powers the undersigned would possess if personally present, including
authority to vote on the matters shown on the reverse in the manner directed,
and upon any other matter which properly may come before the meeting. The
undersigned hereby revokes any proxy previously given to vote those shares at
the meeting or at any adjournment.
The proxies are directed to vote as specified on the reverse hereof and in their
discretion on all other matters coming before the meeting. Except as specified
to the contrary on the reverse, the shares represented by this proxy will be
voted FOR all nominees listed, including the discretion to cumulate votes and
FOR Proposals 2 and 3.
(continued, and to be signed, on other side)
THE KROGER CO.
P.O. BOX 11127
NEW YORK, N.Y. 10203-0127