Good morning, and welcome to The Kroger Co. Second Quarter 2024 Earnings Conference Call. Please note this event is being recorded. I would now like to turn the conference over to Rob Quast, Senior Director of Investor Relations. Please proceed.

Good morning. Thank you for joining us for Kroger's Second Quarter 2024 Earnings Call. I am joined today by Kroger's Chairman and Chief Executive Officer, Rodney McMullen; and Interim Chief Financial Officer, Todd Foley. Before we begin, I want to remind you that today's discussions will include forward-looking statements. We want to caution you that such statements are predictions and actual events or results can differ materially. A detailed discussion of the many factors that we believe may have a material effect on our business on an ongoing basis is contained in our SEC filings. The Kroger Company assumes no obligation to update that information. After our prepared remarks, we look forward to taking your questions. In order to cover a broad range of topics from as many of you as we can, we ask that you please limit yourself to one question and one follow-up question if necessary. I will now turn the call over to Rodney.

Thank you, Rob. Good morning, everyone, and thank you for joining us today. Before we begin, I'd like to provide an outline of our discussion topics this morning. I will start by sharing a recap of our second quarter performance and highlight how we continue to advance our go-to-market strategy, which powers our value creation model and drives long term sustainable growth for our shareholders. Then Todd will cover our financial results for the second quarter, and finally, I will close with an update on our pending merger with Albertsons. Turning to our performance this quarter, we continue to execute our strategy and we are delivering solid financial results through the strength and diversity of our model. We are driving positive customer activity with a compelling combination of affordable prices and personalized promotions on great quality products, all through a unique seamless experience. Our strong customer trends also reflect our enhanced focus on elevating the customer experience through excellent store execution, which continued into the second quarter. Customers continue adjusting to the current economic environment. The reduction of excess savings built up during the pandemic, higher interest rates and the effect of inflation are pressuring customers' ability to spend. This is especially true for our most budget-conscious customers, as we've been seeing for a while now, but we're now seeing other customer segments beginning to make changes as well. Customers are purchasing lower-priced cuts of meat, buying less and focusing on essentials. Budget-conscious customers are buying more at the beginning of the month to stock up on essential items and groceries. And then as the month progresses, they are more cautious with their spending. In response, we are supporting our customers by keeping prices low through promotions, including loyalty discounts, personalized offers and fuel rewards. We are also expanding our multi-tiered portfolio of Our Brands products, which provides customers exceptional alternatives to national brands competing on quality, while at a noticeably lower price point. Our long-term model demonstrates that by consistently keeping prices low, we increase customer loyalty and grow share of wallet. While the food-at-home industry remains competitive, our model drives efficiencies that allow us to sustainably invest in value and maintain competitive price spreads with key competitors. In addition to lowering prices, we executed our go-to-market strategy through our pillars of Fresh, Our Brands, personalization and seamless. We are proud of our associates for bringing this strategy to life with another quarter of excellent store execution. This led to another quarter of strong customer trends, including total and loyal household growth and an increase in customer visits. Mainstream households, our largest customer segment, led our sales growth through more households and increased visits. By delivering a more consistent customer experience, we are moving customers up the loyalty ladder and positioning ourselves for long term sales growth. I'd now like to cover how we are enhancing our go-to-market strategy, starting by leading with Fresh. Our Fresh for Everyone promise reflects our commitment that customers can trust the quality and freshness of every item they purchase. This promise is only possible through our strong relationships with farmers and suppliers, which enables Kroger to source the freshest products. Field & Vine, one of the newest Our Brands lines, offers regionally grown berries picked at peak freshness. We are very pleased with the initial customer response to this line. Our Brands is an important differentiator for our business, enabling us to offer innovative products at a great value. This combination of quality and value led to Our Brands sales growth outpacing national brand sales growth this quarter. More than 90% of our customer households purchased Our Brands products during that time. Across the portfolio of Our Brands, we are expanding into new categories and launching new products with almost 600 already introduced this year. Each of these new products is thoroughly tested and validated to earn its spot on our shelves, competing aggressively with national brands with no compromise on quality. Smart Way, one of our opening price point brands, is delivering exceptional value to customers on a budget. These are ultra-low-priced essentials and pantry staples that we know our customers need the most. We continued expanding the Smart Way lineup in the second quarter to meet our customer needs for more value. We are also making progress on Our Brands refreshment rollout, with more of Our Brands portfolio to be refreshed later this year. We are excited to see our customers respond to these new designs. As we innovate within the portfolio and expand to meet customer needs, we are improving our mix and driving better profitability. For example, our manufacturing plants allow us to make many of our own products, keeping costs lower as we pass those savings on to customers while preserving our ability to grow margins. Next is an update on personalization. Our loyalty program and personalized promotions enabled us to deliver value beyond the shelf price. We collect data and insights, which enable us to enhance our personalization capabilities, delivering better product recommendations and more effective promotions. As a result, we are generating greater unit lift on promotions compared to the industry. Boost, our paid membership program supports our personalization capabilities. This quarter, we held a Boost Bonus Days event, which provided Boost customers even more savings during the two-week special event. This event went well above and beyond the incredible value the membership already offers with daily savings, free delivery on orders of $35 or more and two times fuel points. Now turning to seamless. Digital sales grew 11%, driven by an increase in both households and traffic. One of the many ways we move customers up the loyalty ladder is to convert digitally engaged households into e-commerce households. This means we are moving customers from simply using our app or website to making purchases through one of these digital channels. This work resulted in our teams growing e-commerce households by 14% this quarter. Households who shop with us digitally and in our stores are important because they are our most loyal and increase retail media and monetization opportunities. Delivery solutions led our sales growth once again this quarter, with pickup also showing very strong demand. Demand across our Kroger delivery network, which provides customers a premium shopping experience, continues to grow. Customers tell us they love the convenience of on-time and refrigerated delivery right to their homes. Profitability remains a key focus as we drive volume growth through our Customer Fulfillment Centers. Our teams are working hard to improve the shape of weekly and daily demand as well as refining trade areas to improve customer delivery density. By executing our go-to-market strategy, we are building loyalty and creating more growth opportunities. First, with alternative profit businesses, which had a strong quarter, led by growth in Kroger Precision Marketing. Their results were in line with internal expectations and keep us on track to deliver more than 20% media growth this year. Next is health and wellness, we continue to be optimistic about this area of our business. We know that grocery customers, who are also pharmacy customers, are more loyal to Kroger and spend more with us. While the pharmacy industry is going through a period of transformation and disruption, we have a unique opportunity to help our customers live healthier lives and grow share. Over the long term, we remain confident and our teams are working hard to navigate industry challenges and position the company for future growth. During the quarter, sales outpaced internal expectations. Profitability was similar to last year but behind internal expectations due to product mix pressures, specifically as a result of strong GLP-1 sales. We expect GLP-1s to have a similar impact on our results for the remainder of the year. Our vaccine efforts are ramping up now and should help offset some of the GLP-1 impact in the second half of the year. Turning to associates, our full fresh and friendly commitment is our roadmap to achieving a best-in-class customer experience, and we appreciate our associates for delivering again this quarter. We are facilitating this improved customer experience through our commitment to be an employer of choice. We are achieving this by investing in associate wages and by continuing to create an outstanding supportive work environment. It is great to see these efforts recognized with a perfect score on the 2024 Disability Inclusion Equality Index, making Kroger a Best Place to Work for Disability Inclusion for the fifth consecutive year. With that, I'll now turn it over to Todd to take you through our second quarter financial results.

Thanks, Rodney, and good morning, everyone. Kroger's second quarter results reflect the resilience of our model as investments made to diversify our business are enabling us to navigate an environment of economic uncertainty. Our results through the first half of the year are in line with our expectations, and with our improving sales momentum, we are able to reaffirm our full year guidance. I'll now take you through our second quarter financial results. We achieved identical sales without fuel growth of 1.2%. As Rodney mentioned earlier, identical sales were supported by several positive customer metric trends, including increases in total and loyal households and increased customer visits. We are encouraged by favorable unit trends as we continue to make progress toward achieving positive unit growth. As we saw in the first quarter, vendor support for promotions has been strong, and we will continue to deliver on our long-term commitment of providing our customers with exceptional value. Digital sales had a strong quarter, led by 17% growth in delivery solutions. Pickup is an important part of our seamless ecosystem and demand continues to be strong, with pickup sales growing 10%. This reflects our digital team's relentless focus on delivering a great customer experience, resulting in increased fill rates, a reduction in wait times and a 33% improvement in perfect orders, which are orders with both a 100% fill rate and that are completed within an appropriate wait time. With the help of AI-enabled advancements and dynamic batching and routing, we are able to offer two-hour lead times and pickup in all stores. These improvements in customer experience are being accompanied by productivity enhancements, resulting in an improvement in our cost to serve. Turning to margins, I would like to spend a little more time today talking about our second quarter trends in gross margin and OG&A rates. As you know, our long-term model is designed to deliver consistent year-over-year gross margin rate and OG&A rates in a way that we deliver slightly expanding operating margins over time. Though there can be puts and takes in these measures from quarter to quarter, over the long term, our business model gives us the flexibility to balance investments in lower prices and higher associate wages with growth in margins through Our Brands and alternative profit businesses as well as cost-saving initiatives and productivity, all to ensure that we are consistently returning value to shareholders. This expectation is true for fiscal 2024 as well. For the full year, we now expect FIFO gross margin rate, excluding fuel, to be slightly positive, balanced by the OG&A rate without fuel, which will be slightly negative. This quarter, FIFO gross margin rate, excluding fuel, was 42 basis points favorable to last year and was slightly ahead of our expectations for the quarter. Conversely, the OG&A rate, excluding fuel and adjustment items, was 65 basis points unfavorable to last year as well as unfavorable to our expectations, primarily due to several nonrecurring charges during the quarter. Looking in more detail at our quarterly results, gross margin was 22.6% of sales. The increase in FIFO gross margin rate, excluding fuel, was primarily attributable to favorable product mix in our grocery business, including Our Brands, lower shrink and sourcing benefits, partially offset by lower pharmacy margins. The result reflected Kroger's ability to improve margin while being competitive on price and helping customers manage their budgets. The improvement in shrink reflects the significant ongoing work from our operations team as they address this challenging issue. While we are pleased with the result this quarter, shrink related to theft remains high on a historical basis, and we still have work to do to further mitigate the financial impact. The increase in OG&A rate, excluding fuel and adjustment items, was driven by investments in associate wages, increased incentive plan costs and nonrecurring costs, including hurricane expenses and an increase in costs due to the severity of general liability claims, partially offset by continued execution of cost savings initiatives. During the second quarter, we recorded a LIFO charge of $21 million, compared to a charge of $4 million for the same quarter last year. Adjusted FIFO operating profit was $984 million. Our adjusted EPS was $0.93 per diluted share, a decline of 3% compared to last year. Fuel is an important part of our total value proposition. It builds loyalty through our Kroger Plus program by offering customers another way to save and led to gallon sales outpacing the industry this quarter. Fuel profitability was stronger in the second quarter compared to last year on a cents per gallon basis. In the second half, we will be cycling stronger fuel results, but expect margins to be relatively flat compared to last year. I wanted to provide a brief update on inflation, a topic I am asked about frequently. Inflation increased slightly in the second quarter from the first quarter, but is trending around 1%, which is consistent with our expectations since the start of the year. I'd now like to provide a brief update on associates and labor relations. During the second quarter, we ratified new labor agreements for our Food 4 Less warehouse stores in Southern California, Columbus Valley stores, Mid-Atlantic Division stores, Anderson Bakery, Michigan, West Michigan and New Market clerks, Central Peoria clerks and Shelbyville warehouse, covering more than 13,000 associates. Kroger is working to reach an agreement with the UFCW for meat and grocery associates at 29 Fred Meyer stores in Portland. We respect our associates' right to collectively bargain. Associates at these stores chose to strike for six days before returning to work last week. Negotiations continue this week, and we remain open to constructive dialogue with the UFCW. We are also communicating to local unions. They are coming to the table with proposals that do not balance investing in associates, with keeping groceries affordable for our customers and supporting a growing and profitable business model are untenable. It underlines our goal of growing the company in a way that helps to ensure job security and create more jobs and advancement opportunities for more associates. Turning to cash flow, Kroger continues to generate strong adjusted free cash flow through consistent operating results. Consistent generation of free cash flow is an important part of our model and is enabling us to deleverage in anticipation of our merger with Albertsons. At the end of the second quarter, Kroger's net total debt-to-adjusted EBITDA ratio was 1.24, compared to our target range of 2.3 to 2.5. Our strengthened balance sheet provides us flexibility to pursue growth and enhance shareholder value. We continue to take a disciplined approach to deploying capital, prioritizing the highest growth opportunities that strengthen our business and deliver solid returns for shareholders. We're committed to maintaining our investment-grade debt rating, increasing our dividend over time, subject to Board approval and returning excess capital to shareholders when we are able to do so. The strength of our free cash flow gives us the ability to invest in the growth of our business. We are allocating more capital to our major and minor store projects this year. Our teams have done an excellent job completing projects ahead of schedule. And year-to-date, we have completed almost double the amount of store projects as we had completed last year at this time, which will position us to grow in the second half of 2024 and 2025. It also creates capacity later this year to work towards opening 2025 projects earlier in the year as well. To reflect this, we are raising our guidance for full year capital expenditures from a range of $3.4 billion to $3.6 billion to a range of $3.6 billion to $3.8 billion. Based on the strength of our free cash flow, the change to our CapEx guidance does not affect our adjusted free cash flow guidance. In the second quarter, we raised our quarterly dividend by 10%, reflecting confidence in our ability to generate strong cash flow. Our quarterly dividend has grown at a 13.5% compounded annual growth rate since being reinstated in 2006, and this marked the 18th consecutive year of dividend increases. I'd now like to provide some additional color on our outlook for the rest of the year. We are encouraged by our performance through the first half of the year, which led to results that were in line with expectations. Our solid sales results through the first two quarters of the year give us confidence to raise the low end of our full year identical sales without fuel guidance. We now expect identical sales without fuel to be in the range of 0.75% to 1.75%. We are cautiously optimistic about our sales outlook for the second half of the year and expect customers to continue prioritizing food and essentials. We have developed merchandising plans that are designed to enhance customer engagement, drive spending and improve unit volumes. The strength of our model enables us to navigate an environment where customer spending is constrained by current economic pressures, and we expect the various components of our model, including grocery, health and wellness, fuel and alternative profit businesses to provide us with flexibility in how we create shareholder value. As a result, we are reaffirming the rest of our full year guidance. I'll now turn the call back to Rodney.

Thanks, Todd. Before I open it up for Q&A, I'd like to speak briefly about our pending merger with Albertsons. First, I would like to express my appreciation for our associates and their incredible commitment. It has been a long journey, and our associates have done an excellent job serving customers and running the day-to-day operations of our business, while also preparing for the merger. Integration work continues to progress, and our teams are laser-focused on ensuring a seamless transition for our customers and associates from day one. It is exciting to see the complementary strengths of both Kroger and Albertsons organizations, and we look forward to combining these strengths to provide customers an even better experience. As part of our merger preparation, Kroger recently launched an exchange offering for Albertsons notes, contingent upon the closing of the merger as well as a successful new offering for $10.5 billion of senior unsecured notes with the net proceeds expected to fund a portion of the cash consideration for the proposed merger. A portion of the proceeds of this offering is subject to a special mandatory redemption if the merger does not close. As the preliminary injunction trial with the FTC nears its conclusion, we are confident in the facts and the strengths of our position. The retail industry continues to be more competitive, and we know how our customers shop. Every day, they are making decisions on where to eat and where to buy their groceries. They shop at a wide range of competitors from Costco to Amazon to Dollar Stores, and they eat at restaurants. They shop digitally and brick-and-mortar. As I have said before, we remain committed to closing the merger because it will provide meaningful and measurable benefits for customers, associates and communities across the country, and we look forward to bringing these commitments to life. Regardless of the outcome of the trials, Kroger is operating from a position of strength and we are optimistic about our future. Our business is more diverse than ever, and our value creation model provides us with multiple ways to drive sustainable growth. We are delivering strong free cash flow that allows us to invest in our business and drive attractive returns for our shareholders. With that, Todd and I look forward to taking your questions. Because we are in litigation, we will not be taking questions on the merger this morning.

Thank you. Our first question for today comes from Ed Kelly of Wells Fargo. Your line is now open. Please go ahead.

Hi, good morning, everyone.

Good morning.

There's been increased concern around the competitive backdrop, rising promotions across the industry. Can you just talk about what you are seeing from a promotional and competitive standpoint? And then what are your plans as you think about the back half of the year? I mean you did raise the gross margin guidance a bit today. So it certainly seems like you believe you can manage it. But just thoughts around what's going on out there and your promotional plans.

Promotions are returning to normal levels. During COVID, we had fewer promotions due to major pressures on supply chains. We believe the promotions we are currently running are more effective, and our CPG partners are increasing support for these initiatives as they aim to increase tonnage. Overall, as Todd mentioned, we are optimistic about the remainder of the year, as we are managing cost reductions and mix changes that are benefiting our gross margins, alongside our ongoing investment in pricing, which has been a focus for nearly two decades.

Thank you. Our next question comes from Kelly Bania from BMO. Your line is now open. Please go ahead.

Hi, good morning. Thanks for taking our questions. Just wanted to dive in a little bit more on gross margin. It was really quite strong, and you called out some of the factors there. But can you help us just understand how digital is impacting gross margin? Is that included in your kind of mix category? And just a general update on digital profitability as you look forward really into the back half and the next couple of years here?

Yes. Be glad to, Kelly. Yes, you're right. As we went into the year, we talked about the expectations for our margins to be relatively flat. And included in that expectation was a little bit of an increase in the second quarter year-over-year. But even on top of that, some of the strength that we saw in Our Brands, like we called out, we had a tremendous quarter in Our Brands, actually, the sales growth there outpaced national brands quite meaningfully that helped drive it above our expectations. And also, we had a great shrink quarter. It's been a while since we've looked year-over-year on shrink and seen positive results. So that's really exciting to see as we called out. Still, a lot of work to do there on a go-forward basis. So it was a little bit better than our expectations, which were to be up some, and therefore, for the balance of the year, we do expect for the full year margins to now be slightly favorable on a year-over-year basis. So from a digital profitability standpoint, Rodney, if you want to add anything in that space?

Yes, I'll just make a couple of comments. We continue to make progress. If you look at over the next two or three years, we see the opportunity to make significant progress, and we would hold ourselves accountable for doing that. The thing that's pretty special about the overall ecosystem that we're building, is when you look at a customer that engages with us seamlessly, they actually still physically go into stores. Sometimes they do delivery, sometimes they do pickup. They also become more loyal in other aspects, becoming Boost members, engaging in pharmacy. So as you look out over the next two or three years, we are very excited about the potential of that and the continued progress. Obviously, the media business helps gross margin and the margins in that is significantly different than anything that we've ever sold in the supermarket store. Thanks, Kelly.

Thank you. Our next question comes from John Heinbockel of Guggenheim Partners. Your line is now open. Please go ahead.

Good morning. This is Anders Myhre on for John. Between the proactive cost reductions, the media growth and the moderating digital losses, should we expect a greater amount of P&L benefits than there have been in recent years? And if so, how much of this incremental benefit flows through to the bottom line versus reinvestment into other areas of the business? Thank you.

Yeah. Great question. The things that you call out are great examples of some of the margin enhancement programs that we've talked about in the past as well as some of the productivity improvements and cost improvements that we've realized over time. That's an important part of our overall business model, being able to use that value that we create through the things that you called out to invest it back in the business. Rodney alluded to it. We have a long history of taking that value and reinvesting it back in the business in a way that over time, our operating profit rate grows slightly over time. So as we grow the top line, as we're able to balance the investments with the benefits that we get from those that drives the bottom line over time.

Yes, I think it's always a good reminder that our long-term TSR model is 8% to 11% a year. That long-term TSR model assumes that we continue to move and grow alternative profit businesses, continue to invest in wages, continue to invest in lower prices for our customers. As you know, fortunately, we generate a tremendous amount of free cash flow. We would expect over time for more of that growth to come from the business as opposed to buying back stock. And then once the merger happens, obviously, there's incremental accretion that will happen because of the merger for a period of time that once the merger happens, we'll give more insights into. Thank you.

Thank you. Our next question comes from Leah Jordan of Goldman Sachs. Your line is now open. Please go ahead.

Good morning. Thank you for taking my question. Thinking if you could comment on your market share trends in the quarter, and especially interested in any color on what you're seeing in Fresh specifically as I know that's been a big area of investment for you?

Yes. If you look at our Fresh trends overall, they would be stronger than the center store. Overall, I would say that we feel okay about where we are. But if you look, going forward, we continue to see improvement, and we would expect to see improvement throughout the balance of the year. So it's one of those areas where we're not satisfied. We are gaining strong household growth and strong loyal household growth as well, which also, in the past, always leads to future progress as well. So I would say that we feel okay where we are. We're more excited about what we see where the trends are and where we see for the balance of the year and next year because we're also incrementally adding storage as well, which helps on market share as well. Thanks, Leah.

Thank you. Our next question comes from Simeon Gutman of Morgan Stanley. Your line is now open. Please go ahead.

Good morning, everyone. I have a two-part question. First, regarding the second quarter and the second half, how is the difference in your projected comparable sales changing in terms of units and inflation? I understand the inflation aspect, but I'm curious about how the guidance incorporates this. It seems slightly better than consensus. The second part is, if the current environment remains as is, and I know you're focused on improving market share and growing comparable sales, will you manage business spending in the same way next year? Do you believe you can maintain core EBIT dollars or margins around the same level in this situation? Thank you.

Yes, that's a great question. Let me begin by explaining the differences in our compensation. We have revised our sales guidance for the year, increasing the lower end of the range from 25 basis points to 75 basis points, while maintaining the upper limit at 1.75 basis points. This adjustment was made to set a more realistic expectation. Coming into the year, we experienced significant disinflation last year, which impacted us early on, and we wanted to ensure we were managing through that uncertainty. We believed that the first quarter would be the lowest point of the year, and anticipated a steady growth in sales as the year progressed, amidst an inflation rate around 1%. This expectation has largely held true in the first half of the year. Our outlook for the latter half is quite similar to our earlier thoughts on the matter. Therefore, our expectations regarding sales and the inflationary environment have not shifted significantly, and we foresee that growth continuing. Regarding units, we've mentioned before that we are encouraged by ongoing trends. Although we are still slightly negative in unit performance, we are optimistic about the advancements we're making, which we believe will contribute positively to the sales trend in the second half of the year.

We are noticing improvements in unit performance and anticipate continued progress. While you didn't specifically ask, I want to mention that our business has been quite strong at the beginning of the month, especially during the holidays. However, at the end of the month, we tend to see weaker performance due to budget constraints for consumers. So far in the third quarter, our performance is slightly better than in the second quarter. We believe that the initiatives we have in place are fostering better connections. Regarding your inquiry about 2025, it’s still early for us to provide guidance for that year. The comments I made earlier about our long-term business model will still be relevant for 2025. We will also need to assess our situation post-merger and the integration progress, among other factors. Thank you for your question, Simeon.

Thank you. Our next question comes from Michael Montani of Evercore ISI. Your line is now open. Please go ahead.

Great. Thank you for taking the question. It seems that the guide is implying a stable or even slightly up EBIT margin in the back half of the year. And I just wanted to understand a little bit if you could parse out the drivers behind that, in particular, with relation to shrink, if there's favorable compares coming up that give you confidence, and/or if there's certain one-time costs that you could quantify for us on OG&A that wouldn't come up again?

Sure, Michael. You made a great point. Looking at the second half of the year, we anticipate that our gross margin will show slight year-over-year improvement based on the trends from the second quarter. On the other hand, we expect our OG&A to have a slight decline year-over-year, but we believe these will balance each other out. We discussed shrink earlier, and while we are pleased with the progress we've made, we remain cautious. There is still significant work ahead, and our shrink costs are currently higher than our historical levels. Our team is actively addressing this issue, and while we are optimistic about the potential for improvement in the coming months, we know we need to see more data points before confirming any trends.

Before you move on, one additional point about shrink that you might find helpful is that on the Fresh side of our business, we've made significant progress in reducing shrink over several quarters. While the center store is affected by organized retail crime and other issues, we've seen tremendous improvements through the use of technology and AI processes. Our teams have done a great job enhancing the Fresh side concerning shrink, which is less impacted by theft and more focused on processes. Now, I'll let Todd discuss some other topics.

Yes, I appreciate that insight. On the cost side, in the second quarter, there were some non-recurring items that contributed to the performance being worse than we anticipated. One notable factor was costs associated with Hurricane Beryl, which was an event-driven situation. Additionally, we've mentioned that incentive costs were somewhat higher than expected. However, we believe that in the second half of the year, these costs will have a lesser impact on our year-over-year operating general and administrative expenses compared to what we've experienced previously. These are a couple of examples of items we do not expect to persist in the second half.

Thanks Michael.

Thank you. Our next question comes from Kenneth Goldman of JPMorgan. Your line is now open. Please go ahead.

Hi, thank you and good morning. I wanted to dig in a little bit deeper into inflation, just in light of the CPI and PPI numbers that came out this morning. Usually the two rates have changed. They're not perfectly correlated, but they're somewhat correlated. And right now, PPI food is increasing at a faster clip than CPI. So I just wanted to get a sense for how you think about balancing the need to pass on inflation? I know that PPI is not a perfect proxy for that, but it's somewhat of a proxy. Balance that with the desire to continue to appeal to budget-conscious consumers, and then how do we reconcile all of that with the fact that your GM growth was so good when PPI is growing so much faster than CPI?

Yes. As you've mentioned, we are always working to balance various factors. Part of the Producer Price Index is influenced by commodities. If we believe there is a permanent increase in costs, we aim to pass that on as quickly as possible. If it's just a temporary spike, we will adjust according to current market conditions. It is particularly challenging to predict inflation trends right now, but we have observed relative stability. Looking at the price increases that consumer packaged goods companies have alerted us to, it aligns with our expectation that overall inflation will be around 1%, and we don't anticipate significant deviations from that. Generally, we find that the two tend to align closely over time. Additionally, we are noticing that inflation for food away from home is substantially higher than for food at home, and we see customers shifting back to cooking at home, as it costs much less than dining out. Todd, do you have anything further to add regarding inflation?

I don't. Thanks, Rodney.

Thank you. Our next question comes from Rupesh Parikh from Oppenheimer. Your line is now open. Please go ahead.

Good morning.

Good morning.

Good morning. Thanks for taking my questions. So first on CapEx, so higher range for this year. So I just want to get a sense of if we should think about this level of spend as more of a normal going forward. And then secondly, not sure if you're giving any clarity in terms of how to think about the EPS growth cadence between Q3 and Q4 as I know you're lapping the 53rd week later this year.

Yes, Rupesh, you provided great insight. Regarding capital expenditure, we have indeed discussed it. We're making concerted efforts to expedite the opening of our storage projects to better serve our customers. This means shifting our spending from late 2024 to early 2024. You might have noticed that our capital spending year-to-date has been slightly higher, which will allow us to pull construction planned for early 2025 into late 2024, enabling us to launch next year's projects sooner. Given the strong cash flow within the business, if we can maintain this execution, we should see an increase in our capital spending plans over time.

We are seeing good performance against our budget with the money we are investing. Additionally, it is much easier to open a remodel or expand a new store earlier in the year than later.

Regarding your EPS comment, Rupesh, yes, based on our performance in the first quarter and the actual results for the first half of the year, we are aligned with our expectations. The first half turned out as we anticipated, although the quarters played out somewhat differently. We are also reaffirming our projections for the second half of the year, which we believe will remain consistent with our guidance. We expect the third quarter to be slightly better year-over-year, while the fourth quarter may be slightly lower when comparing a 52-week basis. This is likely how the trend will develop for the remainder of the year.

Thank you. Our next question comes from Michael Lasser of UBS. Your line is now open. Please go ahead.

Good morning. It's Mark Carden on for Michael Lasser this morning. Thanks so much for taking the question. So you talked about some of the trade down that's accelerated in 2Q to additional income cohorts, and also highlight some of the pressures that budget customers are facing. What kinds of behavior changes are you seeing in your middle income and above cohorts? And when did you see this become more pronounced?

Yes, we are observing this trend throughout the year, with a noticeable increase towards the end of the month compared to the beginning. People continue to celebrate holidays more energetically. It's important to note that many of these changes are advantageous for us. For instance, as customers shift from dining out to cooking at home, it benefits our business. Additionally, the changing demographics of our customers work in our favor because they tend to purchase more of our private label products and smaller packages. Overall, this trend has been consistent, but it has become more evident in recent months as we approach the end of the month. As a result, we have adjusted our promotional strategies, customer engagement, and offer timing accordingly. Customers, especially those on a budget, are under significant pressure. This is why about 1.5 to 2 years ago, we anticipated this shift and introduced our Smart Way product, focusing on providing affordable entry-level items. We're committed to helping customers enjoy quality meals without sacrificing family time. We are adapting to the changes our customers face, and they have responded positively to our efforts. We empathize with their situations and are dedicated to supporting them as best as we can.

Thank you. Our next question comes from Robert Ohmes of Bank of America. Your line is now open. Please go ahead.

Thank you for taking my question. Todd, can you provide more details on the operating, general, and administrative expenses for the second half of the year? Specifically, where does Kroger stand regarding wage pressures in the latter half compared to the first half? Additionally, you've mentioned general liability claims, which several retailers have also highlighted this quarter. Can you share how significant that pressure was in the second quarter and whether it will continue to be a concern in the second half? Thank you.

Yes, that's a good point. Regarding the second half of our operating general and administrative expenses, based on what we experienced in the second quarter, our year-end guidance indicates that we will be slightly unfavorable compared to last year. However, I believe our performance trends will align with our expectations for the second half of the year. Concerning wage pressures, a significant portion of our wages is determined through collective bargaining agreements, of which we have about 300. At any given time, around 75% of our wages are secured under these agreements, and we generally have a third to a quarter renegotiated each year. Our guidance reflects these wage expectations since most of them are known to us at the start of the year. Regarding general liability claims, there are two main components. The incident rate is performing exceptionally well; our OSHA incident rates are significantly below the industry average, placing us in record low territory historically. We appreciate the efforts of our teams in managing incidents and claims effectively. During our recent analysis, we observed that the average cost of settling claims has increased considerably. Given the current environment, we are experiencing more pressure regarding these settlement costs. Consequently, we thought it prudent to adjust our reserves in light of this trend. We have previously implemented various strategies to mitigate these claims, and we will continue to deploy more effective measures to keep average costs low. We believe the actions we've taken will position us well, and we do not anticipate this issue recurring in the latter half of the year.

I would like to add to Robbie's comment on OG&A that we believe we have developed a strong capability to identify cost reductions over time. We expect to continue utilizing this skill as we move into the second half of this year and into next year. Additionally, our teams have been successful in finding ways to improve processes that allow us to operate stores with less labor and simplify operations. While we've made good progress, we still see significant opportunities for improvement in the future. Thank you for the question.

Thank you. Our next question comes from Chuck Cerankosky from Northcoast Research. Your line is now open. Please go ahead.

Good morning, everyone.

Good morning.

Rodney, when you look at the sales growth challenges, you mentioned the economic factors putting pressure on consumers, and it seems to be a wide range of consumers. But you also have nontraditional competitors putting pressure on the supermarket channel. Can you sort of compare what the strengths of those difficult headwinds are as you're trying to accelerate sales at Kroger?

The increase in non-traditional competitors has been a trend for the past 20 years. When you consider companies like Amazon, Costco, and Walmart, the key to succeeding against them is to continuously evolve your offerings to meet customer needs. We are pleased with the changes we've implemented, but we acknowledge that we must keep evolving. It's important to remember that if you ever feel like you've got it all figured out, it's a sign that you need to adapt further. We are confident in our competitive capabilities, but ongoing change is necessary. This is why we have invested significantly in maintaining a strong connection with our customers through seamless experiences, as well as in wages and promotions, while also seeking alternative profit growth. Over time, we aim to become a stronger player in the food away from home segment, which constitutes about half of food spending, and we believe we can capture a share of that market. Despite current economic pressures, we feel assured in our ability to navigate these challenges due to the size and complexity of our business. Our Brands had a robust quarter, and we see even greater opportunities in that area, particularly for customers facing economic strain. If the situation were more severe, my response might differ, but based on what we’re currently experiencing, we feel confident in handling these changes. Thank you, Chuck.

Thank you. Our next question comes from Joe Feldman from Telsey Advisory Group. Your line is now open. Please go ahead.

Hi, good morning, guys. Thanks for taking the question.

Good morning.

I wanted to ask about inventory levels, which have decreased slightly, nearly 3%, and that's a positive sign. I'm curious about your plans for inventory moving forward and what contributed to this decline. Was it due to a reduction in units, or have lower prices year-over-year allowed for reduced inventory levels? Could you provide some additional insights on this?

Yes, that's a great question, Joe. You touched on several important points. There are multiple factors at play here. We are experiencing reduced cost inflation, which is leading to a decline in the average price of items on our shelves. Additionally, we have been focused on managing our working capital effectively. Our strong cash flow generation is significantly tied to how well we manage our working capital. This involves maintaining a careful balance between ensuring we have adequate stock for our customers and not overstocking, which allows us to be responsible stewards of our working capital. What you see on the balance sheet reflects a combination of lower costs per item, year-over-year inflation trends, and appropriate working capital management to ensure we can meet our customers' needs.

Thank you. At this time, we will take no further questions for today, so I'll hand back to Rodney for any further remarks.

Thank you, Alex, and thank you all for your questions. Before we conclude our call, I want to take a moment to acknowledge our 2024 Kroger Scholars. Since the Kroger Scholars Program began in 2008, we've awarded over 3,300 scholarships, totaling nearly $5 million to the children of our associates. These recipients were chosen based on various criteria, including their volunteer work, civic service, extracurricular activities, academic performance, and work experience. It's always rewarding to contribute to their education, and congratulations to our 120 winners this year. I appreciate everyone joining us today. Even though it’s early, we won’t speak again until December. Wishing everyone a wonderful start to the holiday season, and thank you very much.

Thank you all for joining today's call. You may now disconnect your lines.