safeway 2002 Annual Report

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safeway 2002 Annual Report

  1. 1. Safeway Inc. Convenience 2 0 0 2 A N N UA L R E P ORT Quality Service Value
  2. 2. Safeway Inc. is one of the largest food and drug retailers in North America. As of December 28, 2002, the company operated 1,695 continuing stores in the Western, Southwestern, Rocky Mountain and Mid-Atlantic regions of the United States and in western Canada. In support of its stores, Safeway has an extensive network of distribution, manufacturing and food processing facilities. P E R C E N TA G E O F S T O R E S W I T H S P E C I A LT Y D E PA R T M E N T S 2002 1998 Bakery 85% 93% Deli 93 96 Floral 88 91 Pharmacy 58 70 M A N U FA C T U R I N G A N D P R O C E S S I N G FA C I L I T I E S Year-end 2002 U.S. Canada Milk Plants 7 3 Bread Baking Plants 6 2 Ice Cream Plants 2 2 Cheese and Meat Packaging Plants – 2 Soft Drink Bottling Plants 4 – Fruit and Vegetable Processing Plants 1 3 Biscuit Plant 1 – Pet Food Plant 1 – 22 12 CONTENTS L E T T E R TO S TO C K H O L D E R S 2 E D I TO R I A L M AT E R I A L 4 F I NA N C I A L C O N T E N T S 12 D I R E C TO R S A N D PR I N C I PA L O F F I C E R S 52 I N V E S TO R I N F O R M AT I O N 53
  3. 3. FI NANC IAL HIG HLIG HT S 52 Weeks 52 Weeks 52 Weeks (Dollars in millions, except per-share amounts) 2002 2001 2000 FOR THE YEAR Sales $31,797.0 $29,441.5 $32,399.2 Gross profit 9,849.6 8,789.5 10,096.4 Operating profit 2,535.7 2,264.5 1,673.3 Income from continuing operations before cumulative effect of accounting change 1,286.7 1,154.2 568.5 Net (loss) income 1,253.9 1,091.9 (828.1) Diluted earnings per share: Income from continuing operations before cumulative effect of accounting change 2.51 2.26 1.20 Net (loss) income 2.44 2.13 (1.75) Cash capital expenditures 1,672.3 1,435.7 1,370.5 AT Y E A R - E N D Common shares outstanding (in millions) (Note 1) 488.1 504.1 441.0 Retail square feet (in millions) 71.8 66.5 74.6 Number of stores 1,656 1,570 1,695 Note 1: Net of 132.0 million, 82.7 million and 64.3 million shares held in treasury at year-end 2002, 2001 and 2000, respectively. Sales Income from Continuing Diluted Earnings per Share: Operations before Cumulative Income from Continuing Effect of Accounting Change Operations before Cumulative Effect of Accounting Change $32.4 $1,286.7 $2.51 $31.8 $29.4 $1,154.2 $2.26 $26.3 $984.2 $1.91 $24.1 $807.7 $1.59 $1.20 $568.5 98 99 00 01 02 98 99 00 01 02 98 99 00 01 02 1 SAFEWAY INC. 2002 ANNUAL REPORT
  4. 4. TO O U R S TO C K H O L D E R S s We recently decided to sell Dominick’s and leave the After a decade of steady growth, Safeway had a disap- pointing year in 2002. While we recorded modest total Chicago market. The total loss from discontinued Dominick’s sales gains in continuing operations, certain operational store operations in 2002, including the impairment charge issues and the soft economy had a negative effect on our noted above, was $696.6 million ($1.47 per share). The loss same-store sales and profitability. Reported results were from discontinued Dominick’s store operations in 2001 was also adversely affected by significant non-cash charges. $32.8 million ($0.07 per share). Our results are discussed below. Total sales in 2002 rose 2% to $32.4 billion, pri- SALES We incurred a net loss of $828.1 million marily due to new store openings. Comparable-store sales N E T R E S U LT S ($1.75 per share) in 2002 compared to net income of declined 0.6%, while identical-store sales (which exclude $1,253.9 million ($2.44 per share) in replacement stores) were down 1.2%. 2001. These results reflect negative Sales were negatively affected in the impacts of $2,100.8 million ($4.43 per first half of the year by shrink-reduc- share) in 2002, of which $1,988.0 mil- tion efforts and by transitional issues We continue to lion was due to the impairment of associated with the centralization of modernize our store goodwill, and $32.8 million ($0.07 per marketing functions. Continued soft- share) in 2001 as a result of the follow- ness in the economy also had a base to enhance our ing factors: dampening effect on sales through- growth prospects. s In 2002 we adopted Statement of out the year. Financial Accounting Standards No. 142, which eliminated goodwill amorti- G R O S S P R O F I T Gross profit increased zation. The initial effect of adopting 18 basis points to 31.16% of sales, SFAS No. 142 was a non-cash charge even though we reinvested a portion of $700 million ($1.48 per share) in the first quarter of of our cost savings into pricing and promotion. 2002, which is recorded as a cumulative effect of a change in accounting principle. SFAS No. 142 also requires an annual Operating and O P E R AT I N G A N D A D M I N I S T R AT I V E E X P E N S E review for impairment, which we completed in the fourth administrative expense rose 114 basis points to 23.82% of quarter of 2002, resulting in two additional non-cash sales, due primarily to increases in employee benefit costs, charges: $704.2 million ($1.48 per share) for Randall’s, which real estate occupancy costs and pension expense as well is recorded as a component of operating income, and $583.8 as soft sales. million for Dominick’s, which is recorded as a component of discontinued operations. These charges reflect declining val- Interest expense was up slightly, to INTEREST EXPENSE uation multiples in the retail grocery industry and operating $368.6 million in 2002 from $366.1 million in 2001. The performance at these acquired companies. Results for 2001 increase was due to higher average borrowings primarily include a goodwill amortization charge of $101.0 million from debt incurred to finance the repurchase of Safeway ($0.20 per share) recorded in continuing operations. stock, partially offset by lower interest rates in 2002. 2 SAFEWAY INC. 2002 ANNUAL REPORT
  5. 5. During the year we repurchased 50.1 initial grant from the company and is sustained by fundrais- SHARE REPURCHASES million shares of Safeway common stock for $1.5 billion. ing events and an annual employee giving campaign. Under the current program authorized by the board of direc- tors, we have bought back $2.9 billion worth of our shares, Looking ahead, it is difficult to predict when the OUTLOOK leaving $0.6 billion available for additional repurchases as of long-awaited economic rebound will spark a resurgence in year-end 2002. consumer confidence and spending. We remain focused on what we can control – providing our customers with the We continue to modernize our store pleasant, convenient shopping experience they expect and S T O R E M O D E R N I Z AT I O N base to enhance our growth prospects. During 2002 we invest- deserve. As noted on the following pages, we believe Safeway ed approximately $1.4 billion in cash capital expenditures. We has distinct competitive advantages over other supermarket opened 71 new stores, expanded or operators and retailers in alternate remodeled 191 existing stores and closed channels. These advantages include 32 older ones, resulting in a 4% net addi- convenient, attractive store facilities tion to total retail square footage in con- with exciting new specialty depart- tinuing operations. Given the continuing ments; consistently superb quality, espe- soft economic conditions, we have scaled cially in the perishable departments; back our capital spending plans for friendly, helpful service delivered by 2003. In the coming year we expect to knowledgeable employees; and a broad invest between $1.1 billion and $1.3 bil- assortment of products and services at lion in cash capital expenditures and competitive prices. We continue to work open 50 to 55 new stores while complet- hard to differentiate our stores from ing between 100 and 125 remodels. those of our competitors. In closing, I want to thank our In 2002 we made cash and in- employees for their unwavering dedication and diligence dur- C O M M U N I T Y I N V O LV E M E N T kind donations to hundreds of non-profit organizations ing a difficult year. They have bolstered my strongly held con- throughout the communities we serve. Among these viction that we have what it takes – the right facilities, donations was approximately $60 million worth of mer- systems, programs, products and, most important of all, the chandise to Second Harvest food banks. We also con- right people – to weather these tough times and achieve our tributed more than $25 million to local schools through long-range objective of enhancing shareholder value. eScrip and other educational programs. In addition, we conducted major fundraising campaigns to support breast and prostate cancer research, treatment and education. During 2002 we launched The Safeway Foundation, Steven A. Burd through which we support charitable organizations that Chairman, President and Chief Executive Officer improve the quality of life in the communities where our March 21, 2003 employees work and live. The foundation was funded by an 3 SAFEWAY INC. 2002 ANNUAL REPORT
  6. 6. CONVENIENCE Shoppers consistently cite convenience as one of we try to provide quick, efficient checkout service – the leading reasons for choosing where they buy especially during peak business hours. With an groceries and related items. Our stores ever-expanding array of products and services – are typically located within a few miles of including ready-to-serve meals, prescription our customers’ homes, and are situat- drugs, gasoline, online home shopping, in-store ed on prime, easily accessible retail banking and one-hour photo processing – our sites with close-in parking. stores are continuously evolving to pro- Because most consumers today vide one-stop shopping convenience for lead busy, demanding lives, time-pressed customers. 4 SAFEWAY INC. 2002 ANNUAL REPORT
  7. 7. Consumers today are busier We have prime store than ever. We continue locations in some to expand our assortment of time-saving products of North America’s and services such as ready- to-serve meals, gasoline, fastest-growing online home shopping, in- regions. store banking and one-hour photo processing. With 1,289 in-store pharma- Busy consumers like cies at year-end 2002, we the convenience ranked among the 10 largest drug retailers in North of having their America. Our pharmacists take the time to make each prescriptions filled customer feel welcome and while they shop. well informed about pre- scribed medications. Our online shopping and home delivery services, Safeway.com and Vons.com, expanded into five new mar- kets during 2002. For a nominal fee, orders are filled by trained personal shoppers and delivered in tempera- ture-controlled trucks. Our in-store delis offer a wide selection of made-to- We operate more than order gourmet sandwiches for busy shoppers seeking alter- 200 fuel centers natives to restaurant meals. adjacent to our stores. In addition, we have a new line of restaurant-quality heat and serve soups. 5 SAFEWAY INC. 2002 ANNUAL REPORT
  8. 8. QUALITY One of the most to significantly effective ways we can enhance quality- differentiate our stores from control standards for our competitors’ is by consistently our fresh foods. We want our perish- delivering best-in-class quality in our per- ables to be noticeably better than the offerings of ishable foods departments. We are committed to other conventional supermarkets and clearly superior quality and strive to be known as the superior to those found at mass merchants, destination for tender meat and superb seafood; membership clubs and other non-traditional garden-fresh produce and flowers; tempting food retailers. Our ultimate goal is to achieve bakery, deli and dairy products; and wholesome and consistently maintain levels of freshness, natural foods. During the past several months appearance, taste and presentation equal to we have been working with our suppliers those at the finest specialty shops. 6 SAFEWAY INC. 2002 ANNUAL REPORT
  9. 9. We’re convinced At Safeway and its affiliated companies, top-quality pro- our fresh breads, duce is artfully presented in abundant displays. Unique cakes and pastries merchandising methods are the finest in impart a farm-fresh ambience and create a special shop- the industry. ping experience. Café Paris White Chocolate Look to Safeway Raspberry is one of a dozen for best-in-class flavors available in our Safeway SELECT Great produce, meat, Escapes line of super-premi- um ice cream. Each flavor deli products and brings to mind the tastes and baked goods. traditions of exotic getaways around the world. We have field inspectors in major growing areas to ensure that our produce is picked at its peak. Since fresh foods typically Quality also extends account for over 40% of all to our facilities and supermarket purchases, it’s imperative our perishables our employees. be of consistently superior quality. To achieve that We believe we have goal, we are enhancing our the best of both. product specifications and quality control standards. 7 SAFEWAY INC. 2002 ANNUAL REPORT
  10. 10. SERVICE During the past five years, special requests. Behind the Safeway has earned a reputation scenes in our support operations, for consistently delivering our buyers negotiate deals on superior customer service. the most popular national We believe we are the brands, while experienced ware- clear service leader in the house order selectors skillfully supermarket industry. In assemble product shipments to our stores, friendly the stores. The combined checkers, stockers and courtesy efforts of every member of clerks eagerly anticipate shoppers’ the Safeway team support a needs, while expert meat cutters, bakers single overriding objective – to exceed and deli clerks cheerfully accommodate our customers’ expectations. 8 SAFEWAY INC. 2002 ANNUAL REPORT
  11. 11. During the past several years, service has become an inte- Service is a clear gral part of our corporate point of difference culture and a key perform- ance measure. We work hard and a competitive to provide the highest level of customer service every advantage for us. day in every department in every store. Delivering superior service We believe is a team effort at Safeway, we have the best with store employees as well as their backstage co-workers in-stock condition striving to surprise and delight our customers with in the supermarket a pleasant, efficient shop- industry. ping experience they cannot find elsewhere. By continuously monitoring We want shoppers sales, transactions and traf- to count on fic patterns in our stores, we adapt work schedules Safeway for fast, to our customers’ shopping needs. Proper scheduling friendly and and well-trained employees reliable service. are the keys to prompt, efficient checkout service. Training is a top priority at Safeway. Aided by state-of- the-art instructional and communications systems, along with ongoing perform- ance appraisals, we believe we have some of the most knowledgeable, proficient employees in our industry. 9 SAFEWAY INC. 2002 ANNUAL REPORT
  12. 12. VALUE Superior quality, we have adjusted selection and serv- everyday pricing on some key ice – all at competitive prices high-volume items and have in attractive, conveniently located facilities. enhanced our club card specials. These are the key components of the value Shoppers can also find exceptional values with equation for Safeway shoppers. With the an extensive line of award-winning Safeway pricing component receiving greater emphasis brands. Our private-label products are designed in the current economic environment, we have to be of equal or superior quality to comparable taken several steps to help recession-weary nationally-advertised brands but are typically consumers stretch their budgets. For example, priced much lower. 10 SAFEWAY INC. 2002 ANNUAL REPORT
  13. 13. A “culture of thrift” perme- ates Safeway. Employees at We closely monitor every level of the company our pricing, and our continuously search for ways to simplify work methods, price image, to ensure reduce expenses and increase productivity. Most of these we are competitive. improvements take place behind the scenes. Reinvesting cost savings into the business results in Shoppers can find improved store standards, exceptional values enhanced customer service and competitive pricing – all with award-winning of which drive sales. This “productivity loop” enables Safeway brands. us to provide excellent value for our customers. By centralizing our buying functions and establishing a regional merchandising network, we believe we can significantly reduce our cost of goods sold while continu- ing to meet each of our operating areas’ unique marketing needs. As consumers continue to Our prices on many trim household expendi- club card specials are tures, we have selectively reduced prices throughout lower than prices at our stores on many of the items shoppers buy most discount outlets often. Value-conscious cus- and club stores. tomers also benefit from our private-label program. 11 SAFEWAY INC. 2002 ANNUAL REPORT
  14. 14. F I NAN CIAL C O NT ENT S C OM PA N Y I N R E V I E W 13 F I V E - Y E A R S U M M A RY FI NANCI AL I NFO R MAT I O N 16 F I NA N C I A L R E V I E W 18 C ON S OL I DATE D STAT EMENT S O F O PER AT I O NS 25 C ON SOL I DATE D BA L ANCE S HEET S 26 C ON S OL I DATE D STAT EMENT S O F CAS H FLOW S 28 C ON S OL I DATE D STAT EMENT S O F S TO CKHO L D ER S ’ EQUI T Y 30 N OTE S TO C ON SOL I DAT ED FI NANCI AL S TAT EMENT S 31 M A NAG E M E N T’ S R E PO RT 50 I N D E P E N D E N T AU D I TO R S ’ R EPO RT 51 D I R E C TOR S A N D P R I NCI PAL O FFI CER S 52 I N V E S TOR I N F OR M ATI O N 53 12 SAFEWAY INC. 2002 ANNUAL REPORT
  15. 15. C O MPANY IN REVIEW S A F E WAY I N C . A N D S U B S I D I A R I E S Safeway Inc. (“Safeway” or the “Company”) is one of the Safeway’s average store size is approximately STORES largest food and drug retailers in North America, with 1,695 44,000 square feet. Safeway’s primary new store prototype is continuing stores and 113 Dominick’s stores which are held for 55,000 square feet and is designed both to accommodate sale at year-end 2002. See Planned Disposition of Dominick’s. changing consumer needs and to achieve certain operating The Company’s continuing U.S. retail operations are efficiencies. The Company determines the size of a new located principally in California, Oregon, Washington, store based on a number of considerations, including the Alaska, Colorado, Arizona, Texas and the Mid-Atlantic needs of the community the store serves, the location and region. The Company’s Canadian retail operations are site plan, and the estimated return on capital invested. located principally in British Columbia, Alberta and Most stores offer a wide selection of food and general Manitoba/Saskatchewan. In support of its retail operations, merchandise and feature a variety of specialty departments the Company has an extensive network of distribution, such as bakery, delicatessen, floral, pharmacy, Starbucks cof- manufacturing and food processing facilities. fee shops and adjacent fuel centers. Safeway also has a 49% interest in Casa Ley, S.A. de C.V. Safeway continues to operate a number of smaller (“Casa Ley”) which operates 102 food and general mer- stores that also offer an extensive selection of food and chandise stores in Western Mexico. general merchandise, and generally include one or more In addition, the Company has a strategic alliance with specialty departments. These stores remain an important and a 52.5% ownership interest in GroceryWorks Holdings, part of the Company’s store network in smaller communi- Inc., an Internet grocer. ties and certain other locations where larger stores may not be feasible because of space limitations and/or communi- In November PLANNED DISPOSITION OF DOMINICK’S ty needs or restrictions. 2002, Safeway announced its decision to sell Dominick’s, The following table summarizes Safeway’s stores by size which consists of 113 stores, and to exit the Chicago market. at year-end 2002: In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” Dominick’s Number Percent of Stores of Total operations are presented as a discontinued operation. Less than 30,000 square feet 290 17% Accordingly, Dominick’s results are reflected separately in the Company’s 30,000 to 50,000 763 45 consolidated financial statements and Dominick’s information is exclud- More than 50,000 642 38 ed from the accompanying notes to the consolidated financial statements Total stores 1,695 100% and the rest of the financial information included herein, unless other- At year-end 2002, Safeway owned wise noted. Sales at Dominick’s were $2.4 billion in 2002, $2.5 STORE OWNERSHIP approximately one-third of its stores and leased its remaining billion in 2001 and $2.5 billion in 2000. stores. In recent years, the Company has preferred ownership In accordance with SFAS No. 144, Dominick’s net assets and liabilities have been written down to estimated fair because it provides control and flexibility with respect to market value. The fair value of Dominick’s was determined financing terms, remodeling, expansions and closures. by an independent third-party appraiser which primarily Safeway’s operating strategy is to provide MERCHANDISING used the discounted cash flow method and the guideline value to its customers by maintaining high store standards company method. The final valuation of Dominick’s is and a wide selection of high quality products at competitive dependent upon the results of negotiations with the ulti- prices. To provide one-stop shopping for today’s busy shop- mate buyer. Adjustment to the loss on disposition, together pers, the Company emphasizes high quality produce and with any related tax effects, will be made when additional meat, and offers many specialty items through its various information is known. specialty departments. 13 SAFEWAY INC. 2002 ANNUAL REPORT
  16. 16. Safeway has developed a line of some 1,265 premium In addition, the Company operates laboratory facilities corporate brand products since 1993 under the “Safeway for quality assurance and research and development in cer- SELECT” banner. The award-winning Safeway SELECT tain of its plants and at its corporate offices. line is designed to offer premium quality products that the Each of Safeway’s 11 retail operating areas is DISTRIBUTION Company believes are equal or superior in quality to com- served by a regional distribution center consisting of one or parable best-selling nationally advertised brands, or are more facilities. Safeway has 15 distribution/warehousing cen- unique to the category and not available from national ters (12 in the United States and three in Canada), which col- brand manufacturers. lectively provide the majority of all products to Safeway stores. The Safeway SELECT line of products includes carbon- The Company’s distribution centers in northern California, ated soft drinks; unique salsas; bagged salads; whole bean Maryland and British Columbia are operated by third parties. coffees; the Indulgence line of cookies and other sweets; the Verdi line of frozen pizzas, fresh and frozen pastas, pasta CAPITAL EXPENDITURE PROGRAM sauces and olive oils; the Primo Taglio line of meats, cheeses A component of the Company’s long-term strategy is its and sandwiches; Artisan fresh-baked breads; NutraBalance capital expenditure program. The Company’s capital pet food; Ultra laundry detergents and dish soaps; and Softly expenditure program funds, among other things, new stores, paper products. The Safeway SELECT line also includes an remodels, manufacturing plants, distribution facilities and extensive array of ice creams, frozen yogurts and sorbets; information technology advances. Over the last several Healthy Advantage items such as low-fat ice creams and years, Safeway management has continued to strengthen its low-fat cereal bars; and Gourmet Club frozen entrees and program to select and approve new capital investments. hors d’oeuvres. The table below presents the Company’s cash capital The principal function M A N U FA C T U R I N G A N D W H O L E S A L E expenditures and details changes in the Company’s store of manufacturing operations is to purchase, manufacture base over the last three years: and process private label merchandise sold in stores operat- ed by the Company. As measured by sales dollars, approxi- (Dollars in millions) 2002 2001 2000 mately 28% of Safeway’s private label merchandise is Cash capital manufactured in Company-owned plants, and the remain- expenditures (Note 1) $1,672.3 $1,435.7 $1,370.5 der is purchased from third parties. Cash capital expenditures as a percent of sales 5.3% 4.9% 4.2% Safeway’s Canadian subsidiary has a wholesale opera- Stores opened (Note 1) 91 70 71 tion that distributes both national brands and private Stores closed or sold 44 45 32 label products to independent grocery stores and institu- Remodels (Note 2) 231 236 191 Total retail square footage tional customers. at year-end (in millions) 71.8 66.5 74.6 Safeway operated the following manufacturing and pro- Note 1. Excludes acquisitions. Includes 11 former ABCO stores purchased in 2001. cessing facilities at year-end 2002: Note 2. Defined as store remodel projects (other than maintenance) generally requiring expendi- tures in excess of $200,000. U.S. Canada Milk plants 7 3 Bread baking plants 6 2 Ice cream plants 2 2 Cheese and meat packaging plants – 2 Soft drink bottling plants 4 – Fruit and vegetable processing plants 1 3 Biscuit plant 1 – Pet food plant 1 – Total 22 12 14 SAFEWAY INC. 2002 ANNUAL REPORT
  17. 17. Safeway invested $1.4 billion in cash capital expenditures operating performance over several years, and other in 2002 and opened 71 stores and remodeled 191 stores. In employees are covered by supply division results. 2003, Safeway expects to spend between $1.1 billion and MARKET RISK FROM $1.3 billion in cash capital expenditures and open 50 to FINANCIAL INSTRUMENTS 55 new stores and complete between 100 and 125 remodels. Safeway manages interest rate risk through the strategic use of fixed and variable interest rate debt and, from time to time, PERFORMANCE-BASED COMPENSATION interest rate swaps. As of year-end 2002, the Company did The Company has performance-based compensation not have any outstanding interest rate swap agreements. plans that cover more than 21,000 management and pro- The Company does not utilize financial instruments for fessional employees. Performance-based compensation trading or other speculative purposes, nor does it utilize lever- plans set overall bonus levels based upon operating aged financial instruments. The Company does not consider results and working capital management. Individual the potential losses in future earnings, fair values and cash bonuses are based on job performance. Certain employ- flows from reasonably possible near-term changes in interest ees are covered by capital investment bonus plans that rates and exchange rates to be material. measure the performance of capital projects based on The table below presents principal amounts and related weighted average rates by year of maturity for the Company’s debt obligations at year-end 2002 (dollars in millions): December 28, 2002 2003 2004 2005 2006 2007 Thereafter Total Fair value Commercial paper: Principal $ – $ – $ – $1,744.1 $ – $ – $1,744.1 $1,744.1 Weighted average interest rate – – – 1.62% – – 1.62% Bank borrowings: Principal $ – $ – $ – $ 25.3 $ – $ – $ 25.3 $ 25.3 Weighted average interest rate – – – 2.91% – – 2.91% Long-term debt:(1) Principal $780.3 $ 699.6 $ 232.5 $ 710.3 $ 785.0 $2,812.4 $6,020.1 $6,483.3 Weighted average interest rate 4.86% 7.38% 3.87% 6.14% 5.78% 6.69% 4.60% (1) Primarily fixed-rate debt 15 SAFEWAY INC. 2002 ANNUAL REPORT
  18. 18. F IV E - YE A R S UM M A RY FINANC IAL INFO RMAT IO N S A F E WAY I N C . A N D S U B S I D I A R I E S 52 Weeks 52 Weeks 52 Weeks 52 Weeks 53 Weeks (Dollars in millions, except per-share amounts) 2002 2001 2000 1999 1998 R E S U LT S O F O P E R AT I O N S Sales $31,797.0 $29,441.5 $26,299.8 $24,086.9 $32,399.2 Gross profit 9,849.6 8,789.5 7,808.0 7,026.2 10,096.4 Operating and administrative expense (7,212.9) (6,437.8) (5,850.9) (5,380.4) (7,718.9) Impairment charge – – – – (704.2) Goodwill amortization (101.0) (87.2) (63.8) (50.7) – Operating profit 2,535.7 2,264.5 1,893.3 1,595.1 1,673.3 Interest expense (366.1) (363.6) (261.1) (230.7) (368.6) Other income (loss), net (46.9) 42.0 38.3 30.2 15.5 Income from continuing operations before income taxes and cumulative effect of accounting change 2,122.7 1,942.9 1,670.5 1,394.6 1,320.2 Income taxes (836.0) (788.7) 686.3 (586.9) (751.7) Income from continuing operations before cumulative effect of accounting change 1,286.7 1,154.2 984.2 807.7 568.5 Loss on discontinued operations, net of tax (32.8) (62.3) (13.3) (1.0) (696.6) (Loss) income before cumulative effect of accounting change 1,253.9 1,091.9 970.9 806.7 (128.1) Cumulative effect of accounting change – – – – (700.0) Net (loss) income $ 1,253.9 $ 1,091.9 $ 970.9 $ 806.7 $ (828.1) Basic earnings per share: Income from continuing operations before cumulative effect of accounting change $ 2.56 $ 2.32 $ 1.97 $ 1.67 $ 1.22 Loss on discontinued operations (0.07) (0.13) (0.02) – (1.49) Cumulative effect of accounting change – – – – (1.50) Net (loss) income $ 2.49 $ 2.19 $ 1.95 $ 1.67 $ (1.77) Diluted earnings per share: Income from continuing operations before cumulative effect of accounting change $ 2.51 $ 2.26 $ 1.91 $ 1.59 $ 1.20 Loss on discontinued operations (0.07) (0.13) (0.03) – (1.47) Cumulative effect of accounting change – – – – (1.48) Net (loss) income $ 2.44 $ 2.13 $ 1.88 $ 1.59 $ (1.75) 16 SAFEWAY INC. 2002 ANNUAL REPORT
  19. 19. F I V E - YE A R S UM MARY FINANC IAL INFO RMAT IO N S A F E WAY I N C . A N D S U B S I D I A R I E S 52 Weeks 52 Weeks 52 Weeks 52 Weeks 53 Weeks (Dollars in millions, except per-share amounts) 2002 2001 2000 1999 1998 F I N A N C I A L S TAT I S T I C S Comparable-store sales (decreases) increases (Note 1) 2.7% 3.1% 2.6% 4.1% (0.6)% Identical-store sales (decreases) increases (Note 1) 2.0% 2.5% 2.0% 3.7% (1.2)% Gross profit margin 30.98% 29.85% 29.69% 29.17% 31.16% Operating and administrative expense as a percent of sales (Note 2) 22.68% 21.87% 22.25% 22.34% 23.82% Operating profit as a percent of sales 8.0% 7.7% 7.2% 6.6% 5.2% Cash capital expenditures $ 1,672.3 $ 1,435.7 $ 1,193.7 $ 1,022.9 $ 1,370.5 Depreciation 726.6 640.4 535.9 466.7 812.5 Total assets 17,462.6 15,965.3 14,900.3 11,389.6 16,047.3 Total debt 7,271.5 6,352.3 6,777.6 4,768.4 8,327.0 Total stockholders’ equity 5,889.6 5,389.8 4,085.8 3,082.1 3,627.5 Weighted average shares outstanding — basic (in millions) 503.3 497.9 498.6 482.8 467.3 Weighted average shares outstanding — diluted (in millions) 513.2 511.6 515.4 508.8 473.8 O T H E R S TAT I S T I C S Genuardi’s stores acquired during the year 39 – – – – Randall’s stores acquired during the year – – 117 – – Carrs stores acquired during the year – – 32 – – Stores opened during the year 91 70 58 45 71 Stores closed or sold during the year 44 45 45 30 32 Total stores at year-end 1,656 1,570 1,545 1,383 1,695 Remodels completed during the year (Note 3) 231 236 240 234 191 Total retail square footage at year-end (in millions) 71.8 66.5 63.9 54.7 74.6 Note 1. Defined as stores operating the entire year in both the current year and the previous year. Comparable stores include replacement stores while identical stores do not. 2001 and 2000 sales increases reflect actual results and have not been adjusted to eliminate the estimated 50-basis-point impact of the 2000 northern California distribution center strike. Note 2. Excludes goodwill amortization. Management believes this ratio is relevant because it assists investors in evaluating Safeway’s ability to control costs. Note 3. Defined as store remodel projects (other than maintenance) generally requiring expenditures in excess of $200,000. 17 SAFEWAY INC. 2002 ANNUAL REPORT
  20. 20. F I NANC IAL REVIEW S A F E WAY I N C . A N D S U B S I D I A R I E S PLANNED DISPOSITION OF DOMINICK’S Safeway adopted SFAS No. 142, “Goodwill and Other In November 2002, Safeway announced its decision to sell Intangible Assets,” during the first quarter of 2002 and Dominick’s, which consists of 113 stores, and to exit the recorded an aggregate impairment charge of $700 million Chicago market. In accordance with SFAS No. 144, for the cumulative effect of adopting this statement. The “Accounting for the Impairment or Disposal of Long-Lived charge for Dominick’s of $589 million and Randall’s of $111 Assets,” Dominick’s operations are presented as a discontin- million reduced the carrying value of goodwill to its implied ued operation. Accordingly, Dominick’s results are reflected separate- fair value. Impairment in both cases was due to a combina- ly in the Company’s consolidated financial statements and Dominick’s tion of factors including acquisition price, post-acquisition information is excluded from the accompanying notes to the consolidat- capital expenditures and operating performance. ed financial statements and the rest of the financial information includ- During the fourth quarter of 2002, Safeway performed ed herein, unless otherwise noted. Sales at Dominick’s were $2.4 its annual impairment review for goodwill under SFAS No. billion in 2002, $2.5 billion in 2001 and $2.5 billion in 2000. 142. As a result of this review Safeway recorded a charge of In accordance with SFAS No. 144, Dominick’s net assets $704.2 million for Randall’s, which is recorded as a compo- and liabilities have been written down to estimated fair mar- nent of continuing operations, and $583.8 million for ket value. The fair value of Dominick’s was determined by Dominick’s, which is recorded as a component of discon- an independent third party appraiser which primarily used tinued operations. These charges reflect declining multiples the discounted cash flow method and the guideline compa- in the retail grocery industry and the operating perform- ny method. The final valuation of Dominick’s is dependent ance of these divisions. Net loss after the cumulative effect upon the results of negotiations with the ultimate buyer. of this accounting change, discontinued operations and the Adjustment to the loss on disposition, together with any fourth-quarter goodwill impairment was $828.1 million related tax effects, will be made when additional information ($1.75 per share). is known. In 1987, Safeway assigned a number of leases to Furr’s Inc. (“Furr’s”) and Homeland Stores, Inc. (“Homeland”) as STOCK REPURCHASE part of the sale of the Company’s former El Paso, Texas and In July 2002, Safeway announced that its Board of Directors Oklahoma City, Oklahoma divisions. Furr’s filed for Chapter had increased the authorized level of the Company’s stock 11 bankruptcy on February 8, 2001. Homeland filed for repurchase program to $3.5 billion from the previously Chapter 11 bankruptcy on August 1, 2001. Safeway is con- announced level of $2.5 billion. During 2002, Safeway tingently liable if Furr’s and Homeland are unable to contin- repurchased 50.1 million shares of common stock at a cost ue making rental payments on these leases. In 2001, Safeway of $1.5 billion. From initiation of the program in 1999 recorded a pre-tax charge to operating and administrative through the end of 2002, Safeway had repurchased 87.0 expense of $42.7 million ($0.05 per share) to recognize the million shares of common stock at a cost of $2.9 billion, estimated lease liabilities associated with these bankruptcies leaving $0.6 billion available for repurchases. and for a single lease from Safeway’s former Florida division. Income From ACQUISITION OF GENUARDI’S FAMILY During 2002, the accrual was Continuing Operations MARKETS, INC. (“GENUARDI’S”) reduced by $12.0 million as cash (In Millions) In February 2001, Safeway acquired all of the assets of was paid out. In addition, Furr’s Genuardi’s for approximately $530 million in cash (the began the liquidation process and “Genuardi’s Acquisition”). On the acquisition date, Genuardi’s Homeland emerged from bank- $1,286.7 operated 39 stores in the greater Philadelphia, Pennsylvania ruptcy in 2002 and, based on the $1,154.2 area, including New Jersey and Delaware. The Genuardi’s resolution of various leases, Acquisition was accounted for as a purchase and was funded Safeway reversed $12.1 million of through the issuance of commercial paper and debentures. the accrual, leaving a balance of $18.6 million at year-end 2002. RESULTS OF OPERATIONS Safeway is unable to determine $568.5 C O N T I N U I N G O P E R AT I O N S Safeway’s income from continu- its maximum potential obligation ing operations before cumulative effect of accounting with respect to other divested change was $568.5 million ($1.20 per share) in 2002, operations, should there be any $1,286.7 million ($2.51 per share) in 2001 and $1,154.2 mil- similar defaults, because informa- lion ($2.26 per share) in 2000. tion about the total number of leases from these divestitures that are still outstanding is not avail- 00 01 02 able. Based on an internal assess- 18 SAFEWAY INC. 2002 ANNUAL REPORT
  21. 21. Portions of 2002 Sales Dollar ment by the Company, performed by taking the original Identical-store sales inventory of assigned leases at the time of the divestitures increased 2.0% in 2001, and accounting for the passage of time, Safeway expects while comparable-store that any potential losses beyond those recorded, should there sales rose 2.7%. Safe- be any similar defaults, would not be material to Safeway’s way estimates that the net operating results, cash flow or financial position. Summit strike in 2000 Safeway also recorded a pre-tax charge of $30.1 million had a positive impact ($0.04 per share) in other loss in 2001 to reduce the carrying on 2001 comparable- amount of the Company’s investment in GroceryWorks store and identical-store Holdings, Inc. (“GroceryWorks”) to its estimated fair value. sales of approximately Future Beef Operations Holdings, LLC (“FBO”), a meat 50 basis points. processing company based in Denver, Colorado, was placed Total sales for 2002 in bankruptcy in March 2002. Safeway was a 15% equity were $32.4 billion, com- investor in FBO, had a supply contract for the purchase of pared to $31.8 billion s Costs of Goods Sold: 68.8% beef from FBO, and had a common board member with for 2001 and $29.4 bil- s Operating and Administrative Expense: 23.8% s Operating Profits: 5.2% FBO. Safeway had a first-loss deficiency agreement with lion for 2000. Sales s Impairment Charge: 2.2% FBO’s principal lender which provided that, under certain increased in 2002 pri- circumstances and in the event of a liquidation of FBO being marily due to new store initiated, Safeway would pay the lender up to $40 million if openings. 2001 sales increases were attributable to the proceeds from the sale of collateral did not fully repay the Genuardi’s Acquisition, new store openings and increased amount owed by FBO to the lender. Safeway accrued a pre- sales at continuing stores as well as the effect of the Summit tax charge of $51.0 million ($0.06 per share) in other income strike in 2000. (loss) related to the bankruptcy in 2001. The charge was pri- G R O S S P R O F I T Gross profit represents the portion of sales marily for payments under contractual obligations and the revenue remaining after deducting the costs of inventory first-loss deficiency agreement in the event FBO was liqui- sold during the period, including purchase and distribution dated. FBO is currently in the process of being liquidated costs. In addition, advertising and promotional expenses, net and Safeway paid the lender $40 million in January 2003. of vendor allowances, are a component of cost of goods sold. During the fourth quarter of 2000, Summit Logistics, a Vendor allowances that relate to the Company’s buying and company that operates Safeway’s northern California distri- merchandising activities consist primarily of promotional bution center, was engaged in a 47-day strike (the “Summit allowances, advertising allowances and, to a lesser extent, strike”) which had an adverse effect on sales, product costs slotting allowances and are included as a component of cost and distribution expenses at 246 Safeway stores in northern of sales. Vendor allowances totaled $2.1 billion in 2002 and California, Nevada and Hawaii. In 2002, Safeway settled a 2001 and $1.9 billion in 2000. Safeway includes all store dispute with Summit over certain of these distribution occupancy costs in operating and administrative expense. expenses without a material impact to the Company’s Gross profit increased to $10,096.4 million, or 31.16% of consolidated financial statements. Safeway estimates that the sales, in 2002, from $9,849.6 million, or 30.98% of sales, in overall cost of the strike reduced 2000 net income by 2001 and $8,789.5 million, or 29.85% of sales, in 2000. approximately $113.8 million ($0.13 per share). Safeway The 2002 increase in the gross profit margin was prima- estimated the impact of the strike by comparing internal rily due to shrink control and continued improvements in forecasts immediately before the strike with actual results buying practices. The increase in the gross profit margin in during the strike. 2002 was less than in 2001 because much of the Company’s S A L E S Identical-store sales (stores operating the entire year cost savings were reinvested in pricing and promotion. in both 2002 and 2001, excluding replacement stores) Safeway estimates that approximately 26 basis points of decreased 1.2% in 2002 while comparable-store sales, which the 2001 increase in the gross profit margin was attributable include replacement stores, decreased 0.6%. Sales were to the Summit strike in 2000. The remaining 87-basis-point impacted by continued softness in the economy, an increase improvement was due primarily to continuing improvements in competitive activity, an overly aggressive shrink-reduction in shrink control, buying practices and private-label growth. effort and disruptions associated with the centralization of buying and merchandising. 19 SAFEWAY INC. 2002 ANNUAL REPORT
  22. 22. Operating and includes interest income of $8.5 million in 2002, $13.5 million O P E R AT I N G A N D A D M I N I S T R AT I V E E X P E N S E administrative expense was $7,718.9 million, or 23.82% of in 2001 and $12.0 million in 2000. Other loss in 2001 includes sales, in 2002 compared to $7,212.9 million, or 22.68% of sales, a $30.1 million impairment charge to reduce the carrying in 2001 and $6,437.8 million, or 21.87% of sales, in 2000. amount of the Company’s investment in GroceryWorks to its Operating and administrative expense as a percentage of estimated fair value. Safeway also recorded a $51.0 million sales increased 114 basis points in 2002 due primarily to high- charge related to the FBO bankruptcy in 2001. er employee benefit costs, higher real estate occupancy costs, In November 2002, Safeway D I S C O N T I N U E D O P E R AT I O N S higher pension expense and soft sales. These increases were announced its decision to sell Dominick’s, which consists of 113 partially offset by a decrease of approximately 10 basis points stores, and to exit the Chicago market. In accordance with due to income received from Canadian Imperial Bank of SFAS No. 144, Dominick’s operations are presented as a Commerce for the termination of an in-store banking agree- discontinued operation. ment with Safeway. As a result of the planned exit of the Chicago market, the Approximately 13 basis points of the 2001 increase was Company recorded a pre-tax loss from discontinued opera- attributable to the charge related to the Furr’s and tions of $787.9 million ($1.47 per share) in 2002, consisting Homeland bankruptcies. Another 14 basis points was attrib- of $583.8 million in Dominick’s goodwill impairment, utable to the Genuardi’s Acquisition. The remaining 54- $201.3 in estimated loss on disposal of Dominick’s and $2.8 basis-point increase was due primarily to unfavorable million in loss from store operations. Pre-tax loss from dis- comparisons in pension income and property gains, higher continued operations was $27.7 million ($0.07 per share) in real estate occupancy costs, utility cost increases and higher 2001 and $76.4 million ($0.13 per share) in 2000. Loss from workers’ compensation expense. These increases were par- discontinued operations includes all direct charges to opera- tially offset by a decrease of approximately eight basis points tions at Dominick’s as well as allocated interest expense of attributable to the Summit strike. $62.2 million in 2002, $80.8 million in 2001 and $93.6 mil- Annual goodwill amortization was $101.0 million in lion in 2000. Loss from discontinued operations also includ- 2001 and $87.2 million in 2000. Beginning in 2002, good- ed goodwill amortization of $39.4 million in 2001 and $39.0 will no longer is being amortized. Goodwill was tested for million in 2000. Corporate overhead is not included in dis- impairment upon adoption of SFAS No.142, and is being continued store operations. Sales at discontinued operations tested annually for impairment. were $2.4 billion in 2002, $2.5 billion in 2001 and $2.5 bil- Interest expense from continuing opera- lion in 2000. INTEREST EXPENSE tions was $368.6 million in 2002, $366.1 million in 2001 and In accordance with SFAS No. 144, Dominick’s net assets $363.6 million in 2000. and liabilities have been written down to estimated fair mar- In accordance with EITF Issue No. 87-24, interest expense ket value. The fair value of Dominick’s was determined by an was allocated to discontinued operations based on the ratio of independent third party appraiser which primarily used the Dominick’s net assets to total Safeway net assets. Interest discounted cash flow method and the guideline company expense of $62.2 million in 2002, $80.8 million in 2001 and method. The final valuation of Dominick’s is dependent upon $93.6 million in 2000 was allocated to, and is included in, loss the results of negotiations with the ultimate buyer. Adjustment on discontinued operations. Allocated interest decreased in to the loss on disposition, together with any related tax effects, 2002 and 2001 primarily because Dominick’s net assets have will be made when additional information is known. decreased relative to total Safeway net assets. R E L AT E D P A R T Y T R A N S A C T I O N S See Note L of the Interest expense from continuing operations increased in Company’s consolidated financial statements. both 2002 and 2001 primarily due to less interest allocated to discontinued operations and higher average borrowings CRITICAL ACCOUNTING POLICIES primarily from debt incurred to finance the repurchase of Critical accounting policies are those accounting policies Safeway stock and the Genuardi’s Acquisition in 2001, par- that management believes are important to the portrayal of tially offset by lower interest rates. Safeway’s financial condition and results and require man- Other income (loss) consists primari- agement’s most difficult, subjective or complex judgments, OTHER INCOME (LOSS) ly of net equity in earnings or losses from Safeway’s unconsol- often as a result of the need to make estimates about the idated affiliates, which was a loss of $0.2 million in 2002, and effect of matters that are inherently uncertain. income of $20.2 million in 2001 and $31.2 million in 2000. Equity in losses, net, in 2002 includes approximately $15.8 mil- lion in charges related to the resolution of physical inventory count discrepancies at Casa Ley. Other income (loss) also 20 SAFEWAY INC. 2002 ANNUAL REPORT
  23. 23. The Company is primarily self- using a risk-adjusted rate of interest. The Company esti- W O R K E R S ’ C O M P E N S AT I O N insured for workers’ compensation, automobile and general mates future cash flows based on its experience and knowl- liability costs. It is the Company’s policy to record its esti- edge of the market in which the closed store is located and, mated self-insurance liability, as determined actuarially, when necessary, utilizes local real estate brokers. However, based on claims filed and an estimate of claims incurred but these estimates project cash flow several years into the future not yet reported, discounted at a risk-free interest rate. Any and are affected by variable factors such as inflation, the actuarial projection of losses concerning workers’ compen- strength of the real estate markets and economic conditions. sation and general liability is subject to a high degree of vari- E M P L O Y E E B E N E F I T P L A N S The determination of Safeway’s ability. Among the causes of this variability are obligation and expense for pension and other post-retire- unpredictable external factors affecting future inflation ment benefits is dependent, in part, on the Company’s selec- rates, discount rates, litigation trends, legal interpretations, tion of certain assumptions used by its actuaries in benefit level changes and claim settlement patterns. An calculating these amounts. These assumptions are disclosed example of how change in discount rates can affect in Note J to the consolidated financial statements and Safeway’s reserve occurred in 2002 when a 100-basis-point include, among other things, the discount rate, the expected reduction in the Company’s discount rate, based on changes long-term rate of return on plan assets and the rates of in market rates, increased its liability by approximately increase in compensation and health care costs. In accor- $9.0 million. dance with generally accepted accounting principles, actual The majority of the Company’s workers’ compensation results that differ from the Company’s assumptions are accu- liability is from claims occurring in California. California mulated and amortized over future periods and, therefore, workers’ compensation has received a significant amount of affect its recognized expense and recorded obligation in such attention from the state’s politicians, insurers, employers and future periods. While Safeway believes that its assumptions providers, as well as the public in general. Recent years have are appropriate, significant differences in Safeway’s actual seen an escalation in the number of legislative reforms, judi- experience or significant changes in the Company’s assump- cial rulings and social phenomena affecting workers’ com- tions may materially affect Safeway pension and other post- pensation in California. Some of the factors that may affect retirement obligations and its future expense. the Company’s reserve estimates include changes in benefit An example of how changes in these assumptions can levels and medical fee schedules. In 2002, the State of affect Safeway’s financial statements occurred in 2002. Based California passed AB-749 which increases the maximum on the Company’s review of market interest rates, actual weekly temporary-disability rate beginning in 2003. Weekly return on plan assets and other factors, Safeway lowered its benefits are calculated as a function of the hourly pay rate discount rate for U.S. plans to 6.50% at year-end 2002 from and the average number of hours worked. The law also has 7.50% at year-end 2001. The Company also lowered its several cost containing measures, such as the establishment expected return on plan assets for U.S. plans to 8.50% at of some medical fee schedules and abolishment of the treat- year-end 2002 from 9.00% at year-end 2001. These rates are ing physician presumption. The impact of the increase in applied to the calculated value of plan assets and liabilities benefits on Safeway is mitigated by the high ratio of part- which results in an amount that is included in pension time workers, who typically qualify for benefit amounts expense or income in the following years. When not consid- below the weekly maximum. ering other changes in assumptions or actual return on plan The Company’s workers’ compensation future funding assets, the 100-basis-point change in the discount rate alone estimates anticipate no change in the benefit structure. will negatively impact 2003 U.S. pension expense by approx- Statutory changes could have a significant impact on future imately $19.8 million and the 50-basis-point change in claim costs. The California Legislature is currently dis- expected return on plan assets alone will negatively impact cussing additional benefit reforms. At this point it is 2003 U.S. pension expense by $6.5 million. unknown what, if any, changes will result. While changes in assumptions may materially affect the S T O R E C L O S U R E S It is the Company’s policy to recognize Company’s future expense, the most significant factor in losses relating to the impairment of long-lived assets when determining this amount is the fair value of plan assets at expected net future cash flows are less than the assets’ carry- year end. Not considering any changes in assumptions, a ing value. For stores closed that are under long-term leases, $100 million change in plan assets in 2002 would impact the Company records a liability for the future minimum 2003 U.S. pension expense by approximately $8.5 million. lease payments and related ancillary costs from the date of The fair value of plan assets can vary significantly from year closure to the end of the remaining lease term, net of esti- to year. mated cost recoveries. In both cases, fair value is determined by estimating net future cash flows and discounting them 21 SAFEWAY INC. 2002 ANNUAL REPORT

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