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Safeway (NYSE:SWY)

Q4 2012 Earnings Call

February 21, 2013 11:00 am ET

Executives

Melissa C. Plaisance - Senior Vice President of Finance & Investor Relations

Steven A. Burd - Executive Chairman, Chief Executive Officer and Chairman of Executive Committee

Robert L. Edwards - President

Christiane Pelz - Vice President of Investor Relations

Analysts

Deborah L. Weinswig - Citigroup Inc, Research Division

John Heinbockel - Guggenheim Securities, LLC, Research Division

Karen F. Short - BMO Capital Markets U.S.

Kelly A. Bania - BofA Merrill Lynch, Research Division

Shane Higgins - Deutsche Bank AG, Research Division

Charles Edward Cerankosky - Northcoast Research

Meredith Adler - Barclays Capital, Research Division

Andrew P. Wolf - BB&T Capital Markets, Research Division

Edward J. Kelly - Crédit Suisse AG, Research Division

Gregory Hessler - BofA Merrill Lynch, Research Division

Priya Ohri-Gupta - Barclays Capital, Research Division

Jason DeRise - UBS Investment Bank, Research Division

Damian Witkowski - Gabelli & Company, Inc.

Operator

Welcome to the Safeway Fourth Quarter Earnings Conference Call. [Operator Instructions] This call is being recorded. If you have any objections, please disconnect at this time. I would now like to turn the call over to Ms. Melissa Plaisance, Safeway's Senior Vice President of Finance and Investor Relations. Please go ahead.

Melissa C. Plaisance

Good morning, everyone, and welcome to the Safeway Fourth Quarter and 2012 Earnings Conference Call. With me are Steve Burd, Chairman and CEO; Robert Edwards, President; and Pete Bocian, Executive Vice President and Chief Financial Officer. Before we begin, let me remind you that management will make statements during this conference call that include forward-looking statements within the meaning of the federal securities laws. Forward-looking statements contain information about our future operating or financial performance. Forward-looking statements are based on our current expectations and assumptions and involve risks and uncertainties that could cause actual results or events to be materially different from those anticipated. We undertake no obligation to update or revise any such statements as a result of new information, future events or otherwise. For a list and description of those risks and uncertainties, please see our filings with the SEC.

And with that, let me turn the call over to Steve.

Steven A. Burd

Thank you, Melissa. All my comments this morning on earnings, will be earnings from continuing operations. Let me start with earnings per share.

Earnings per share in the quarter were $1.06. This compares very favorably with the $0.67 we earned in the same quarter 1 year ago. We did receive a benefit from legal settlements of about $0.12 a share. If you adjust for that, our earnings in the quarter, adjusted, would be $0.94 a share, which represents a 40% increase over the earnings per share we made 1 year ago. Let me start with some highlights.

Quarter 4 was our third consecutive quarter of market share gains. These market share gains were achieved despite a reduction, a small reduction in Safeway's square footage and a market square footage increase of more than 1%. We gained 38 basis points of share in the supermarket channel and 10 basis points of share across all outlets.

We achieved an ID sales increase excluding fuel of 0.8%. This increase was negatively impacted by the New Year's Eve calendar shift. And it was also negatively impacted by the shift from generic drug. The calendar shift cost us about 30 basis points of sales, and the shift from -- to generic drugs cost us about 70 basis points. Now keep in mind, when we have the experience of shifting to generics, we make more money. And so the earning power of the sales is much greater. So this plays out more like a 1.5% ID in terms of earning power. We achieved a volume increase of 0.3% in the U.S. when the supermarket channel that we compete with declined 2.1%, and all outlets that we compete with in our markets declined 0.6%.

Operating margin for the quarter improved 39 basis points and 10 basis points when the legal settlements and fuel are excluded.

Finally, we beat the consensus estimates by $0.18 a share when you exclude the settlements and $0.30 per share when the settlements are included. The reason I'm giving you both those numbers, the legal settlements were contemplated in our guidance a year ago. Admittedly, we ended up with a larger number in this category than we expected, but it was always contemplated to be in the numbers. At the same time, as you can appreciate, that's not a go-forward number. So if you're looking for a baseline for future earnings growth, adjusting it by that $0.12 settlement is the best way to look at our numbers this quarter.

By way of assessment, I would say we're very pleased with the results for the quarter. Once again, I would attribute most of the market share gains to just for U, which continues to beat our own expectations. We're anticipating strong sales in quarter 1, with 7.5 weeks of the 12-week quarter already behind us. I'll talk more about that late in the call.

Focusing a little bit on sales, total sales increased 1.2% versus last year. This increase is largely due to higher sales from Blackhawk and an increase in ID sales excluding fuel. The New Year's Eve calendar shift hurt reported IDs, as I indicated earlier, by 0.3% in Q4. This will work in our favor in Q1 of this year. Our unit volume has improved steadily now for 3 consecutive quarters, and finished fourth quarter flat to last year.

Our food channel volume has now held constant or improved for 6 consecutive quarters, gaining 38 basis points of share in Q4. Our all-outlet volume has also been positive for 3 consecutive quarters -- has improved, I should say, for 3 consecutive quarters, and the market share ended 10 basis points up versus last year.

We met our registration target of 5 million households by year end, but we're currently sitting here today at 5.4 million households registered for just for U. Collectively, they represent 45% of the sales for the company. As our branded fuel effort rolls out and our Wellness initiative is launched, these improvements in sales, volume and market share should only get better.

Looking at operating margin, our operating margin improved 39 basis points. When you exclude both fuel and the legal settlements, the operating margin improved a full 10 basis points.

Looking at the components, gross margin ex-fuel declined 11 basis points, while O&A expenses, excluding fuel and the legal settlements, declined 21 basis points. The decline in O&A expenses was largely the result of lower labor expenses and lower occupancy cost.

Turning to interest expenses, our interest expense increased $3.4 million due to the higher average borrowings, partly offset by lower average interest rates. Our average level of debt outstanding was $949 million higher than the prior year due to our aggressive share repurchase program launched in the fourth quarter of 2011. Our average borrowing rate was lower by 58 basis points. We remain focused on debt reduction and intend to bring our debt ratios back to the levels we experienced at the end of third quarter in 2011. We have ample prepayable debt to accomplish these debt ratios.

Looking at taxes, our income tax rate was 31% this quarter compared with 30% in the previous year. Capital expenditures, we invested $240 million in capital projects for the quarter.

Turning to the full year results, net income from continuing operations was $566 million or $2.27 per share. When you exclude the legal settlements, adjusted EPS was $2.15 or 21% over last year's adjusted EPS of $1.78. This adjusted result is $0.14 higher than the consensus estimates for 2012 and is $0.04 higher than the current consensus estimates for 2013.

Total sales increased $576 million or 1.3%, in spite of the sale and closure of our Genuardi's stores. ID sales, excluding fuel were a positive 0.5% for the year. Our operating margin, excluding fuel, increased 4 basis points, which was in line with the guidance that we set out last March where we said, we would be plus or minus 5 basis points.

Our free cash flow for the year was $971 million. This places us above the top end of our guidance, which had a range of $850 million to $950 million. Other notable events in the quarter, the face value of cards sold through the -- through Blackhawk increased 22% in the fourth quarter, which is on top of the 24% increase in the fourth quarter of 2011. The face value of cards sold for the entire year increased 23% after having increased 25% in the previous year. We launched our first branded fuel partnership with Chevron in the fourth quarter. This partnership gave us a 54-fold increase in locations where Vons shoppers can redeem fuel rewards. More recently, we've launched in 2 other markets with ExxonMobil, and we'll launch in a fourth market next month.

We did not launch our Wellness initiative in the fourth quarter as previously planned. We now expect to launch in quarter 2. Also noteworthy, in fact, Melissa commented on the call, we recently announced the hiring of Pete Bocian, as our Chief Financial Officer. Pete joined the company just this week. Lastly, on guidance, we will provide comprehensive guidance for 2013 at the Investor Conference on March 6. That said, we are feeling very good about 2013.

We are currently having a very strong week. If we make our plan for the balance of this week, we'll be at 2% ID after 8 weeks. The U.S. divisions are even stronger, and what's really good about the sales we're experiencing here in the first quarter, our U.S. volume is currently running a positive 1.4%. Obviously, inflation is also -- continues to remain low. So I would say that the 8 weeks -- almost 8 weeks into the quarter, I would guide you on sales to be between 1.8% and 2%, which gives us a little room for having a softer period the next 4 weeks. We're not necessarily forecasting that, but we should -- that's a pretty tight range, and we should be 1.8% to 2.0% on the quarter. As just for U matures, and as the fuel and Wellness initiatives are rolled out, we feel our volume, our market share, and our ID sales should only continue to improve.

I think we're done, Melissa.

Melissa C. Plaisance

Okay. Shirley, we're ready for questions.

Question-and-Answer Session

Operator

[Operator Instructions] And that first question comes from Deborah Weinswig.

Deborah L. Weinswig - Citigroup Inc, Research Division

Citigroup. Steve, you say that just for U has been better than expectations. Can you talk about the components of that and what you think the key drivers have been?

Steven A. Burd

Well, when I say better than expectations, we're delivering about 50% more on -- of added weekly sales per household than we had anticipated. And what's happening is, our best customers are becoming increasingly more loyal and buying more items per trip. And that's been true now for -- since the beginning of just for U. Did that help you?

Deborah L. Weinswig - Citigroup Inc, Research Division

Yes. Are you seeing that you're getting kind of more loyal customers?

Steven A. Burd

Yes, our loyal customers are becoming more loyal, and customers that were less loyal are entering into that more loyal category.

Robert L. Edwards

Yes. And Deborah, I'd also add that mobile users are higher than we had predicted. We'll show you some slides at the Investor Conference in a couple of weeks, but we're very pleased with the percentage of just for U users. They're using mobile technology because their incremental spend is higher and more frequent as well.

Steven A. Burd

In fact, it's higher by about 40%. And we have -- I think since our last call, we've -- maybe we launched the iPad application.

Robert L. Edwards

Right.

Steven A. Burd

So we basically are on all smartphones, plus an iPad application, which is quite different from the pure mobile application. And it's attracting a lot of users. Still, I would say, the majority of users are still at the desktop stage. But we think that will change over time.

Robert L. Edwards

I think we've also been surprised at the amount of digital coupons that people are accessing on the website. Well, again, we'll show you some data on that in a couple of weeks. So that's been a very positive feature of the program.

Deborah L. Weinswig - Citigroup Inc, Research Division

And how has your relationship with your vendors changed as a result?

Robert L. Edwards

Very positive. Again, we've got some slides prepared to show you some incremental sales that our top CPG vendors are realizing relative to rest of market. And so the participation has been quite high. And so I think we're pleased, but more importantly, our major CPG vendors are very pleased as well.

Steven A. Burd

You might recall that we started just for U with about 7 or 8 of our key vendors and only recently have expanded that to the broader group.

Operator

Our next question comes from John Heinbockel.

John Heinbockel - Guggenheim Securities, LLC, Research Division

Guggenheim Securities. So a couple of things. Steve, if you think about just for U, and the impact of payroll tax and more recently, I guess 2 reasons, the rise in gas prices, do you think just for U has offset that impact or the impact from those negatives have not been nearly as great as we might have feared? What do you think it is?

Steven A. Burd

Yes, I think that just for U has clearly had an impact. When you look at our numbers, we can't really see any decline that resulted from the payroll tax going up. Keep in mind that a just for U user can save anywhere from 10% to 20% off a normal Club Card pricing. And so that puts you right down there with the dollar stores and mass and everybody else. And so I think that just for U has really helped. We cannot see any blip in our numbers as a result of the payroll tax kicking in.

Robert L. Edwards

John, I think actually that if disposable income is down because of higher payroll taxes or fuel cost, I think it actually plays to the strength of just for U because we can target specific individuals based on their shopping patterns and what we think is happening with their disposable income because it doesn't affect all of our customers equally. And so I think it actually plays to the strength of just for U.

Steven A. Burd

The other thing, John, is that just for U applies to people of virtually all income levels. Talking to people at really at some relatively high income levels, even the so-called top 1%, they're using just for U because they all have iPads, they all have iPhones. And it just seems crazy not to take advantage of pricing tailored to the individual household.

John Heinbockel - Guggenheim Securities, LLC, Research Division

And you can't even see, if you look at your more discretionary categories or items, you don't see any impact there either, correct?

Steven A. Burd

We don't. As we go to business, we divide our business into about 14 different business units. In the U.S., we gained market share in 12 of those 14 business units. And against all outlets, we gained market share in 10 of those 14 business units.

John Heinbockel - Guggenheim Securities, LLC, Research Division

All right. And then I guess finally...

Steven A. Burd

It's a broad gauge effect.

John Heinbockel - Guggenheim Securities, LLC, Research Division

Yes. And one other thing related to just for U, at some point there should be a benefit for you in terms of pulling back some promotional spend more broadly. When -- I know we're not there yet, when do you think we get to the point where it does have a positive impact on gross?

Steven A. Burd

I think that we could get there probably late in 2013. Also, as people become more digital, there's an opportunity, which we're working hard at to actually get out of the paper ads, and make the ad itself personalized for every household.

Operator

Your next question comes from Karen Short.

Karen F. Short - BMO Capital Markets U.S.

BMO Capital. Just a couple of questions on your core operating profit improvement. And obviously, I'm including net property gains in this. It was up nicely this quarter for the first time in a long time, and this quarter in particular was a fairly easy comparison. But everything seemed -- it seemed like a pretty broad-based strength, I guess. So is there any reason just to think that what you saw this quarter isn't sustainable into next year? Is there anything to point out? That was specific to this quarter?

Steven A. Burd

There's nothing to point out. We believe that when you adjust for the legal settlements, you got a very sustainable launchpad for 2013 earnings. The other thing, Karen, I would point out since you mentioned it, on the property. First of all, we look at property gains and the offset of property impairment. And while the fourth quarter -- our fourth quarter numbers this year were actually less than last year on that combination.

Robert L. Edwards

In fact, 18 -- almost $18 million less this quarter compared to the fourth quarter of 2011 in real estate gains.

Steven A. Burd

And we also -- a lot of people focus on property gains, just that single number. At the Investor Conference last March, we had forecasted that number would be about $72 million. It came in at $79 million. The big difference, in fact, the entire difference, is explained by the Property Development Centers getting more for the properties that they sold, not selling more properties, we just did better in the market than we expected.

Robert L. Edwards

And as you look at the impairment side of the equation, impairments this year were higher than they were last year.

Karen F. Short - BMO Capital Markets U.S.

Got it. That's helpful. And then just turning to gross margins, in the third quarter, you were lagging behind, I guess, on shrink and you were feeling fairly confident that you'd catch up in the fourth quarter. Is there any color there of the magnitude of the shrink benefit?

Robert L. Edwards

Yes, Karen, we, in the fourth quarter, we improved relative to results during the third quarter. So we clearly saw some improvement there, and we're expecting a good year in 2013.

Steven A. Burd

The actual reported numbers also get impacted by inflation. And so we would have done much better had we experienced 2% inflation, but we did not. That said, there's still a lot of shrink in this business. As good as we are at this, that remains an opportunity and it's embedded in our plan for 2013 to make more progress there.

Robert L. Edwards

And Karen, back to your initial question about the core business and momentum, it all starts with volume. And if you look at the volume numbers that Steve talked about in the fourth quarter and where we are quarter-to-date as we start 2013, that's the best indicator of momentum in the business.

Steven A. Burd

The volume number that I cited in the U.S., if you look at market share that results from that, our market share this quarter is up substantially in both the supermarket channel as well as the all-outlet channel.

Karen F. Short - BMO Capital Markets U.S.

Got it. That's helpful. And then just one housekeeping if you mentioned it, what was your commercial paper, the balance at year end?

Robert L. Edwards

0.

Operator

Your next question comes from Kelly Bania.

Kelly A. Bania - BofA Merrill Lynch, Research Division

This is Kelly Bania from BofA Merrill Lynch. Steve, I was wondering if you can help us parse out some of the impact that you're seeing from just for U and the fuel rewards? It sounds like those are going pretty well for you. I'm curious if you have any insight into how those markets where you've had it I think longest like Southern California and then just remind us on the timing of the rollout for the additional markets.

Steven A. Burd

Sure. In Southern California, we launched the fuel branded program in -- I think it was in November, Robert, maybe late-October in a couple of test markets. Anyway, we got it completely rolled out in Vons. So the greater effect is being experienced this quarter as opposed to the fourth quarter. We had something around 20 or 24 fueling stations in Southern California, and with Chevron now, it takes us over 900, that's that 54-fold increase. And so in that market, you can see a marked increase as a result of fuel. The fuel launches in our eastern division and in Chicago are much less mature. And I think we may have shown you in the past how those programs mature over time. If not, we'll show it at the Investor Conference. It probably takes a full 12 months to get to total maturity on the use of that reward. But relating it back to just for U, one of the things that just for U allows us to do is, we have a standard award on the street, and that standard award, we can adjust that depending on the sensitivity and loyalty that customers give us. So I can through just for U, I can offer a different reward. We also rolled out in our -- in one market. It's a market with about 35 stores. We rolled out differential pricing dependent on method of payment. And we also launched our own method of payment, which we have -- we developed about 5, maybe 6 years ago, where a customer -- we call it a debit card with loyalty. But one can pay with a phone number and a PIN number. And we offer added discounts for that to reflect the fact that, that is our cheapest form of payment. And so just for U fuel in combination with a cheap form of payment, we expect to work together to fuel our sales for the balance of 2013.

Robert L. Edwards

So Kelly, by the end of the second quarter of 2013, we expect to have 93% of our stores covered by the fuel partner program. And Northern California will be kind of the next major division and then moving through the rest of the divisions by the end of the quarter -- second quarter.

Kelly A. Bania - BofA Merrill Lynch, Research Division

That's helpful. And then just one last one. I think you just mentioned that the Health and Wellness initiative will launch, I think you said second quarter? If there's any color you can give us on that, I think it would be helpful. And do you still expect that to be -- to have a larger impact than these other 2 initiatives you have now in progress?

Steven A. Burd

The answer is, yes. It will have a larger impact. The delay is largely the result of making sure that the infrastructure that's created to support the initiative allows us to go with great speed across the company. So we will launch in a single market with a handful of stores and then shortly after that, we'll launch the rest of that market. And by building that infrastructure and making sure that it can accommodate full rollout, that allows us to move with greater speed, and if we were still working on infrastructure elements that will allow us to scale. And so it's really -- it's designed to give us greater speed. And so I actually don't think that will slow down the finish line. In fact, I think we'll get to the finish line by the end of the year just as I had originally forecast, even with a slightly later start.

Operator

Your next question comes from Shane Higgins.

Shane Higgins - Deutsche Bank AG, Research Division

It's Deutsche Bank. Steve, given the more severe flu season that we've experienced over the last few months, can you just give us some color on the flu shots that you guys have been selling at pharmacy and any color around the success of the flu shot promotion that you -- where you guys provided the 10% off groceries? Any color on that would be great.

Steven A. Burd

Yes. We -- it started out a little bit slow, but then as the -- and also the flu sort of begin on East Coast and moved west. And so we ended up with double-digit increases in flu shots. And keep in mind, that many of our stores, we've created space that -- that is much more like a physician's office than a grocery store. So we're no longer using a shower curtain and some folding chairs and a table to accomplish these vaccinations. And I think that contributed to our double-digit growth.

Shane Higgins - Deutsche Bank AG, Research Division

Did you guys -- were you able to drive traffic from new customers coming into the store maybe for the first time?

Steven A. Burd

We always get flu shot business from customers that we don't -- that we didn't see before. The best experience we've had is with the Express Scripts customers who we've maintained the vast majority of those customers because they had a good experience with Safeway.

Shane Higgins - Deutsche Bank AG, Research Division

Great. And what about that 10% off grocery promotion? Is that -- that's something you guys announced in January. Did you -- is that the first time that you've run that promotion and did you do a similar one last year?

Steven A. Burd

No, we do promotions like that periodically and also as we get more mature on just for U, virtually all of those things can go underground and not be seen by our competition.

Operator

Your next question comes from Chuck Cerankosky.

Charles Edward Cerankosky - Northcoast Research

Northcoast Research. Steve, the Wellness program that's been delayed a bit, any things you could discuss as to why or is it going to debut with a bigger test? Just wondering about that.

Steven A. Burd

Yes, I touched on that a couple of questions back, but let me try it again. The major reason for the delay is that our technology partner wants to make sure their infrastructure can handle much more than a launch. And that we can go from launch to rollout at a much faster clip. So we could -- we could have launched earlier, but we want to move with speed. And so it's more or less their infrastructure, not our infrastructure, that needs to be built to accommodate that speed. I would love to say more about it, but we're simply under confidentiality not to talk about the details of the initiative. But I'm confident that when we do launch, everybody will conclude that it is everything that we've been talking about.

Charles Edward Cerankosky - Northcoast Research

Okay. And then with the calendar shift around New Year's, did that do anything with the payables, especially those related to Blackhawk that we should think about in terms of where cash was at, say, a few days into the new year?

Robert L. Edwards

No question, Chuck, if you look at the free -- the cash flow statement in the press release, the timing of calendar and the sales last year captured the New Year's holiday sales and then this year, and then it also affected the payments, what was collected on the Blackhawk side. So it clearly affected the results and you really need to adjust out for that. Because if you look just at the cash flow statement last year, payables net of receivables compared to this year, we would've thought the business decelerated. But it was all based on the timing and 2011 almost all the receivables from the Christmas-related sales were collected in 2011, whereas this year, most of the sales around Christmas time, that cash will be collected -- was collected early in 2013. So Blackhawk continued to perform very well. The timing shift one year to the next affected the cash flow from Blackhawk.

Charles Edward Cerankosky - Northcoast Research

All right. Can you give us any dollars on what kind of cash showed up in early 2013?

Robert L. Edwards

You know what, Chuck, that would probably -- details we probably wouldn't give, but very strong. I mean, the business, as Steve commented on, in terms of growth in load value was significant. The business just continues to do very well. Now at the Investor Conference, we'll have a significant amount of time devoted to providing quite a bit more details on Blackhawk. So I think you'll appreciate the material we're going to present in a couple of weeks here.

Charles Edward Cerankosky - Northcoast Research

From a very high strategic level, what can you say about what's happening at SUPERVALU in terms of opportunity for Safeway in 2013?

Steven A. Burd

It's just something that we watch, Chuck, and we have seen some store closures. There's a new owner. That generally creates opportunities for people in the marketplace. And so we see -- we see it as a positive for us. We don't see anything negative from what's going on in that part of the competitive landscape.

Charles Edward Cerankosky - Northcoast Research

And finally, any insight you could give us into the Blackhawk IPO calendar?

Robert L. Edwards

Yes. You know, Chuck, if you recall last September, we put out a press release saying that we intended to pursue a potential IPO of Blackhawk. And so we -- that remains true. The intent is still the same. So we are pursuing that, consistent with the agreement or the announcement we made last September, which said that sometime during the first half of the year, depending upon market conditions, that we intended to go ahead with that. So we are continuing to pursue that.

Charles Edward Cerankosky - Northcoast Research

But there's no date range you could give us on when and if one S-1 might be filed?

Robert L. Edwards

No, not today.

Operator

Your next question comes from Meredith Adler.

Meredith Adler - Barclays Capital, Research Division

Meredith Adler from Barclays. I was hoping that we could just talk a little bit about the gross margin. Obviously, there were some things that maybe were a little unusual this quarter because of generics. I'm wondering if you could comment on how much of a benefit that was. And then there was some discussion about having gotten more vendor partners involved in just for U. I'm wondering whether there was any change in the amount of investment that you had to make out of your own pockets that might have hit the gross margin this quarter versus previously because you are getting more support from outside vendors.

Steven A. Burd

Yes, let me take those, Meredith, in reverse orders. In terms of just for U, you recall we said that we promoted it hard and spent a lot of extra money in the second and third quarter. And we said that, that was now behind us. So that turned out to be true in the fourth quarter. We didn't spend any extra money either in gross margin or in terms of labor content in the stores. We found very efficient ways in which to grow that business. If you think, for example, that we had 5 million registered households at the end of the first quarter, we're sitting here today with 5.4 million, which would suggest that we're adding about 50,000 just for U registered customers per week. I don't know if we can keep that up between now and the end of the year, but if we do, we should cross over 55-plus percent of our sales covered by just for U households. We -- as we involve more vendors, we do get more vendor support on just for U. So that -- that is very helpful. On the -- I don't have it quantified here, but generics are always more profitable and the best way to look at it is that, while it cost us 70 basis points on sales, the economic effect is as if our sales were 70 basis points higher. And that's why I said the 0.8% actually delivers bottom line performance like a 1.5% ID. And that will give you a sense for that. And then we've done a lot of things over the last year to improve the profitability of our pharmacy business. You recall we brought in a senior executive from GlaxoSmithKline, and we just had very strong results in our pharmacy operations over the last 12 months. And I'm going to predict that will be true for the next 5 years.

Robert L. Edwards

And then, Meredith, back to your question about CPG participation, clearly, there was participation in the quarter. It's growing and based on the continuing success that we are seeing, our major vendors are seeing much higher value than they anticipated early on. Therefore, we expect funding from CPG vendors for just for U to continue to grow. But at this time, we're not breaking out or disclosing the specific amounts.

Steven A. Burd

One of the -- it has become a very efficient vehicle for introducing new products and the vendor community offers those new products on a targeted basis, free to our customers. And so again, that causes more and more people to become loyal to just for U.

Meredith Adler - Barclays Capital, Research Division

And just -- I probably should know the answer to this. But the 5.4 million, how does that compare to the number of active cardholders for your long-standing loyalty program?

Steven A. Burd

Yes. Here's the way to look at that. People can own a card, but not necessarily use a card. So during the course of a -- during the course of a full quarter, I think it is, Robert, we'll see 9 million unique households. Over the course of a year, we'll see 30 million unique households. Actually, I think the 9 million number is a weekly household -- unique households in a week. So if we have 5.4 million, those who tend not to be casual customers, those are the fairly regular customers, that begins to represent a significant piece of all customers. But I think the best way to look at it is, what percentage of the sales are represented by people that are registered. And that number currently stands at 45%. Several quarters ago, I suggested that I thought that probably tops out at maybe 65%. So that will give you a sense for where we think we are on the development of loyal just for U users. So we think it's possible to get 75% of our sales -- or excuse me, 65% of our sales covered by just for U registered participants.

Meredith Adler - Barclays Capital, Research Division

Great. And then I have one final question for Robert. Your -- you were talking about the cash flow from Blackhawk. And I have to say, I must have been -- I got really confused because I was under the impression that you owe retailers, other retailers cash after Christmas because you collect the cash from customers, Blackhawk gets that cash and then you pay it out. Did I -- but I thought you said the opposite, so could you just clarify that, please?

Robert L. Edwards

Well, the -- and if you look on the cash flow statement, basically, as I said earlier, in year-over-year comparison, in 2011, most of the sales at Christmas and again very seasonal business, those -- that cash was collected in 2011. And because of the calendar shift this year, most of the sales around Christmas, those receivables from our distribution partners, had not been collected by the end of 2012, but they were collected early in 2013.

Meredith Adler - Barclays Capital, Research Division

And then when -- in terms of paying out the cash. Because you're kind of a conduit, I mean, right?

Robert L. Edwards

Yes.

Meredith Adler - Barclays Capital, Research Division

Blackhawk is a conduit. That would obviously...

Robert L. Edwards

For most of it, we keep our portion of it.

Meredith Adler - Barclays Capital, Research Division

Right. What does that mean for your commercial paper outstanding, putting everything else equal at the end of the first quarter? They would be probably be up above the 0 now?

Robert L. Edwards

Yes, yes, absolutely. Yes.

Melissa C. Plaisance

Meredith, that's been the pattern for years now because we paid off commercial paper and then we redraw as we pay off the payables in the first quarter.

Meredith Adler - Barclays Capital, Research Division

Got it. I understand now. I was confused but...

Robert L. Edwards

I would just -- I mean, the key takeaway here is, Blackhawk continues to perform very well. And don't let the changes in the calendar around New Year's from 1 year to the next enter in.

Steven A. Burd

Meredith, the big cash outflow that occurs early in the first quarter relative to Blackhawk is paying what we call the card content providers. And the payment schedule on that varies by -- keep in mind, most of those are retailers, not distribution partners, those are retailers. And that, of course, has already happened and -- but now we have commercial paper outstanding.

Robert L. Edwards

So again, business continues to perform very well, and we'll give you quite a bit of detail here in a couple of weeks.

Operator

Your next question comes from Andrew Wolf.

Andrew P. Wolf - BB&T Capital Markets, Research Division

BB&T. Steve, just wanted -- from your commentary on having a strong week and the way the New Year's holiday fell, sounds very much like there's been acceleration year-to-date, from January period into February. So I just wanted to check if my understanding is consistent with what the business is trending.

Steven A. Burd

Your observation is correct. I mean, you have the bump in the first week. But when I look at our momentum, let's say, in February relative to January absent that bump, there's been increased momentum. I mean, you think about the volume numbers I gave on the call. That in the U.S., our volume, that's unit volume, was up 0.3%. And volume right now is up 140 basis points in the U.S. So -- and again, I would attribute -- I would attribute most of that to just for U with fuel kicking in, in Southern California. And now we should begin to see, for the balance of this quarter, fuel kicking in, in eastern and in Chicago. And then Robert indicated that we would also be launching a branded partnership in one of our largest markets in early March. I wouldn't expect a big play from that in this quarter. But it should -- we should have -- we should have good momentum in the second quarter. Again, we can talk more about this at the Investor Conference. But our objective is to take -- take the calendar benefit in the first quarter, which could take us to an ID number very close to 2.0%, backfill that with maturing just for U, the launch of the branded fuel effort, plus a launch of Wellness and completely fill that void, which is going to elevate first quarter sales a bit. So that we don't experience a dip in the second quarter and then the second half of 2013 should be considerably stronger than the first.

Andrew P. Wolf - BB&T Capital Markets, Research Division

And then just a follow-up is, you can interpolate, given what you've given out how Canada's doing, it looks like it's a little off in volume and in IDs. Although I don't know the inflation rate there, but in any case, the easy question out of that is, what's the outlook for bringing just for U into the Canadian market?

Steven A. Burd

Yes. I think that we said this consistently for almost a year now. The Canadian business seems to lag the U.S. business in terms of its behavior, in terms of sales and in terms of inflation. And we have not put just for U in that market. The plan right now is, Canada gets just for U in midyear, and there's also an opportunity, we think, to do something with fuel in Canada. So your math is correct that Canada is not currently as strong as the U.S., but we would expect that by the second half that Canada could be quite strong.

Operator

Your next question comes from Edward Kelly.

Edward J. Kelly - Crédit Suisse AG, Research Division

Crédit Suisse. Steve, could you comment on whether there's been any competitive reaction at all so far to just for U and assuming that your success continues, what do you think competitors could or would do, if anything?

Steven A. Burd

Yes, I think that -- I think the competitive response has been by a couple of people to try to develop a similar system. I can't say that we've -- we saw a token effort on the part of a regional player to do something that if, on a scale of 1 to 100, just for U represents 100. I would say their effort represented a 10. And it was just not a robust effort. And frankly, I don't think they have the wherewithal to ever become 100. But I do think, I think longer term, you will see others try to personalize their efforts with consumers. I mean, if you think about what we've done, it's not materially different than what Amazon's been doing for years. It just hasn't been brought to the brick and mortar space. The retailer that comes to mind that's done more of this than anybody else is actually Nordstrom, that's making a real effort to personalize their offering to consumers. And so I think the wave of the future is personalization. There's going to come a point where our shelf pricing is pretty irrelevant because we can be so personalized in what we offer people. And it -- it is always appreciated. And so that's the competitive response. Now I think direct, I mean, it's pretty hard to compete with somebody whose price -- you don't even know what their prices are to individual consumers. So I think the only way to do that is to develop your own system and when others do, we should be 2 to 3 years ahead of them because there's a great deal of value with experience, with personalization. And we now have more than 2 years experience, particularly with our first couple of markets. The other thing you'll see, potentially at the Investor Conference, is that much like the Lifestyle store, where we got a very large sales increase in the first year, we continue to benefit with year-over-year increases with that vehicle. And so we have rounded -- we have rounded more than a year in 2 markets. And as you would expect, probably not exactly the same lift that we experienced in the first year, but very, very respectable. And so we think that by continuing to improve just for U, by creating new features, new benefits, we can continue to give just for U the ability to generate added sales year after year.

Robert L. Edwards

So Ed, as you think about the technology and the platform we have, as I think you're aware, we've been spending significant IT resources for a number of years. And so for someone to try to duplicate or pursue us would require a significant sum of money and resources over an extended period of time. And then as you know in a retail business, scalability and reliability has to be very high here. And so as Steve said, I think we believe we have a sustainable, competitive advantage here. And we're continuing to improve the platform as others are beginning to develop this kind of infrastructure.

Steven A. Burd

Yes, I think the best way to understand the power of just for U is to think about fuel. I think everybody on this call understands that fuel loyalty programs really work and work well. Well, with a personalized pricing apparatus like just for U, if you think a $0.10 reward for $100 worth of grocery purchase is a good deal, we have the ability to see if we can increase sales another $20 to $30 a week by making that $0.20 for some people and $0.30 for some people. Now take that over to the milk category, take that over to the beef category, take that over to somebody who has an affection for flowers. I mean, you can take that to any category, find the responsive chord and deliver a unique offer. And that's why just for U should pay dividends really for years to come. We consider it our marketing platform maybe for the next decade.

Edward J. Kelly - Crédit Suisse AG, Research Division

Great. And another question for you, Steve. There's been plenty of market speculation recently just about possibility of selling Canada or a REIT spinoff. I was just hoping maybe you could give us some thoughts on whether any of this even makes any sense for you?

Steven A. Burd

There's probably been speculation about selling an asset of Safeway every year that I've been CEO. And you're correct to think that there's been more speculation I think about the Canadian asset. It's a -- it's a very good business. At the same time, we're all about creating shareholder value. And it's the reason we want to bring just for U into Canada. So I think that what shareholders can gain comfort from is that, we look at all kinds of ways to increase shareholder value, and there was a lot of speculation about the value of doing a REIT. So of course, we looked at that years ago, we looked at it again, and I think we'll address that at the Investor Conference. But we don't find general application for that with our current business. So I think, gain comfort from the fact that we will do the sensible thing. And what's sensible for us, we have to look at what the downstream value creation is of every asset we have. We can't just look at the -- at the cash flow production of an asset today. So we have that insight, which most investors are not going to get. And all of that goes into our decision calculus.

Operator

Your next question comes from Greg Hessler.

Gregory Hessler - BofA Merrill Lynch, Research Division

It's Bank of America. Given the cash drain from the redemptions in the first quarter, would you guys be willing to provide a CP balance where it stands today?

Steven A. Burd

CP, commercial paper balance.

Melissa C. Plaisance

Yes, we haven't typically done that.

Gregory Hessler - BofA Merrill Lynch, Research Division

Okay. The reason why I was asking, I was just trying to figure out from a timing standpoint how we should think about the additional debt reduction. Because I think earlier on the call, you said that you plan for the balance at year end to be about $5 billion. So to the extent that there's a drawdown on CP, that could be a little over $1 billion of debt reduction. And I'm just wondering how that kind of jives with your share buyback plans.

Robert L. Edwards

We will, at the Investor Conference, we will give guidance as we normally do on free cash flow. And the priorities for uses of free cash flow have not changed since the last couple of quarters which is: number one, dividend; and second, we're primarily focused on debt reduction. But we'll comment on that further in a couple of weeks.

Steven A. Burd

A good way to look at year-over-year sustainable, I think, debt reduction is that you've got the free cash flow number, you've got the dividends are paid out, the focus is on debt reduction. So that gives you a good sense for maybe how our debt levels will play out. We'll talk about our debt levels at the Investor Conference.

Melissa C. Plaisance

Yes, I think that's the proper forum.

Gregory Hessler - BofA Merrill Lynch, Research Division

Okay. And then if I could just ask one follow-up, this is obviously, a very strong quarter. Is it still the company's goal to work back to that mid-BBB credit rating?

Steven A. Burd

Yes.

Robert L. Edwards

Yes.

Operator

Your next question comes from Priya Ohri-Gupta.

Priya Ohri-Gupta - Barclays Capital, Research Division

Barclays. Hello, can you hear me?

Melissa C. Plaisance

Yes, we can.

Priya Ohri-Gupta - Barclays Capital, Research Division

Okay. Thank you so much for your commentary around debt reduction and the focus there. Given -- I guess let me ask this in a different way, but given sort of the timing and the pace of the cash that we saw from Blackhawk this year, is there a potential to think about sort of accelerating the debt pay-down towards the beginning of the year on -- and to potentially give yourselves a little bit more flexibility around what your cash priorities could be for the back half?

Robert L. Edwards

Again, I would refer to our previous answer. I think we'll talk specifically about guidance for free cash flow and uses in a couple of weeks. We probably wouldn't provide any further comments on that issue.

Priya Ohri-Gupta - Barclays Capital, Research Division

Okay. That's fair. And then just around sort of getting back to your mid-BBB rating potentially, do you have any sort of broad timeframe that we could think about with regards to that?

Melissa C. Plaisance

That'll be up to the rating agencies. But we said all along that we are moving towards getting our ratios back in line with where they were at the end of the third quarter of 2011. Obviously, as quickly as possible, but the goal has been to work that way by the end of this year.

Operator

Your next question comes from Jason DeRise.

Jason DeRise - UBS Investment Bank, Research Division

It's Jason DeRise at UBS. A lot has already been asked. I guess I just wanted to maybe understand economics on the fuel reward program, because I guess your partners aren't necessarily thrilled about seeing people coming and getting $20 off their fuel fill up. And at the same time, I just want to understand about your current fuel stations. I would imagine like what some of the others have reported, fuel margins are up. So year-over-year even though it's a negative headwind as that grows. I just kind of want to understand what your fuel profits look like this year and then maybe going forward.

Robert L. Edwards

Well, we wouldn't give any comments on this specific quarter. I think we had commented on fuel profitability for the first quarter at the end of the quarter. Now as you know it's -- the business moves around during the year. If you look over a long historical period on an annual basis, our margins, gross margins, have been relatively consistent over that time period. Now because of different supply demand issues in the energy business, margins can go up or down and vary quite a bit from week-to-week, month-to-month, quarter-to-quarter. But if you go over a long period of time on an annual basis, they've been relatively consistent. But -- and again, as we've said in the past, when prices move up, our margins tend to get squeezed, which has been the case recently. But then as costs go down and prices go down, our margins tend to widen out.

Steven A. Burd

Let me also -- I think if I heard you correctly, correct something you said maybe about our branded partners. First of all, the fuel markdown is shared between us and our branded partners. Also, there's a marketing expense associated, which is also shared with the branded partners. And so it's not a fair statement to say that they must be bummed out over this. They are thrilled over this. In the market about to be launched, we met with 100 gas station owners. Keep in mind that most of the branded players don't operate their own stations. They're operated by independent owners. And so we have a little presentation that we make, and I think there were 100 independent owners there. All 100 signed up for the program. And of course, they know -- they know other branded owners in other markets. And so we don't consider this to be a problem for the branded players. They really -- they really like it. And so I think it's...

Jason DeRise - UBS Investment Bank, Research Division

I guess what I meant is, that you compensate them or you share in some way. Because I guess in your current fuel stations, if you gave this discount, it would just come out of your margin?

Steven A. Burd

Correct.

Jason DeRise - UBS Investment Bank, Research Division

Versus I guess you're sharing it. So I guess, I just wanted to understand how we should think about those economics going forward. I think a lot of us probably just normally look at fuel and say, okay, what's the industry margins look like for fuel and how do we factor that in as we try to estimate the numbers, but this kind of the changes it a little bit.

Steven A. Burd

It does change a little bit.

Jason DeRise - UBS Investment Bank, Research Division

And it's obviously an asset-light way to do it, I guess I just want to understand how to think about it.

Steven A. Burd

The other thing to try to understand is that typically, retailers like ourselves when they bring in a branded partner, we cap the discount at typically at a lower level than we would in our own stations. And so while we brought in more stations, the fuel-related discount in the aggregate will not be kind of be 1 for 1 across that. But the benefit comes in the extra business that we get. So I think that -- and that discount applies against the fuel business. And so it's not something that has an effect on gross margin in any material way.

Jason DeRise - UBS Investment Bank, Research Division

Okay. Right. Is this maybe a shifting kind of approach that maybe you're willing to do more in terms of investing -- I mean, not in promotions, more directly just at an absolute level -- and just get it. I mean, your gross margin x the benefit from the generic wave, your gross margins were probably down a little bit more than what you would have originally hoped for I would imagine for the year. The generic wave was very good, but then you got your comp uplift and it looks like it's going very well into the beginning of this year. Is this kind of a new change in how you think about that relationship between gross margin and the comp.

Robert L. Edwards

Probably, I would think about it similar to -- I mean, we're pursuing the just for U initiative to improve the loyalty of our existing customers and attract new customers. That same philosophy applies to fuel. I mean, we are pursuing this branded program to improve the loyalty of our existing customers and attracting new customers. That's what we're doing.

Jason DeRise - UBS Investment Bank, Research Division

And you're willing to make gross margin investments to do that?

Steven A. Burd

Our goal is to improve operating profit. And if the margin rate goes down, but operating income goes up and earnings per share go up and the stock price goes up, we think we and the shareholders all win.

Robert L. Edwards

Yes, our desire is to make more operating income dollars.

Melissa C. Plaisance

Okay. We have time for one last question, Shirley.

Operator

Our last question then comes from Damian Witkowski.

Damian Witkowski - Gabelli & Company, Inc.

Damian Witkowski with Gabelli & Company.

I just want to ask, Steve, go back to the REIT response you gave a couple of questions back. What are the top key long-term challenges with a REIT structure that could offset the benefits of a lower interest rate and such?

Robert L. Edwards

I think that we have an Investor Conference that we've allocated 4 hours to on the 6th of March. This will be one of the topics that we'll talk about. There is interest being raised by a number of shareholders and others on this topic. We've done some work here and then we'll provide our thoughts in a more extensive manner on the 6th.

Steven A. Burd

The other comment I'd like to make regarding the Investor Conference, I think, last year, I think, and maybe even the previous year, people felt that we were pressed for time. We dramatically cut down on the slide content. We're committed to having 1 hour or 1.5 hours worth of Q&A so that everybody gets in their questions at the next Investor Conference.

Melissa C. Plaisance

And just in case anybody on the call doesn't know, it is March 5 and 6, it will be held in Pleasanton at our corporate headquarters. On the 5th, there'll be a dinner followed by breakfast and a 4-hour meeting on the 6th. And if you need to get an invitation, if you didn't get the details, it's at...

Christiane Pelz

Investor.relations@safeway.com just send an e-mail. Thanks.

Melissa C. Plaisance

All right. Thank you, everyone for participating today. And if you have any follow-up calls, Christiane Pelz and myself will be available for the balance of the day to follow-up. Thanks.

Operator

Thank you. And this does conclude today's conference. We thank you for your participation. At this time, you may disconnect your lines.

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