Safeway's CEO Hosts 2013 Investor Conference (Transcript)

| About: Safeway Inc. (SWY)

Safeway Inc. (NYSE:SWY)

March 06, 2013 11:00 am ET


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

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

Robert A. Gordon - Chief Governance Officer, Senior Vice President, Secretary and General Counsel

Diane M. Dietz - Chief Marketing Officer and Executive Vice President

William Y. Tauscher - Independent Director and Member of Executive Committee

Robert L. Edwards - President


John Heinbockel - Guggenheim Securities, LLC, Research Division

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

Kelly A. Bania - BofA Merrill Lynch, Research Division

Mark Wiltamuth - Morgan Stanley, Research Division

Meredith Adler - Barclays Capital, Research Division

Priya Ohri-Gupta - Barclays Capital, Research Division

Charles Edward Cerankosky - Northcoast Research

Edward J. Kelly - Crédit Suisse AG, Research Division

DeAndre Parks

Jason DeRise - UBS Investment Bank, Research Division

Doug Thomas

Damian Witkowski - Gabelli & Company, Inc.

Melissa C. Plaisance

Okay. Good morning, everyone. My name is Melissa Plaisance, and I'm Senior Vice President of Finance and Investor Relations for Safeway. On behalf of the Safeway management team, I'm very pleased to welcome all of you here in our Pleasanton auditorium, as well as those joining us via webcast to Safeway's 2013 Investor Conference. I'd like to kick the meeting off with a quick video to give you a sense of what we've been focused on to drive shareholder value.


Melissa C. Plaisance

And now just a couple of housekeeping items before we begin. We do expect to take a break around 9:45. We need you promptly back in the room at 10, and we hope to finish the slide presentation by 11:00, so we'll have a full hour for questions and answers. In addition to that, I'd ask that everybody put their cell phones, as we would in a theater, on vibrate. And so as not to distract the presenters, please no photography. And as I said, a full hour of question and answers is what we have planned for you, so we look forward to the conference. And let me just say that I'd like you to listen to a brief message before Steve Burd, our Chairman and CEO, will begin the conference. Thank you.

I would like to remind you that management will make statements during this conference that include forward-looking statements within the meaning of the federal securities laws. Forward-looking statements contain information about 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.

Steven A. Burd

That would be a great impression of your own voice. Okay. I think quick, these guys are ahead of me here. Let me just give you a brief outline of the agenda today. We learned about 4 or 5 years ago to start with guidance. I remember one year we left that as the last slide and heard from all of you on that. The financial review, as I indicated last night at dinner, is going to be truncated from years past, we're really going to focus on 2013. And then, we're going to cover -- we have a section called other points of interest. There's been a lot of talk about -- read some people are still sort of focused on the multi-employer pension plans and the underfunding there. So we're going to deal with those 2 issues in that section because they didn't, otherwise, seem to fit anywhere else. And then I'll come up at the end to do a quick summary, and then Robert and I together will handle all the Q&A.

So let me start and get up here, again, I'm sure you saw the press release, maybe some listening on the webcast did not, but our earnings guidance for 2013 is $2.25 to $2.45 a share, and that's based on ID sales guide -- guideline of 2% to 3% which represents an acceleration over where we have been. We believe that we have a very good chance of expanding operating profit margin in 2013. If we ended up on the low side of that range, you'd probably be in the flat category. But if we end up in the middle or on the -- on the high side of that range, we should have a positive profit margin improvement. And that's compared to the settlement adjusted 2012 number. Recall 2012 had a large legal settlement, and so we're exing that out to show you that we're moving off the different base.

Capital expenditures will be a bit higher in the $1 billion to $1.1 billion range. And free cash flow will be the same as we thought it would be in 2012. We actually beat the upper end of the range in 2012, very comfortable with free cash flow in the $850 million to $950 million range. The other thing I would tell you that's not on this slide is that we're contemplating a tax rate in 2013 of 31%. So any of you that are doing any modeling, you should keep that number in mind.

So moving on to 2012 and trying to keep some pace of things here. We didn't make our ID sales guidance. We had guided 1% to 2% in 2012. We ended the year at 0.5%. We got hurt by the calendar, but that's still would have left us short of even the low end of that range.

In terms of operating profit margin, again, for background for everybody, we're highly confident that we were going to have some legal settlements in 2012. We built that into our guidance. We did end up with the larger settlements, some that we had anticipated, but that was always in the guidance. And so when you look at our profit margin expansion, it was up 4 basis points, which is right within the range that we had estimated. I'm going to comment more on that when I get into the details of 2012.

In terms of capital expenditures, we spent a bit more, but we're not -- we weren't worried about that. We were able to produce a free cash flow that we anticipated, and in fact, beat the free cash flow by a couple hundred thousand dollars.

Earnings per share, the guidance was $1.90 to $2.10. We reported $2.27. If you adjust for the legal settlements, it was still $2.15 a share. So we beat the guidance even without those legal settlements.

Some highlights for 2012. First of all, we hit the top end of the EPS range, and we exceeded our free cash flow guidance, and we think those are all very positive items. We also returned a lot of cash to shareholders. Most of that came in the form of a buyback that started in the fourth quarter of 2011, but we continued that in the first couple of quarters of 2012. And then, of course, we had dividends of about $164 million.

One of the best things about 2012 is we began taking market share not only in our channel but outside of our channel. So inside the channel, that's the nucleus or that universe is essentially supermarkets. People like us. When you look at the all channel definition of market share, which we couldn't do 2 years ago, this includes -- just for everybody's benefit, it includes all of drug, it includes all of mass, it includes the dollar stores and it includes supermarkets. The only player left out of this is actually Costco because they don't contribute Nielsen data. And we've gained share for the last 3 quarters, and we're gaining share through the first 8 weeks, 9 weeks of 2013 as well. And in fact, we've picked up the pace.

Cost reduction, when you're a low-margin business, it's really important. And we call it cost reduction and profit improvement. We beat our expectations there. But again, there are a lot of other costs that are going up. So keep in mind this has to offset things like rises in pension expense, rises in health and benefits, labor costs and other elements, maybe credit card fees. And so you need to -- in this organization, you need to have a $300-plus million profit improvement effort underway or you don't offset those forces.

Just completing the highlights here. We think that we set the stage for really growing ID sales and market share and frankly, increasing profit margin in 2013. I think that what the financial community has really been looking for, for Safeway is give us some strong IDs. We think that happens in 2013. Give us market share gains across all outlets and give us some expansion on operating profit margin. We think that happens in 2013. And we set the stage for that. We successfully rolled out just for U. You might recall when we first did that, we had some partners, it created unstable platform for us. We've brought it in-house, and we rolled it out. We probably missed our deadline by about a month, but we rolled it out to the entire U.S., and we figured out a way to do that at relatively low cost, and it's working famously.

We secured branded partners in the field category, and we launched one of those in the fourth quarter. And since that time we've launched 4 other markets or 3 other markets. We're launched in Eastern, we're launched in Dominick's, and we're launched here in Northern California. It's really just in the early stages of rollout, but we should complete that in the next couple of weeks. And if you drive around the Bay Area, you should see that.

Also I've been talking about our Wellness initiative. I'll talk more about that in the 2013 discussion. I've been working on it for 2.5 years. We made some capital investments in the stores. You saw that in the pharmacy area yesterday. And the capital investment part to support that initiative is almost complete, 95% complete at this juncture. And then Blackhawk, performing just as usual, increased pretax income by 27% and earned $78 million on the year. And Bill will provide an update for Blackhawk a little bit later.

I wanted to focus on volume. I think the industry always focuses on ID sales, and they're certainly important. But underneath that, you want to have positive volume. And we have not had positive volume for a while. We actually bottomed out in the first quarter of 2012. And then, as some of the things that we're working on, most notably just for U, kicked in, some of our other marketing programs, we began to dramatically improve that.

Now the 0.3% number that we turned in, in the fourth quarter, we made a calendar adjustment there. You recall on the earnings release, we said that we were flat overall. We were up 0.3% in the U.S. But if you adjust for the calendar and you'd have to make the same adjustment in the first quarter of this year, we think that gives you a better flavor for the run rate of the enterprise, and this is unit volume. Some people, do market share, looking at dollars, we like to take the inflation out vision and look at unit volume.

I want to over -- give you a little history on the inflation, and I've talked about this for years. The average inflation for our company and the industry over the last 8, 10 years has been in the 3% range. We've replicated that in '06. We had much more inflation in '07 and '08. You can expect that, that would drive negative volumes not just for us but for the CPG industry as well. Then we had -- in the 20 years that I've been doing this, we had 2 years of deflation followed by 2011 somewhat normal, a little higher than normal, and 2012 was in the 2% range. I would have told you 3 years ago that I think the sweet spot for price per item and inflation is around 3%. I don't think it's at 3% anymore in this kind of economy. I would tell you the sweet spot is probably closer to 1.5%, maybe 2% at the outside. And I can show you that on this graph here. I could have done a scattered diagram, but I think you can see the correlation between inflation in the items that we carry in our stores and what happens to volume. So if you start with the first quarter, in relatively high inflation, relatively low volume. As we cut the inflation in half, volume really picked up.

Now this is happening, I think, to other retailers. I think our pickup is greater than other retailers as I look at their numbers because of all the strategic things that we have going on. But you can still see the correlation, and as it dropped down to something around 1%, we continue to improve. It's stayed at that level, and we continue to improve. I've said this a number of times, the dominant reason for our improvement in 2012 is just for U, and again I'll give you a lot of detail on that as we talk about 2013.

And then I've just overlaid for you the ID sales, and the only thing I'd like to point out here is the calendar adjusted 1.1% in the fourth quarter is infinitely better than the 1.5% we did in the fourth quarter of 2011 because that 1.5%, while it looks better on the surface, had a 3.2% unit volume decline, and that's not really healthy for the business. Whereas the 1.1% really had a positive volume at a time when the CPG companies are still generating negative volumes.

The other factor that's important to keep in mind because this changes over time, everybody here knows that when a drug goes off patent and generics come into play, it has a pronounced effect on our ID sales number. In the fourth quarter, that was really 60 basis points across the company. It would be a slightly different number in the U.S., and that was also true in the third quarter. But back in Q2, it was 30 basis points. Back in Q1, it was only 1/10. So we think that, that 0.6% number will be valid for the first couple of quarters, and we think that will soften a little bit in the fourth quarter. The importance of this is that the 1% ID reflected here, it plays out like the economics of a 1.7% because generics are so much more profitable for us. So we made as much money at 1% with the generics than we would have made without the generic change and an ID sales of 1.7%. So you can kind of equate those.

The other thing I wanted to comment on is relative price position, and I know I don't think -- I think people will forever go out and do 50 price checks, 100 price checks, maybe aggressively 300 price checks. What we do is a full book weighted by volume price check and we capture all the promotions that we and our competitors have going on. We do this by market. And in the last 12 weeks -- and these numbers change. They can change anywhere from plus or minus 0.4, 0.5 in a single 12-week period. So we're not troubled that this shows a slight uptick. Now that's against our primary competition in each of our geographies, and it's weighted by volume.

I thought it would be interesting for you to see for those that are just for U users what sort of price experience are they having, and you can see why we're building loyalty. With the just for U user, we're more than 6% lower than the primary competition. And then, if you look at the secondary competitors that we have, that's even more pronounced because they are priced considerably higher than we are.

And let's talk about market share gains. This takes you all the way back to the fourth quarter of 2011. And we're just looking at what we call the food channel, which are supermarkets. We had very good market share gains in that channel. I think any time you get in the 0.3% or above range, that's a serious market share grab. So we've had that now for 3 quarters in the first 7 weeks, and the reason I don't show you 9 weeks, this comes to us with about a 2-week delay. But we're running very strong, continuing to pick up pace in terms of the supermarket channel.

The other thing I wanted to show you, this represents all the operating divisions of the enterprise and so you can see our distribution. I love distributions. It tells you so much more about what's going on. And so I would tell you that there are 4 divisions that are gaining serious market share. And then the fifth one, very respectable. The next 2, we're just -- we're right around the dead even line. The other one is a little -- at 12 basis points off the pace. That's -- we'd like to be better there. We have one division that struggles more than the others in terms of market share. But anyway, that adds to the 38 and of course, we're beating that. I haven't looked at this distribution in the last several weeks but my guess is that the water is lifting virtually all boats here as our market share improves.

And then, I thought I'd give you another look at this. We look at our company and business units that add up to our total sales, and that's the way the marketing team is organized. And I wanted you to know that it wasn't just coming from a couple of categories. So that we have 14 business units, and 3 business units are gaining market share and 3 are not. But our goal is to have every business unit gain market share. So you can expect that we're making more adjustments in those that would have a negative share at this point.

Now let's move to the all outlet. And again, fourth quarter was our best number in terms of market share gain. In the first quarter, first 7 weeks, we picked that up. And I would expect, with everything you're going to hear about 2013, those numbers should just grow as we track through the year. I mentioned this on the earnings call, but it's important to point out, while I think market share is a very good measure to track, it's also useful to try to understand what's going on with square footage growth, and what this tells you is the market square footage grew by 1.6%. Our square footage actually contracted slightly. So that makes our market share gains that much more impressive because we're putting in a smaller number of units definition fewer fixed cost, and so the market share has a better profit contribution than it would if we had grown our square footage by 10% or even some other -- low single-digit number.

So let's look at the operating margin. I said at the outset that we met the guidance. The guidance was plus or minus 5 basis points in operating margin. It was a positive gain. It was 4 basis points. If you look at this chart, '09 -- really the back half of '09 is when we started making that investment, about $400 million in price. That investment continued through the first half of 2010, and those were also the years of deflation. So all of those things had a material effect in our operating margin. But I think some people think that our operating margin has been in free fall, and this would suggest that, that -- that is not the case, and we were little negative, 8 basis points in '11, 4 positive in '12, but let's look at some of the details here. The positive 4 is a combination of gross margin being down and in this case, 22 basis points, and operating expenses having been lowered by 26 basis points. So it's the addition of those 2 numbers. And so I think we stop giving guidance on O&A and gross margin a couple of years ago because it's really managed at this level. And so it doesn't matter to us if we can gain market share, if we can continue to lower operating expenses and gross margin ticks down a little bit, that's okay as long as operating profit margin continues to rise. And so 4 basis points. So in the last 2 years, negative 8 and positive 4. And then kind of drilling down into that a little bit, looking at gross profit margin, you can see the effects in '10, '11 and '12, but one of the things I would remind you is that to launch just for U, we spent a fair amount of money. All of that money was spent in the second and third quarter, so as we round the second and third quarter, we will have that comparison to go against. And so you would expect, that should have a positive effect on gross [indiscernible].

So if you're looking for run rate, which is what I would be looking at if I were in your shoes, and it's the way we look at the business, what is our run rate on gross margin. And our run rate says that we would have been down 15 basis points on margin.

Now if you look over at the operating expenses -- but for the 2 years of deflation, we've always been very good on this number. And I remember 1 year, this -- looking at one of these charts 1 year, where we had -- I think we had 8 years and we had 32 consecutive quarters of O&A decline. Now this 26 basis points of improvement was affected also by just for U. And so if you take out that onetime expense, it was 26 basis points and you would compare that to the '11, and you can see that we gained a margin there.

And then lastly, if you want to take out the legal settlement, which was in the guidance, you would adjust that by another 12 basis points, and you still end up with a positive operating margin change in 2012. And again, we expect to replicate that in 2013. So whether you look at it with or without, if you look at the underlying operating performance of the enterprise, we would say a positive improvement in operating margin.

Looking up our cost reduction effort, we had teed up about $315 million. And you should know when we put this in our plan, one of the first things we do in January of that year is we sit down and try to find insurance money. So sometimes I recall looking for $100 million, sometimes $200 million. So not everything works out as we had originally planned. But at the end of the day, I can't remember missing this number ever in terms of profit improvement or cost reduction. A lot of those things had to do with optimizing the business units and oftentimes, that has a gross margin effect being more efficient with advertising spend, being more thoughtful about how we run the category, more thoughtful about promotions, looking for better cost from vendors. And so that's always a big contributor. You'll see that in 2013 as well.

And then, you see supply chains contribute as always, still in direct expense and labor efficiencies, which is a combination of using less labor or in fact, removing labor altogether in some situations.

Now a lot of people like to focus in on the property gains. And some people like to sort of exclude them and say, "Well, if it weren't for the property gains, their numbers would have been x." I've said this for years, I will continue to say this, that if you're in the retail business, you, by definition, are in the real estate business. That is particularly true in food. And if you think about the supermarket business, a lot of family businesses, that's how they all started, they tended to own their real estate, they tended to own their shopping centers. And I've seen family businesses that have finally been absorbed or gone out of business, and the family is still flying around in a G4 because they kept their real estate, okay?

And so this is the net number, and what I want you to focus on is if you -- the other side of gains on the disposable of property is the impairment charges when you invest in the store where maybe it works for 20 years, and then it suddenly stops working. You have to do something about that real estate. And so if you go from 2006 to 2010, the net of those numbers has been negative.

But then, we created PDC. And PDC, which Robert will talk more about later, but PDC is -- we didn't go into the software business. What we did here is we did a logical extension of what we do as a supermarket company. We are the anchor tenant in strip centers. As the anchor tenant, we are the dominant draw. Because we have are the dominant draw, we add value to those shops. PDC gives us an opportunity to capture that value. So for those of you that don't like real estate gains, I'm going to say get used to it because we're going to get bigger and bigger as PDC becomes increasingly successful, and we're very careful about how we invest money in PDC, always managing to -- I have a great store and frankly, we think that we're getting better rents than a lot of the other landlords who would otherwise do that kind of development.

So we have $42 million in gains in PDC, we have $33 million overall. So that says that non-PDC, there were some negative numbers. And for those of you that are good with numbers, I guess, you're all good with numbers, we had forecast $31 million in gains from PDC. We didn't sell any additional properties. All we did was get $11 million more for those properties than we had originally forecast last year. It's also a source for cash flow for us. And if you look in 2012, $300 million in cash flow from real estate dispositions, $99 million of that came from PDC.

If you look at our capital expenditures, again, go back to '04 through '08, that was the period of heavy investment. That was the lifestyle transformation. That was an attempt to get 10 years' worth of work done in 6 years. So we've been able to moderate our spending. Also the way we did those remodels, you look at the store you were in yesterday, think about that store, it was lifestyle-ed in 2006, 6 years ago. I don't think it looked tired. And so we think we get more than you used to get out of a remodel because of the way that was done.

Have we thrown in a case here and there? You bet. Did we do some work in the pharmacy? Yes, we did. But essentially, I think Robert will review our capital spend plans for the next 5-plus years, and you'll see what we're anticipating. Just to give you a sense for where that money was spent, you've got a little over $400 million that was really spent directly on the stores, split almost evenly between remodels and new stores. Key [ph] always gets a fair amount of money on capital.

Supply chain, there are opportunities in the supply chain. Years ago, we looked at essentially automating our distribution centers. And where -- we looked all over the world at what people were doing, and we waited, and what we now have discovered is we can get 80% of the benefit of a fully automated warehouse without the heavy investment of that kind of automation. So sometimes being first is not that great. We'd like to be about fourth or fifth, and we'll benefit from that.

PDC, fair amount of capital, we think we're in that kind of in -- we're trying to get to that $200 annual spend level and -- because that's the kind of opportunities that we have in that space.

Looking at free cash flow, besides -- throw away 2009 for its unusual character or, at least, adjusted for the onetime tax benefit, and we've been in that range of $1 billion for the -- for 3 of the last 4 years, with '11 being a little less. But again, we'll talk about this in the 2013 plans, but we still have opportunities. We have opportunities on cost. We have opportunity on working capital. And that's why we can increase our capital spend and still have a very strong free cash flow target for 2013.

If you look at our cash dividends, our cash dividends were down as an absolute dollar spend in 2012. But that's because we bought back more than 3% of the shares in a relatively tight window, anticipating -- first of all, we thought the shares were undervalued. Secondly, we had a clear vision of our future. We think the first installment of that future happened in the second half of 2012, but we've had a habit of having some relatively high increases on -- as we evaluate that dividend on a once-a-year basis but the spend is down because the share count is down.

If you look at return to cash, we've returned a lot of cash to shareholders either in the form of dividends or in the form of share repurchases. And our share repurchases in 2012 average, I think, around 1 or 21 and some change. So by today's standards, those look good. But we're not looking to get a great return in the first 12 months. We're looking to get a great return over 5 years with those share repurchases.

Looking at our debt levels, we did finance the stock repurchase with some borrowed money. It might surprise some of you that our ending debt position in 2012 was $5.6 billion. But remember that Blackhawk business gives us a flush of cash and then we have a payable out there that gets paid early in January. And so today, we would be about $600 million higher in terms of our debt level. But again, a lot of our free cash flow this year will go for debt repayment. Our credit ratings moderated a little bit when we borrowed the money to do the repurchase, but we knew what our credit ratings were going to do before we borrowed that money. And we're not bothered by that. We've got one negative watch out there, but we think that as the business performs, that negative watch will go away.

Looking at interest coverage ratio, and I would remind everybody that I have a background in private equity. When I got here in 1992, our coverage ratio was 1.4, okay? And so I was always comfortable with leverage. And so we're not embarrassed by a 7.9, and 7.9 is going to get better in a relatively short period of time here.

So now let me shift in to 2013. I'm going to cover a couple of areas here, and then I'm going to turn it over to Robert. Our approach to growing operating profits for the company, certainly in the supermarket business, is to be focused on growing top line sales. And because we're in a low-margin business and because there remains all kinds of opportunity to aggressively manage the operating expenses without sacrificing the consumer experience. And we think we're good at that.

The sales strategy all centers around building loyalty with the customers. If you were to look at our most loyal customers, the growth in our most loyal customers has been near double-digit now for almost 3 years. And our cost strategy -- we think we've been pretty innovative, whether we're looking at operating expenses or whether we're looking at optimizing a category or a business unit. And we're very disciplined about how we approach that.

So let's talk about the sales momentum for 2013. Obviously, with the 2% to 3% ID guidance, we expect that is going to accelerate. There are 3 key growth strategies, we've been talking about them for over a year. A year ago at this time, when we were out in New York, we talked about 3 major platforms. One just for U, which is a clear innovation, I think the envy of our competition. Fuel, which is -- I don't think -- in the case of fuel, we have over 400 fuel stations ourselves. We know how important that is in building a loyalty program. And here, we've added some branded partners that's still rolling out. I wouldn't put that in the category of powerful innovation. However, connected to just for U, there are things that we can do in the fuel loyalty program that no one else can do. And so we innovate our basic program that others have and can do stealth offers to people that cannot be done efficiently by anybody else. And the stealth offers are made to people who have demonstrated an extraordinary response to a more than basic fuel offer.

And then I'm going to talk about wellness. And then, when Robert comes up, he's going to focus on center of the store and premium store. You all had an opportunity to go through the store yesterday that had both the center of store work as was also a premium store. So you saw 2 things going on at one time. And so we'll talk about how that will add to the growth of the 3 basic -- we used to call this legs of the stool.

When I first introduced this in New York last year, we said that we felt that any one of these independently can deliver 2% ID. They rolled in at different levels and let's also remember, we have people that are after our business every day. So why this 2 plus 2 plus 2 not equal 6? Because we're having to do some things offensively and defensively, and also these things mature at different rates. And that's why the guidance for next year sits in the range of 2% to 3%.

Diane has shown a chart like this, I think, for a year or 2 now. As we look at our marketing platforms, competitive price, you have to be there, and that was the purpose of that earlier slide. Then for us, we think, we can make differences in quality. I think you saw some of that in the products yesterday. You saw that in the culinary kitchen. And then, we think we can be the best at service, just says legendary, you have to just be the best and have you to exceed the expectations of your customers.

And then innovation. Innovation in all forms. We think there are elements of the wellness initiative that are powerful innovators. The digital platform, just for U, is a powerful innovation and probably has legs beyond that of our own company and the supermarket industry as we've talked to the world outside.

So we build our sales by building the loyalty, and increasingly people want a personalized experience. And probably a lot of that comes from the Internet world. If you are buying things on Amazon, Amazon has a good bead on the things that you like. And so they personalize things by saying, well, if you love John Grisham, you might consider these other offers. Think of just for U in much the same vein. So we think we are the first bricks-and-mortar player to take advantage of that information. And the real challenge for everybody with a loyalty card is managing the data. And we think we've cracked that code.

And then on health and wellness, you saw the facilities. You heard a little bit from Darren Singer, I'm going to go into this in a little deeper form. And then, again, Robert will talk about next-generation retail.

So the 2 things that are heavily personalized are just for U and the fuel rewards. And I'm actually going to have Robert cover the update in the fuel rewards. So what is just for U? Again, I'm not going to go through all the material we did last year, but it is a state-of-the-art digital marketing platform. We feel very comfortable in saying that. We're happy to look at anything that you think is better. It's relevant and personalized for each shopper.

We get about 9 million unique households to visit our stores in a week. We get about 22 million unique households to visit us in a quarter. We get about 30 million unique households that visit us in a year. Sitting in just for U are 30 million tailored offers. And they get adjusted every single week. And so now, if you are 1 of that 30, not part of the 22, what really happens is we don't have a lot of history on you because you're a pretty infrequent shopper. So your offers may not be as robust. They may be less relevant than somebody who spends $100 a week with Safeway. But if you're spending, I would say, $40 or more on average, we've got the information that allows us to be relevant to you. Encourage your shoppers to buy more at Safeway. That's the name of the game here, and we have multiple uses for just for U. We're having a good time targeting shoppers with new brands. This is a much more efficient vehicle for our vendor partners than carpet bombing in the world. And with the quickness that we now have on getting items to the shelf, it used to be 16, 17 weeks. We do it in 2. This is a good spend. And we can put free product in the hands of people that they target. So we don't give our data. We don't give a mailing list to the vendor community. They tell us usually brand by brand who their target is, what else they're buying, and then we're able to target those unique shoppers.

I'm not going to spend a lot of time on this, but this shows you the 3 elements: personalized deals, coupon center and club special. Keep in mind, we have about 8,000 club specials going per week. The reason that tab is there, it takes a household's purchasing history, funnels down those 8,000 and identifies maybe the 60 items that they have any history of buying. So it really sort of cleans up the store for them and think of it as kind of a navigation guide.

On the coupon center, there might be 200, 230 coupons in the marketplace. And we've stopped all the clipping on Sunday for a large number of people on the Sunday paper. And again, it's funneled to reflect their purchasing history.

And then the personalized Deals are in 2 categories, things that you have a history of buying and things that we think you might like. So it's now live in all U.S. markets with the plan to put in Canada early in the second half of 2013. I have commented on this a number of times on earnings calls. It's exceeded our expectations by almost 50%, expectations about incremental spend that we get out of users.

We had a goal to have 5 million registrants by the end of the year. We met that goal. We didn't stop. Right now, we have 5.4 million registrants to just for U. Without any special promotion, we're adding 20,000 to 25,000 a week. We've only advertised just for U on television once. And when we did, we doubled the registrations in so doing that. So again, it looks like a pretty good spend. We'll find ways to weave that in to 2013.

The incremental sales continue to be very strong. Given the range there, the low end of that range is the average of everybody that participates -- I mean, actually uses the tool. And the upper end of the range reflected there is people who we call heavy users. And I'm going to dig into that in a little more detail here.

So if we look now just graphically, the new news on this chart is there are a couple of divisions that have lapped 1 year. And just as we lapped in the lifestyle -- the lifestyle remodel gave us about 10% to 12% ID sales. When we lapped that year, we ended up getting 9% to 10% the second year, 7% to 8% the next year, and it normalized over about a 4- or 5-year period. So it's good to see that as we lap, we continue to get increased sales on top of last year's numbers. Some of that lapping, in fairness, is I was in the system last year and I'm spending more, and some of that lapping is I got a few more customers that are registered in using the system.

So 5.4 million registered as of February 23. How many of them visited the stores in the last 12 weeks? That answer is 4.6 million. So that would say people that have registered were almost at half that they visited the store. Percent of households that were shopping in the 12-week period, this is households that we would see in a quarter, so this is that $22 million number, about 22%. But of all those that are registered, they represent 45% of our sales. That makes sense. It makes sense that the people who are most interested in getting a tailored solution for them would be people that really like our stores. And I think I commented maybe last year, I think that number probably peaks out at about 65%. But frankly, at this point, we really don't know.

So what do we do about growing the participation in just for U? First of all, there's value, and I'm going to quantify this value for you in a minute. But there's value in growing the registrants from 5.4 million to 6.5 million to 7 million, however high, high happens to be. Also, we have some nontrial users. About 30% of those that have registered haven't really tried the system yet. And so we want to convert nontrial shoppers to redeemers. Then we have a group of light users. We want to convert them to heavy. And then we have a group of heavy users, and we still think we can increase there. Now we've done things in every one of these categories to move the needle.

So just to kind of give you a little sensitivity analysis, there is a lot of value in continuing to add registrants. So that if you add 1 million registrants, you can increase your ID sales. Add 1 million, should get a run rate of an additional 0.6 IDs. And so we will continue to do that in our stores without the heavy expense that we incurred in the second and third quarter.

Then if you look in the nontrial users, I'll give a little sensitivity range here in combination with light users. If we get a 10% improvement, that's a meaningful improvement in IDs. I think that fits almost in a no-brainer category. And then a 30% improvement, you can triple that number. Heavy users, a couple of bucks a week is meaningful because they're already heavy users. $5 a week is a real serious number. So just playing this orchestra, if you will, allows us to do that.

And how do we drive this? How do we drive people to do these things? We have an aggressive email campaign. We can do things in store that are very low cost. I'll talk a little bit more about the emails later. I wanted to give you a sense for how people have viewed it. These are users. So this is not research that we did. It's a third-party research. The question, would you recommend just for U to family and friend? 86% recommendation. That's a real solid number. I mean, that is a fantastic number. Does it save you money? 80% said yes. How has it affected your price perception of Safeway? This, I will tell you, is the single most powerful thing we have done to move price perception. All the advertising, everything else we did, somehow when you put money in people's pockets, they have a better perception of price improvement.

So let's look at another third-party survey. Ease of adding coupons. 80% said it's a really easy process. Now keep in mind, there are other websites you can go to that have digital coupons, but they're not all in one place like they are with us. So I'm actually surprised that 80% number is not higher. Personalized deals, do they offer good prices? The fact is the personalized deals are the lowest prices in the market. And so 76% are saying that. But they may not know what other people charge. They just know it's a good deal. Personalized deals are relevant to my shopping needs. That's a high number. Variety of coupons available, very high number there as well.

Then we did some internal research. Likely to use in the future, 85%; worth the time and effort, 83%; overall rating of items and offers, 76%; satisfaction with price savings, 3 quarters. I mean, these are really solid numbers, and that's why you can, with virtually no effort, add 20,000 to 25,000, where basically a part of that is using our shoppers. I remember -- maybe you all remember this, you could tell me 14, 15 years ago when we started the service initiative, we made a conscious decision not to boast about the unique service. Now others have tried to replicate our effort, but like Nordstrom, they never boast about their service. They would much rather have people who shop in their stores tell Nordstrom stories. That's what's been carrying us here for a while.

I want to give you a sense for what happens when you digitize all of these coupons and create a platform like just for U. Digital coupons, which should someday all but replace -- you would like to think that 5 years from now, digital coupons would represent 95% of the coupons out there. That certainly makes sense to me. To this day, it is 2% of all coupons happened to be digital for the industry. And you can see that we're 15x that in our most mature divisions, and we're not far off the mark in even the younger divisions on just for U, a very convenient way to save. And then, this gives you another cut at market share. Now we had to scramble together some numbers from this. We can't get comprehensive market data, but we can get information from some of our vendor partners. And even though, we have a 6% share of the food business, if you look at our share of digital coupons, it's off the charts. We're indexing at almost 700. So again, good numbers.

Mobile users are important, and mobile users are growing. The last time I looked at the numbers, a mobile user actually spends 44% more than a non-mobile user. That was the whole purpose of the mobile applications because you can do this in your downtime. And several of you are going to have downtime today, particularly if you're headed back for New York. You're going to have a hard time getting into New York. You're going to be sitting there at the airport. Wouldn't it be wonderful to go on just for U. And if you were in one of our markets, you could load up all of your value on personalized deals and digital coupons.

So in terms of weekly redeemers, these are mobile, mobile, by our estimates and those of others, about 58% of people have a smartphone. So this number has a lot of room to grow. So in Safeway, week 43, we were at 27%, week 2, moved up to 32%. Norcal, one of our more mature divisions at 36%. These numbers will continue to grow. And because they spend more, this should be good for ID sales.

In terms of the marketing that we've done for just for U, we've tried to be comprehensive in that marketing so that we have mobile applications and we have mobile ads. One of the things that we do, we didn't do this at the start, because remember when we started we had an unstable platform, we had no courage to go to the media and tell them about just for U. We brought it in-house, stabilized it, made sure it was stable. And then after the Southern California launch, we went to the media, got them signed up, got them informed, went to bloggers and used that sort of free media, if you will, to boast. And I think at one point, impressions, what, over 400 million impressions. I mean, it was a big deal in all of our markets. And then we used traditional media, radio, inserts, direct mail and news, we do email, we do in-store point of sale, and we use social media in advancing just for U.

Now we have a TV commercial just to kind of give you a look at how that has played out. Just the only one we've ever done.


Steven A. Burd

Okay. That's the commercial that really spiked our registrations. We got great CPG participation. We started, as we began to experiment with just for U, with only 7 vendors. Now we have over 100. That, of course, we're increasing the number of digital coupons, making a whole series of targeted offers to different segments, new trial, upsell, cross sell, lost shoppers, and new marketing and some segment targeting. If you look at just the kind of offers we can make to target when there's a new item, we have a powerful effect in putting that new item into the hands of consumers, and we do that with regularity. And CPG companies are thrilled with the kind of response rate that we've gotten. And the brand managers define a lot of those targets, and we support it with a weekly campaign.

I wanted to show you our top 5 vendors. When I first saw this slide, I wanted to show you my top 4. But let's show you the top 5. What I'm showing you here is the sales growth with that vendor partner relative to the growth that they're getting in the rest of the supermarket channel. So in the first case, there's a delta of 4.7%. You can see why they like it. In the second case, that number is 3.3%. Still good with company C, still good with company D. Company E, we have growth, but in that particular category, and I can think of the category, we had some extraordinary promotions in previous year, it didn't enter our plans this year, and that's the reason being on the negative side of that delta. But I could show you the top 20. It's a very good story.

We do 8 million emails a week. We have the highest open rates we think in the sector. We are better than 3x what normal open rates would be. Millions of different offers. I said, 30 million offers, and often sponsored by the CPG companies. So here is an example -- I think this might be an iPad application. We -- here's the -- separated the items you buy, and there would be 6 new items at each week, and items we think you might like. And then, because it has some products on this list, we featured one of our vendor partners at the bottom. And we can do this with new items. We can make it a theme-based or seasonal, anything we want. Here's a theme-based one really focused around breakfast. So you just let your imagination go here. We have a near infinite number of possibilities.

We also think it's a great defense in dealing with competitive openings. We've used it repeatedly in that regard, so we can focus on the people whose business declined, make unique offers. We know what they're no longer buying at our store and encourage them to come back. It's also helpful if we have a fuel offer to go with that because of people's sensitivity to fuel.

Looking ahead, we continue to make enhancements. Some enhancements are more substantive than others. I looked last night, we've done 150 enhancements to this since we launched. We usually do about 10 or more things at a time, and the trick is to keep the system stable while you make those changes. That wasn't possible when we had a partner. We do not have an iPad application for the non-Safeway banners. That's coming. And so we still have lots of work to do. And I think someday, somebody will, who competes with us, will have something similar, but we should have 3 more years experience than them and we're a whole lot smarter today than we were 2 years ago.

We think that it's the best-in-class loyalty innovation. It's driving market share gains. We purposely decided to do something that would give us a sustainable competitive advantage, and we think it's the marketing [indiscernible].

Now I'm going to move quickly into wellness, and big vision here. Today, we're a supermarket company. We're a grocer, if you will, selling wellness services and wellness products. I think in 10 years' time, we [indiscernible] part of more of a wellness company selling food. That's the opportunity set. If you look for the answer to the question, what is the highest growth sector of the U.S. economy over the last 50 years? It's health care. With baby boomers getting older, that's not going to change. With the few companies and governments being able to control health care spend, this is where you want to be. This should be the highest growth piece of our business for the next 10 years, and I think Safeway can own the wellness space.

Three things I'm going to talk about. One is bringing in a totally new service. It's a big impact, I want to talk about some other new services that would be smaller impact. We call it expanding into the whitespace of wellness. The opportunity is available to us because of the high profile that we took in health and wellness. We're known throughout the land as somebody who's really good at this. So when our technology partner saw an opportunity in retail, they came to us.

We can drive core pharmacy growth through some loyalty programs, and we're trying to transform really the patient care model. I think in the groups that I was with yesterday, and we've said this internally in the company for over a year, we don't think of pharmacy -- people that visit our pharmacy as customers, we think of them as patients. It's a mindset, and it creates a whole new sensitivity with the employees that are servicing those patients.

So I'm going to give you a bit more information about the whitespace expansion. I'm still going to hold back for 2 reasons. If I told you everything we were going to do before we did it, it would compromise our ability here to catch our competition by surprise, and it would compromise the results. So I wish I could do more, but you need to understand that I've been working on this personally for 2.5 years with, at least, 1/3 of my time. We've made significant capital investments to support this. And after Robert was made President, I stepped up my time commitment on this initiative to 50%. And so we're not asking you to change any of your projections. We're not asking you to increase ID sales. We're merely trying to inform you that this is a serious initiative, and I'll just try to scale it for you.

The addressable market, now that's the market in the areas and geography in the U.S. in which we have stores. We think that market is about $4 billion today, and we think that market is going to double over the next 5 years to an $8 billion market. I like the competitive landscape here. So much of the business we do, we have to take business when discounters, dollar stores, other conventional supermarkets. There is no one in the retail food or drug space today that is doing what we're going to do. And so it takes us into another arena. In that respect, it's a lot more like Blackhawk, where we got into the gift business.

Competitive advantages. I'm going to give you a partial list, because if I gave you a much broader list, you'd start guessing. We'll be priced 15% to 50% below our competitors. We'll be more conveniently located and will operate with expanded hours. That's just the beginning. But it gives you a sense on why we might be able to take market share.

In terms of sales leverage, we're going to leverage our existing traffic, and we believe create a destination. And so people will come to us for this and other services, and 95% of the capital investment has been made.

Shifting into some other areas. We're expanding the health services, I'll explain which those are. We have simplified the shopping experience in OTC, that lower counter, more accessible pharmacists, more accessible staff. When I go to the cough and cold isle, I don't have a clue what I need to buy. The pharmacists in our stores will know more about what you should take than most physicians. This is their game. And we want to give them free access to the sales floor. And they will play more of a role counseling patients on their medications and providing advice.

So our goal here is to engage more with the patient community, use our pharmacy team to explain the added services. We've created a much more professional environment. I read an early report this morning, I kind of liked the description they gave. Someone who had been in the wellness center last night said it was sort of like a spa. We created its own environment. When you're in that environment, you do not think you're in a supermarket. And frankly, we think that's a key point of being in this business.

And the other thing that we're able to do is we look at well what do we have that drugstores don't have. We have shoppers who spend $100, $200, $300 a week with us. So our loyalty program in pharmacy is built around grocery spend. Because no matter how hard you try, you cannot spend $300 a week at a drugstore. And if you do, you're going to pay 15% more for your merchandise.

Growing the core pharmacy, we've been very good at acquiring new patients, retaining them. We were really among the first to be in the immunization business. Specialty drugs -- in 10 years time, if you're not in specialty drugs, you're not in the pharmacy business and then step up the counseling. So there were insurance companies today that are willing to pay for this counseling. And in the diabetic area for example, we have our pharmacists certified to be able to do this, and they deal with all aspects of treating the patient here. It's a real opportunity to improve the health care of people that are shopping at our stores. It's particularly valuable, I think, to type 2 diabetics who have more -- have fewer weapons at their disposal to really contain their glucose level. And we get rewarded with some of the insurance companies for actually lowering the A1c level of the diabetic.

We're involved with UCSF and some groundbreaking work on smoking cessation. We have 11 million smokers in our market. 8 million of them would like to quit. It's not easy, and we think that working with UCSF and doing a combination of the right smoking cessation product in combination with some behavioral modification is really the key to doing this.

We've been successful in our company with weight management. We have a 21% obesity rate in the company versus the nation at 32% or 34%. So we think we can add value there. We've expanded our diabetic set. We've expanded our gluten-free set, and I talked to you about the patient environment. So let me just sort of advance here a little bit.

I talked about how many shoppers would like -- or smokers would like to quit. If you visited the store last night, you would have seen something like this, much lower counter, better access. We think that makes a huge statement. No one can walk into the Blackhawk store from this point forward and not know we're in the pharmacy business. And if you were having a flu shot, which environment would you prefer? The one on the left or the one on the right? I think, you'd pick the one on the left.

We have increased our offering in healthy foods. We've created a tag system called SimpleNutrition that calls out the basic feature of the product. That will soon be supported by a website that will allow someone who's been told to lower their sodium content, maybe they want to lower sodium, reduce fat, lower cholesterol, and they can go into that website maybe in a month or 2, and they can design a whole new dietary program for them. It will be integrated to what you see in the store. And then we make personalized better for you options available on just for U.

Some of the new partners, UCSF, who we had a relationship long time, now that's a real strategic relationship, not only for lowering our health care costs but also helping us with the pharmacy business. And if you don't know, the UCSF pharmacy school is the #1 rated pharmacy school in the nation. So we are fortunate that we have the #1 school in close proximity.

Diplomat is our specialty pharmacy partner. We elected to partner with somebody rather than start that from scratch. Others have made acquisitions. We're quite comfortable with what we've done here. And then we have a new supplier for our products, and that happens to be Cardinal Health.

So I think, Robert, you are due up. And I think, Melissa, you took 5 minutes of my time, so I think we're good.

Robert A. Gordon

We tried to estimate times before the meeting started, and Steve is right on schedule, which is not surprising. The next topic on the agenda is our fuel program and we're very excited about positive benefits that we are beginning to see from this program and that we expect to see through the balance of the year and next year as well.

Our base fuel program, that continues to drive positive ID sales. If you look at stores that have a fuel site compared to those stores who we do not have fuel, there's a differential, a positive differential of 2% to 3% on the IDs. Now as you know, we've launched a fuel partner program, both with Chevron as well as Exxon. Program with Exxon started in Vons in Southern California during the fourth quarter, very pleased with the progress we're seeing at -- we're just now starting the program with the Chevron sites in Northern California. So for those of you who visited the Blackhawk store last night just across the street, it was a Chevron station. If you were a shopper and earned rewards at the store last night, you could've walked -- drove across the street to the Chevron station and redeem those rewards. And so by the end of the second quarter, 94% of all of our stores will have a fuel partner store available. And so we are very excited about the potential for sales ramping throughout the year based on our fuel program.

Now just to -- just for those of you who might not be familiar how the program works. It's very simple, understood by our customers. Essentially spending on either groceries, gift cards, which has a multiple applied to it or in the pharmacy, you earn points based on the dollars you spend. On the right, you can see that those points were then converted into cents off per gallon. As you know, gasoline purchases are an emotional purchase. And based on the current price of gasoline, the perception and the perceived benefit by the customers is generally in excess of the economic and the financial cost and so it's a win both to the consumers, as well as our shareholders.

So again, just a photo here in -- of the -- of our program and the signage and the messaging. So we're getting significant benefits and -- with our customers and attracting new customers and so you'll see the signage of the Chevron here in Southern California, again, some signage in the fuel side, informing the customers of the rewards. Here's a photograph of a customer redeeming rewards earned in our stores at a Chevron station. And then here is one of my favorites. Diane and Mike Minasi had come up with this program of using billboards in Southern California. Very impactful, very simple message, very impactful. When you see that the billboard, you got it. Shop at Vons, save at the pump. Here's just a quick shot of the program again. Exxon, we're very excited to have Exxon as a partner that would have launched at our stores in the eastern part of the United States, as well as our stores at Dominick's in the Chicago area and very pleased to have them as a partner.

So this is the last slide on fuel. So if you look at the bottom of the chart, on the first row on the bottom, we list the partner stations that are either now available or will be by the end of the second quarter by geography. And then on the last line moving from left to right, you can see the number of Safeway stations that we own at each of these markets. So simply -- if you'll just simply do the math, divide the bottom number into the number above, you'll come up with the multiple increase in the coverage we'll have by geography.

So let's just look at Vons in Southern California. Since we rolled, there will be an additional 1,068 fuel sites that our customers can redeem those awards. Based on the number of stations we have in Southern California, it's a 46 multiple relative to what we have now. And since Northern California -- since we're just launching that program at an incremental 742 locations that our customers can redeem fuel rewards. And if you look at that relative to the number of stations that Safeway owns, it's an increase of 19x. So a significant increase to the number of locations that our customers can redeem their awards, what I think is particularly helpful given the current cost of fuel pricing. So we're very optimistic about the benefits for our expanded programming, including our partners.

So let's just talk about next-generation retail. So our objective here is to differentiate our brand and create a distinctive shopping environment for our customers. And 2 of the key areas that we're doing that, you saw last night at the Blackhawk store both the center store program and the premium concept that we'll be rolling out. And so again, we're trying to create specific destinations within -- in the store, we're trying to move from stocking shelves to selling benefits and solutions and we're trying to elevate the experience. The shelf -- the configuration of the center store for grocery stores has remained the same for a long period of time and many people view that as a chore attached to shopping. And so we're really trying to elevate that experience through assortment, improving the relevance of our products and grouping those products together, we'll comment on that just a moment, and then grouping or clustering stores based on similar behaviors by customers, as well as demographics.

What is shown here is a heat map for one of our stores. So in a number of our stores, we have camera systems in the ceiling, so we can monitor how customers are navigating the stores. And so as you look at one of the schematics for our stores, you can see the heavy traffic pattern is shown in red and is basically customers looping around the perimeter of the store. You can see why the original lifestyle store focused on the perimeter of the store. So as you look at the cooler colors in the middle in the center store, either green or the dark blue color, that represents opportunities for us. And as we focus on this center store project, the objective is to get an increasing number of people down the center of the store.

So the insights that we've collected that are driving our center of the store project is that consumers generally view the center of the store as undifferentiated. They spend less time there than we'd like them to and the mentality often is "Get in the aisle, get what I need and get out," little time for browsing and mostly focused on price and item. And so there's really -- it establishes an opportunity for us to engage the customers and to try to differentiate our experience and capture a higher percentage of our -- the wall of our customers.

So our objective is to provide points of interest. And so in the store last night, you should have realized a number of points of interest and we'll point those out in some photographs here in just a moment. Our objective is to try to improve the relevance, the adjacency of a number of our items in the essential zone, which would have been just past the cash register, the point-of-sale system moving back toward the pharmacy, organized baby and pet together, as often families with babies generally have pets. So we think those projects go -- those products go well together.

We're focusing on solutions. I think wellness is a good area. So if you think of your experience last night at the pharmacy, we think that the adjacency is tied well together, being close to the pharmacist can help with over-the-counter drugs and health and beauty and those kinds of items. And one of the other objectives is in the center of the store to improve the accessibility and navigation. And so we've provided improved signage that will help navigate that. We've lowered some of the gondolas, so clearer sight lines and improved navigation at the store.

So essentially the idea is to create 3 different destinations within the store. The first would be meals and ingredients. So last night in the store, if you were in the produce section, you saw those -- the cutout work that we have done that draws customers into the meals and ingredients area. I'll show you a picture of that in a moment. That's adjacent to produce and then to meat, which is a logical setup for how a family would put together a meal for dinner, but the healthy -- the living healthy area includes the pharmacy in that area where you saw the lit shelving and all the work that we've done in that area. I'll show you a picture of that in just a moment and then the everyday essentials area where a focus on value -- and again, this is in the area from the cash registers back toward the pharmacy, where we put baby, pet and health care together. We think those are logical adjacencies. And the real overarching objective is to integrate the center of the store with all of the work we had done previously in lifestyle area stores.

So this is the actual schematic for the Blackhawk store. So if you think as you came in on the right-hand side where produce is and where the cutout we had done that will integrate meals and ingredients with produce and meat everyday essentials and the front part of the stores and then the living healthy area back by the pharmacy. So now just a couple of pictures and these are actually from the store that you visited last night. So this is the cutout section here, and the thought is that as we move through different seasons of the year that we can change out this merchandising and the signage. And the results so far are very positive reaction from the customers. And more importantly, sales are up significantly in these areas based on the work that we've done in this store and others.

A photograph of the living healthy destination. Again, this is a photograph of the pharmacy looking forward. And last night, as we're making the tour, I was standing close to the pharmacy and when the customers who were shopping this area, I could see you'll spend some time in here, walked up to the pharmacist. And based on the new counter with pharmacists, our pharmacists came out, the customer engaged the pharmacists, discussed an item. And then exactly what happened, why we actually did this, the pharmacists discussed the needs of the consumer, came outside and walked the customer right to the item, helped them, advised them on what to pick and so we're trying to make the pharmacists a much more important role within the store. And based on the work that we're doing, it's actually happening, which I think will have a significant improvement in improving the loyalty of our customers.

Here's the everyday essentials area. Again, this would be from the cash registers looking back toward the pharmacy, so we've organized bed -- excuse me, pet, baby and home care here, lowered the gondolas, sight lines are improved, accessibility is up, and these are categories that historically we've been leaking some share. Based on the work that we're been doing here, we're very optimistic about regaining that share and capturing a higher percentage of the walls of our customers.

So the last slide on center of the store. So we are growing total sales, not just in the areas of the center of the store, and very pleased with the growth here. 50% of the increase is in these center of store categories that we've talked about. But we're also getting a halo effect of increased sales in the perimeter of stores. And so I'll tell you in just a minute how many stores we plan to roll out. But I hope you can feel the enthusiasm both from the employees, the corporate employees who are here and you saw last night, but actually more importantly, from the employees in the store. The enthusiasm that we're seeing in these stores, it's helping contribute to the positive results because they know we've got a great addition to the portfolio here, they're energized and when you can get that kind of enthusiasm at store level, it translates into higher IDs and higher operating income dollars.

Now let's talk about the premium concept. So in the Blackhawk store last night, in addition to seeing our center of store remodel, we've also remerchandised the store to be a premium store here, because what we're seeing is growing need from customers that fit into this demographic for a more organic, more natural, more local products, more products that have international theme to them. As you know, the premium -- as you know as well as we are, the premium grocery competitors are doing well and gaining share.

So as we look and cluster our stores, we think there's 300-plus stores that fit into this category of being a premium store and we're targeting here. And so as you think about all the work that we did on lifestyle, we upgraded the experience in the store with our lifestyle investments through our premium effort, we want to take that really to the next level.

So this is the consumer that we are focusing here on the premium stores. They're doing well. They're generally affluent. They're seeking quality, enjoy preparing meals, generally skew higher on an education index, like to cook, like to focus on fresh ingredients, experiment with ethnic choices and is less concerned about the price and item.

And so as we think about the 4 attributes and areas that we're focused on at the store, it's assortment, merchandising, store experience and then store standards. And so as we think about what you -- think about what you saw in the store last night. What we're focused on the assortment is expanding assortment. I'll give you some detailed numbers by area here in just a moment.

In merchandising, we're focused on solutions. And then in in-store experience, I hope you detected, particularly in the produce area, we have added labor, so that we've got more people on the floor that can assist, and other areas in the store, in wine and then the cheese area. And then you think about store standards, we're really elevating the standards within the entire store. And so as you think about it holistically, we're going to operate these stores -- we are and will operate these stores with a different mindset.

So now just a couple of photos to show. Essentially, we have a wine steward on the left, so there's cheesemonger here. And so for selected employees in the store, we are educating, upgrading those who have specific knowledge and interest and passion for those areas and we think that will translate into higher sales and increased loyalty.

Now as you moved around store last night, I hope you appreciate some of the new assortment that we've added. Grass-fed beef here on the left, free-range chicken and the particular variety here is quite popular here, the Primo Taglio line here. We've expanded and that resonates well with our consumers. We've added significant number of SKUs to our cheese area. This is a new fixture that we've added in the produce department. This will be a view from that cutout section that shows those items and many of the new SKUs that we've added at produce are organic.

And so as you're thinking about the number of organic SKUs that we had in the store last night, we are equal to or exceed any store in North America in terms of number of organic products. The number of products we've added in the bakery area here, seafood, expanded the number of seafood offerings. Consumers are resonating particularly well with the number of those items in the store. And so if you look at these numbers on the chart, essentially, if you look at produce, you can see the number of SKUs, what had in produce before, the number we had in the store last night that you'll see so -- and on the right, you can see the incremental number of SKUs we've added again in produce, a high percentage of those would be organic and then what the percentage changes here, so you can go through that math there. Other areas where we've added a significant number of SKUs in the store you saw last night and will be in all of our premium stores would be wine as well as cheese. And so one of the key elements we're focusing on is expanding the assortment, particularly focused on organic and the natural and local products.

So here's the last slide on both of these concepts. So in center of the store stores, we're seeing outstanding results to date. Again, we are driving the total sales in the store, not just of the categories in the center store. So our objective this year is to complete 250 remodels for the center of the store. In the premium area, early results are very strong. And our objective there is to remerchandise 100 stores by the conclusion of this year.

So at this time now, Diane is going to come up, give you an update on where we're at on clustering and then cover our private -- the innovation that we're seeing on our private label products. And then I'll come back, I'll just talk about a few financial results.

Diane M. Dietz

Okay. Thanks, Robert.

Robert A. Gordon

It's you.

Diane M. Dietz

Okay. So as Robert talked the premium concept, what I wanted to do is just take a minute and talk broader about clustering, which has really inspired the strategy. And really, the simple essence of this is there is not a one-size-fits-all. So the challenge is to make your brand feel unified yet resonate and connect with your shopper at the local level. Because when you really meet the shopper needs, they feel like it's their store. They feel like it's a store that knows them and understands what they need.

In the past few years, we talked clustering and I wanted to just briefly touch on kind of what we've done on clustering over the past few years. For those of you who have been with us, you'll recall, we've talked it in past investor conferences, and for those that are new at that, it would just be kind of a good flow to understand where we've come from and where we're going.

We started out with really comprehensive store clustering where we actually looked at every single store within Safeway, across all banners. And we looked at segmentation, demographics, and I'll get into get into a little bit more detail of how we clustered a store and really got into the details of the shopper data. Many comments came up last night on how do we use our Club Card data. Well, one of the thing that's really powerful is looking at the choices the consumers make down to the store level. It really gives you a lot of insight into what the shopper is looking for.

Wine is our most clustered department. And when I arrived at Safeway and really dug into the wine business, I found it really interesting to see how many clusters we had in looking at the demographics, looking at the needs of the shopper. And obviously, varietals down to the local level are very critical in wine, which really inspired my team to think about. If it works in wine, it probably will work in a lot of categories.

So at one of the last conferences we had with folks that attended, we talked about some of the specific categories. And really, across the store, there's many categories where this is very applicable. And we shared examples in coffee, for example. So think about a premium cluster and you were in a premium store last night. Coffee will vary quite a bit in a premium store, more Starbucks, more Peet's. So again, we're going to focus the brand based on the shopper and what they're looking for. And we looked at many categories and we prioritized the categories that made the most sense. There are some categories that make less sense. So this is what we really focused again. And then we started to think about, "Okay, how do we take that to the next level? How do we apply this across the board and how do we really start to differentiate the experience?" And Robert touched on premium. This applies to centers of stores as well. So when we think about other categories in the center, we have to be cognizant of which shoppers come in and what they're looking for.

So again, stepping back to how did we cluster the stores, how did we think about it. We started with really looking at demographics, psychographics. We mined the Club Card data, looking at what the shopper was purchasing store by store. And price sensitivity obviously plays a big role within this. Many of you had a chance to meet our division presidents last night. We work with the division presidents to look at every single store because sometimes, we might we at the data and the data may tell us something but yet, the division presidents are in the stores on a regular basis. So they gave us insights to say, "Okay, maybe the data's showing its premium." But we also have like a store -- I'll take Lake Tahoe, very premium clientele some parts of the year and then there's also a fair amount of value shoppers and blue-collar shoppers. So again, we had to play that kind of detail and that kind of discipline to the clusters.

We then came up with what I'll call 3 parent clusters: premium, mainstream and value. And you see kind of the breakout of the percentage of how these stores go across the company. The thing that's been interesting to see which makes a lot of sense is the economy and the recovery has been bifurcated. We've seen growth in the value stores' number and we've seen growth in the number of stores in premium. So it has moved to different ends.

The thing I wanted to stress within the clustering is while we have 3 parent clusters, that is not all we have. We look much deeper and we have multiple overlays that we apply to each store. And I listed just some of them to give you an example of how we think down to the shopper level. We might have a value store. That index is very high with Hispanic shoppers. And we need to make sure we have offering and the assortment that meets that shopper's need.

So again I just wanted to give you a quick example of just some of the clusters in a very brief idea for you to understand how we think about that shopper, how we think about that cluster and then how we apply some of our choices in assortment, merchandising, et cetera. Robert touched on premium and there's a few others that I just wanted to again highlight just to give you some insight. Our efforts are not just against the premium shopper. We have efforts against many of the shoppers within our set.

So I'm not going to spend a ton of time on premium. You toured a premium store last night. You got to see firsthand how we're inspired by the shopper, how we think about the shopper and we look obviously down to the demographics of the shopper. We touched on this, as Robert is a creative cook. It's someone who wants gourmet offerings. Index is very high with organic, local, fresh and healthy. The assortment is obviously very dedicated towards this type of shopper.

Let me go over to the Hispanic shopper. Again, there's a big bucket called the Hispanic shopper. And the important thing is to really think about which shopper are we going after within that set. If you look at our markets, we have a high percentage of Hispanic shoppers. In California, the last census indicated 37% of California is now Hispanic. So when we think about the Hispanic shopper, we are going after a certain shopper and this shopper is the acculturated Hispanic. They've been in the country. They're typically bilingual and in many cases, English-dominant. And what we found in spending time with this shopper, this shopper is looking for different things than their parents were looking for. So they don't have the time to make every meal from scratch. They're looking for easier ways to actually bring their heritage alive with their family, yet stay true to their heritage. So again, this is a shopper we spent a lot of time with. So you toured a premium store, you can also go in the stores where you would feel the effort that we've placed against this shopper.

Life stage is another very important consideration. At our dinner table last night, we talked about millennials. Obviously, that's a life stage, and folks were talking about how do they index with Just for U and their digital engagement. Another very important life stage that we focus again is boomers and retirees and empty nesters. Again, that dictates have you assort, how you merchandise. This shopper is not walking in and looking for a package that has 5 or 6 steaks. They're looking for smaller pack sizes. They're very focused on health and wellness. And when you think about the Rx behavior, this is a really important target for us because unfortunately, as we age, we need more prescriptions. But fortunately, for us, we think we can better meet those needs. So again, a lot of nuances as we think about this target.

Value. We have done well against the value segment and we've looked at and we actually look at the IDs by segment. The value shopper is another very point shopper for us and as Steve and Robert have talked in the past about Just for U, we know it's resonating. We know fuel rewards are resonating with this shopper. This is a shopper living on a budget. This is a shopper that's living paycheck to paycheck, lower income, food stamps. And many of these shoppers are also in the WIC program, which is women, infants and children. We have made a conscious effort to serve this consumer and make sure that this shopper feels the same kind of care and service that a premium shopper feels. When they're checking out, they don't want to feel as if they are being treated different because they're using food stamps. The other thing with the WIC program, we've actually signed different items on the store shelf, so the shoppers are aware that, that specific item, like infant formula, is part of the WIC program.

Again, we think about value merchandising. We're very cognizant of the end of the month effect with this shopper. They are often really squeezed by the end of the month. They have to buy smaller sizes toward the end of the month and it becomes fill-in [ph]. It's not a stock up at the end of the month. So again a very, very important shopper target for us.

Okay. So now I'm going to move into differentiated offering and many of you had a chance to tour culinary center yesterday, which is obviously a part of this. I would say having spent 20 years at Procter & Gamble on the CPG side, we have a very powerful organization that is dedicated to bringing a differentiated offering to our shopper. And what we try to do is really combine the best of CPG with the best of retail. We have folks that have worked as brand managers and marketing directors that work in this organization and we also have retailers that work in this organization. So really that gives us a competitive advantage.

I want to touch on our strategy and how that guides all of the work that we do within this organization. At the end of the day, it's about building loyalty. It’s about creating unique brands that have our shoppers want to come to our store because they can't get the brand anywhere else. And so we are very focused on innovation. And I guess the key point I wanted to make as I kind of list off the strategies, many times, you think about private label and I remember thinking of this when I worked at P&G is that retailers are just going to knock off the brand that we launched. That's not what Safeway is about. We are about true innovation versus replication. We actually look at trends. We try to meet our consumers' needs in a unique way, and we are not about replicating the national brand.

We try to build lifestyle brands. You've heard this term before. What does it mean, a lifestyle brand? A lifestyle brand is a brand that it's such big idea, it can go across multiple categories. And I'll talk a little bit about that. And that's again a unique competitive advantage. Many of the CPGs, they're in a brand world and a brand silo. They're not thinking about how they take that brand across multiple categories because often, they are just -- they have their brand lens on.

Health and wellness is growing. It's an important segment. As Steve talked about it, it's a cornerstone of what Safeway is about, and our private-label business innovates and focuses on health and wellness. We have also spent a lot of time focused on our quality. One of the things again from my background as we use to call it, a moment of truth when your consumer tried your product. It may look great on the shelf, it may have beautiful packaging, but at the end of the day, it's when that consumer experiences your product. When the mom uses the diaper that you made, when the consumer tasted the new cereal that you launched doesn't live up to the quality standards that they expect. If it doesn't, you won't get them back, they won't be loyal. And it's our brand with our name, so that quality has to rise to the level that delights our shoppers.

And then we prioritize must-win categories. I know this is another question that came up yesterday. How do you pick the categories? Well, you look at where can a private label brand really generate sales, market share growth, income, profit, et cetera. There's some categories that don't lend itself as well or there may be a national brand that's so strong that really it doesn't make sense for us to be in that category. But in the categories where we have made an effort to go and innovate, we are typically #1 or #2 within that category.

Today, I want to talk a little bit about where we're focused on differentiated offering. Obviously, we're focused on high-growth segments: Health and wellness, organics, open nature, eating right fits into that. We have efforts underway on Hispanic. Because we're trying to be brief and focused here, I'm not going to get into that. But we actually have a powerful idea that we're working again within our private-label business in addition to the assortment efforts I talked about earlier. We have repositioned the Safeway brand kind of on 4 key pillars: care, kitchen, farm, home.

And again, that makes a lot more sense, and I'll show you an example of this. And then we have innovations in 3 very big categories. If you look at our results in 2012, we're very proud of the results that we have. We've grown our market share 25 basis points, sales penetration up 20 basis points, and our ID sales growth is 1.6. We are growing at a faster rate than the national brand.

So what defines the success? Why do we feel good about what we're doing? I thought it might be interesting for you to see kind of how we believe we have driven this success, and the first thing I would say is for those of you who attended the culinary center, hopefully, you are impressed, and you weren't necessarily impressed just by the facility. For me, it's about the people that are in the facility. It's not about the kitchen. This group of chefs has over 125 years of restaurant experience. They were trained by chefs like Wolfgang Puck, Julia Child. Pretty amazing. They're not over there just taste-testing, they're actually developing new products. They know the trends in food. So again, this is a competitive advantage. The French bread you tasted last night, they came up with the recipe to make that French bread.

We have a very balanced portfolio. This may surprise many folks, but we appeal across all income. We've got a very strong business and a high household penetration with folks making below $30,000, and we have a high penetration with folks making above $100,000. And often, what we hear is many of the brands are not even perceived as Private Label. Open Nature, for example, most people think it's a national brand that's out there, again, based on the innovation we brought. We focused on kind of core consumer needs: convenience, nutrition, value and experiential.

And then another point that I think is a competitive advantage is we self-manufacture many of our products. And again, that gives us the ability to focus on volume and driving cost out. It gives us the opportunity to make sure that we're delivering the best quality and that the ingredients don't vary going through a different third party. We are focused on our own ingredients and our own ways of making the product. We have lifestyle brands that range from value brands and really target towards the value shopper. We've got premium brands. We have brands that go against specific target shoppers like Mom to Mom. So again, we've built a house of brands that appeal to very diverse and different consumer targets.

Health and wellness continues to be an important area for us. These are kind of our 3 big brands in that space. They appeal to different target shoppers. In the U.S., over 70% of consumers are buying organic, either food or beverage, within the last year. It's a growing business. It's a growing brand. I'll touch on Open Nature and the success we've had there. And then I'll talk a little bit about how we're repositioning the Eating Right brand. But in 2012, these 3 businesses represented over $750 million in sales.

Open Nature is a brand we've talked about in the past, very, very simple consumer insight. Nature has nothing to hide, why should your food. We're so proud of the ingredients in this brand that we put them on the front of the package, because often, you read ingredients and you don't even know what's in your product. This is an all-natural product. We've had outstanding sales, up 50% in year 2, and we have innovated across multiple categories. And again, as I started the discussion on innovation, when you have a big idea, it goes across a lot of categories. Many of you might have seen the set that we've got over in the deli, with the new crackers and dips. It resonates there. It resonates in meat. It resonates in cereal. It's a big idea. We're expanding to 11 new categories in 2013, and it was the highest growth rate brand among the top 100 in Safeway. Trips up 41%, households up 25% with this brand.

I want to touch on organic. O Organics has been out there for a while. But again, with the mega brand, you can continue to innovate. And there's power and efficiency in doing that because as you launch new brands, as you market the new brands, the entire brand rises because again, it brings awareness back to the brand. In O Organics, we actually have innovation this year in 3 key categories: dairy, baby and produce. In dairy, shelf stable milk. Baby, many of you might have seen the pouches, which has been an innovation in the last few years. And the baby aisle has just completely changed with this because the children can now actually feed themselves versus the little glass jars. And I have 2 small children, so I love this product. But again, it's an organic product with fruit and vegetable purée. And then produce, we are launching into the salad. These are premade salad kits for individuals or families. The other important point with this is, organic, you really need to look at what's the point of market entry for the organic segment. Often, it is the birth of a child. And when I had my first child a few years ago, my pediatrician actually sat me down and talked about the benefits of buying organic. So as you can see, many of the categories we innovate are those point of market entry categories. We had one of the top 5 organic brands in America, had almost 400 million in sales. And that's pretty amazing. When you think about our footprint, we're the #2 organic brand, and obviously, we're not in every state in the United States.

Okay, Eating Right. I touched on this. We had Eating Right out there. We did a lot of research. We spent a lot of time with our consumer targets, and we found there was an opportunity to evolve this brand and actually make it a more powerful idea to the shopper. And what we found is that shoppers who have either a condition or are trying to diet have a very specific mindset. There are some shoppers who are just trying to eat healthy, and there are many shoppers, and many of you saw the gluten-free set last night, that have the need for gluten-free products. We know there are folks on diet and they're -- I heard someone yesterday in the tour, protein, and they are focusing on cutting carbs. And then we have the calorie counters. So pretty simple when you think about this kind of breakout of how people are shopping. And so we thought, okay, take eating right and actually tilt it towards that shopper. So we actually came up with the idea to go after these different groups and develop very intuitive packaging that's based on what you're looking for. It makes it really easy. I'll take the gluten-free product that we have here. We have the gluten-free set in the store, but we also have gluten-free throughout the store. And this is the shopper that wants to be able find gluten-free within a specialized site and throughout the store. It makes it very easy to choose. If you're looking for high protein, again, the packaging is intuitive. It's simple. It's very easy to understand.

Safeway brands have been repositioned. The focus here was to, first of all, elevate Safeway within the packaging and dramatically improve appetite appeal. If you look at the 2 packages, I know I certainly would vote for the package on the right. It looks a lot better. It looks more appetizing. And by the way, the quality across the board was also upgraded. So we went into all of the various products we had, not only changing packaging, but also upgrading quality.

Efforts in 3 key categories, I just wanted to touch on. I talked a little bit about Safeway farms, organic. The individual single-serve salads have been big. It's a growing category. You'll see innovation in that area. Dairy, many folks have probably read milk consumption has been down. It's been down for years. Recent Wall Street Journal article talking about the milk category. We felt that's right for innovation. So we are actually coming out with value-add milks. This example I have up here is high protein, low sugar. And we're also rebranding Lucerne. It's a brand that's been out there for a long time. It's a big brand, and we thought it had the opportunity to be updated a bit.

And then finally, many of you got a chance to experience Primo last night. And again, some simple insights. We learned that pronouncing the brand Primo Taglio was sort of hard, sort of difficult, doesn't roll off your tongue. So we focused on Primo. We focused on the experience. Many of our shoppers come in. They want fresh sliced meat. They want to be able to sample it. So it wasn't just about changing the brand, it was about changing that experience, changing the service model. And again, we do a lot of quality testing here, and we test as well or better in meat and cheese versus Boar's Head. And then Open Nature snacking, you probably saw the piled high mound of crackers and dips and chips, another big category that we think Open Nature will do very well.

So my final slide is, you heard from Steve, you heard from Robert, we have efforts underway to improve the value for our shoppers with fuel rewards, just for U. We have efforts underway to personalize the experience. And when you think about just for U and the ability to market one-on-one to that shopper, what it's really all about is there is no average consumer. We have diverse consumers. We have diverse needs. And the way we grow market share is by continuing to meet the needs of this shopper. And at the end of the day, we want our shopper to walk out of our store and say, "That's my Safeway. They know me. They understand me, and they care about me."

Thank you. I think we're going to take a break. Is that right, Melissa?

Melissa C. Plaisance


Diane M. Dietz

You want to come up and let everybody know?

Melissa C. Plaisance

Yes. Let me get up here. We're going to take a 15-minute break. So please try to be back in your seats at 10:05. And for those of you on the webcast, we'll see you at 10:05.


Unknown Executive

Well, welcome back to the second half of our presentation. We're on the downhill slide. And hopefully, we'll be done before 11 and allow a little more time for question and answers. So we're going to go through some financial numbers, both for the 2013 plan, but then also some commentary on future year financials as well. And then we'll talk after that about -- Steve had mentioned at the start of the presentation on some other issues that I think that you're interested in. And then I'll turn the time over to Bill to talk about Blackhawk, and then Steve will summarize at the end.

So Steve has showed you earlier the actual performance for 2012 on our cost reduction and profit improvement, and those numbers are reflected in the stacked bar chart shown on the left. Again, an achievement of $351 million in 2012. So you can see that on the right bar, that our plan for 2013 is cost reduction or profit improvement of about $365 million. So another ambitious goal. And as Steve had mentioned, we really think that we are best-in-class in this regard.

We put together our initial plan. We monitor actual performance versus forecast. We systematically review these initiatives during the year. And then as we go through the year, we tend to add to our initial list because as Steve has mentioned, some of the projections don't always come in. Things change during the year that affect the actual or the forecasted results. And so we're still working on this on a continuous basis through the year. So as you look in the lower right, the gross-enhancing initiatives account for almost 3/4 of the goal, and the labor efficiencies are about 15. So just to spend a few minutes on a couple of the projects that make up the gross enhancing or 75% of the goal.

So 3 key areas in the gross-enhancing initiatives. And the first is driving sales by investing in shopper-centric layout and experience. And you saw some of those projects last night, both center of the store and the premium project that fit into that first category. Enhanced merchandising and growth areas, that would apply to natural, that would apply to organic, that would apply to a number of the innovations that are going on in our Private Label, products that Diane highlighted as well would fit into that category. And then the last category is affecting the gross-enhancing portion of our profit improvement plan, our store urban practices, reducing excess distribution, basically improving our shrink performance again, which I think that we are best in class in this industry.

Now let's talk about competitive openings because it's a frequently asked question. So on the chart, we've shown competitive openings in our markets from 2008 through 2013. And 2013 numbers are highlighted in red. So if you look at the early years on the chart, you can see that competitive openings average in the 400, 415 store range, that you can see the big drop in 2011 that has continued down to 2013. So if you look at the subheading, there's been a 49% decrease in the number of openings since 2008. Again, that's the response to the challenges we've seen in the economy, the bifurcated recovery, the lack of housing starts in the industry, but also lower commercial development activity, generally speaking, due to financial constraints, tighter lending restrictions, those kinds of issues.

Now in the past, we've shown you this kind of information, so what's on the slide now is what we call our competitive impact index. Again, what we've done historically and done -- repeated again is we have -- this is index chart, so we've taken the effect of a conventional supermarket operating -- opening against a Safeway store and we've indexed that at 100. And then on a relative basis, we've shown you the impact for the different competitors' hypes that you'll see moving across the chart here. So I'll just pick the last 2 on the right. So just to help understand this index. So for the competitor, the second one in from the left, it takes 5 or 6 of those kinds of openings to have the same kind of effect as a conventional store on Safeway. And then if you look at the operator on the right, there's been lots of questions about this, lots of concern about how this might affect us, so based on all the recent openings of that format, it would take over 9 openings for those kinds of stores to have the same impact as a conventional grocery competitor.

So now we've taken this information on this slide and marry it with the information on the first slide. So in the dash line area is the exact information we showed you on the first chart. The solid colored information takes the earlier information, applies the competitive index to that to show you what we think the equivalized impact is based on the different mix of openings. So if you look at the solid colored bar, in 2009, 349 openings on an equivalized basis, only 135 openings in 2013, so a 61% decrease. And so based on fewer openings in general and the mix of openings, based on what our competitors are doing, there's been a significant reduction in the competitive impact of new stores on Safeway.

Now a frequently asked question is what's happening with pension both in terms of expense as well as cash contribution. Good news here. So on the bars on the left, you can see that our expense in 2013 will be down about $17 million from 2012, and that's primarily due to improved returns on assets in the plan. Again, this is our non-union plan here. Well, we're going to talk about the multi-employer plans here in just a moment. And then on the right, our cash contributions to the non-union plan, you can see in 2013, we're projecting to be about $90 million, down $62 million from 2012. If you recall, there were some legislation passed, a pension fund stabilization bill that allowed a higher discount rate to be used in terms of applying that against liabilities. And so that, in effect, is the primary reason why our cash contributions to the non-union plan this year will be about $62 million less than last year. So good news both on the expense front, as well as cash contributions for pension.

Steve had reviewed earlier capital spending for 2012. So this chart lays out how we intend to allocate capital this year. And also on the right, it compares to 2012. So if you recall, Steve had earlier indicated that our guidance for CapEx this year is to spend between $1 billion and $1.1 billion. And so we've used the midpoint of the range. You'll see $1.05 billion on top of the stacked bar. And then just the comparison to 2012, this is to make sure you understand how the chart works, that's $122 million higher than the $928 million that we spent in 2012.

Now going back down to the bottom, so we intend this year to spend about $250 million on new stores. That's up $60 million from what we spent in 2012. Remodels, we intend to spend about $260 million this year. That's up $44 million compared to 2012. The center of the store project that you saw last night at the store and that we talked about earlier in the presentation is a component of that remodel cost. And in fact, it's a significant percentage of that. Again, in terms of investment or IT technology, about $115 million. And a significant part of that are the improvements from making just for U, it's been a significant amount of capital in terms of maintenance, but there's also a fair amount of that going to continuing to improve our just for U loyalty platform. Supply chain, roughly about $100 million. PDC, the plan this year is to spend about $185 million. I'll have some charts on PDC here in just a moment. That's up $7 million from last year. And then if you lump all the rest of our spending together, that's about $140 million, down slightly from last year. So midpoint of the guidance for CapEx, $1 billion, $50 million.

Now on this chart, we listed our historical capital spending up through 2012. Our forecast for this year, again between $1 billion to $1.1 billion. And then what our projection is going forward, you can see -- and Steve highlighted, when we were lifestyling most of our stores, our CapEx peaked at $1.8 billion, came down substantially. And then I think the good news is going forward, we still see CapEx in about the $1.1 billion to $1.2 billion range. A number of factors affecting us here, and I'll just cover it probably better on this slide.

In the past, we have showed you similar kinds of numbers. We believe CapEx as a percentage of sales, historically in our business to maintain your assets and have sufficient growth capital, is about 3%. You can see in the gold shaded area on the right that if you look from 2004 to 2012, we spent about 3.1% of our sales on CapEx. Obviously, frontloaded in the early part of these years to lifestyle our stores, and then based on the condition of those assets, we've been able to trim that capital back. And so I think the good news for shareholders and stakeholders in the company, we think CapEx can be relatively modest based on the size of the company and sales going forward, though we'll be in the 2.3% of cap range.

Now a couple of factors driving us. First, as we showed you on the earlier charts, competitive openings are down significantly in our industry, and the mix of openings is oriented more to formats that have less impact on Safeway. It will be the first factor I would mention. Secondly, based on the money that we spent lifestyling the stores, we believe that we have the best assets in this industry. We think our competitors have underspent, will have to catch up, and therefore, based on those factors and also the facts Steve had mentioned earlier that the money that we spent on lifestyle, we're getting a better and longer return. Historically in our business, you need to remodel a store about every 7 to 10 years. The lifestyle investments, we think, will get 10-plus years out of those assets we think that a core -- it will extend for a longer period of time, the better materials we've used, and so 10-plus years.

And so based on all of those factors, we think that we can maintain our competitive position, still have the best assets in the industry and spend somewhere between 2.2% to 2.3% of sales. And the key takeaway here is this is good for generating free cash flow. So in 2012, here we just finished free cash flow $971 million above the top end of the range that we had given you. The guidance we released earlier this morning is free cash flow in the $850 million to $950 million range. You can look at the rest of the 5-year plan forecast. It essentially ramps up a little over $100 million a year through the balance of the plan. And we feel good about this. I think if you think about Safeway, one of the strengths of our business is the ability to generate free cash flow.

Now in terms of priorities for use, I think Steve covered that earlier. This year, the priorities are paying the dividend and then using the balance of our free cash flow for paying down debt. Now after this year, it is our expectation that we will return to our previous policy of using free cash flow primarily to return cash to shareholders, and we'll update you at the Investor Conference on that next March.

Now in terms of total debt, Steve had covered this earlier, again, the plan is to primarily use cash flow to pay down debt. So we expect to pay off about $800 million of debt this year and finish the year at $4.8 billion of debt. Now I think this highlight this chart, and we have shown this to you in the past. We've updated the numbers. They are current. This again reflects, I think, a real competitive advantage that we have, and that's our ability to generate free cash flow. And so on the red line, what we've done is showed you our cumulative free cash flow over the next 5 years, and that totals $5.7 billion. Debt repayments are shown -- cumulative debt payments are the purple line. Those total $3.1 billion. Therefore, if you do the math, essentially, free cash flow was expected to exceed debt repayments by $2.6 billion. And if you look at that relative to our current market cap, that difference of $2.6 billion is equal to about 45% of our current market cap. So we feel very optimistic about our ability to generate free cash flow. It will be substantial in excess of debt payments, which will allow us to use that. And after this year, our expectation, it will be primarily to return cash to shareholders.

Now last year, we updated you on our Property Development Centers, and I think you were able to take a bus tour through the Bernal development, and Don and Dave were able to update you. We've made excellent progress. Business is performing ahead of our expectations that we talked to you last March back in New York. So we've updated our 5-year plan for PDC. Again, in 2012, pre-tax income was $41 million. The plan this year is pre-tax income of $44 million, increasing to $58 million next year and then $81 million in 2017. And as you think about the evolution of this business, the track record that we established in 2012, based on the results of last year, it was the early stage of this business. Based on the progress we've made last year, we're much more confident about these projections. And we actually gave you the ones last year, and if you'll compare these projections to the ones last year, the pre-tax income is higher in every year than we showed you a year ago for the compatible periods. Now just to reset PDC, last year at this time, we told you the plan for PDC was to generate pretax income of $31 million. We exceeded that by $10 million. And as Steve mentioned earlier, we did not sell more projects to generate this. We overachieved on the rents that we had estimated that we would lease properties out at. We actually achieved the rents sooner than we had forecast, and we achieved much better cap rates in terms of selling or monetizing properties than we assumed a year ago. So on all those metrics, we exceeded the standards, which resulted in substantial exceeding of the plan and actual results last year.

This slide shows you the expected sale proceeds. And again -- again, in this business, our objective is to leverage our existing real estate efforts, capture the profit pool that we've allowed developers to make because we are the anchor tenant and to do that by obtaining entitlements, which we're very good at, leasing up the shops surrounding the anchor Safeway store, establishing reliable income stream, and at the right point, then monetizing those investments. And that's what you'll see here in terms of the sale proceeds. So $99 million in proceeds last year, we're expecting $142 million, that's the plan for this year. And you can see how that ramps up to $305 million in 2017.

Now we've -- we've got 2 shades, colors identified here. Projects which are specifically identified and are known are shown in the red color, and then the future projects are shown in purple color. So the pipeline for future dispositions is well identified. So both 2013, 2014 and almost all of the disposition proceeds expected in 2015 are identified projects. In 2016, almost 2/3 of those proceeds are identified now based on projects we are working on right now. And so again, relative to last year, we're much more confident based on the track record that we established, the properties we have in the pipeline to deliver these results.

Now we've got a lot going in this chart. It takes some time to explain it. But the key takeaway here is that by the end of the 5-year plan, we'll really have no net cash out in this business because I know never have you been concerned about how much cash we put into this business and the risk associated with that relative to our core investment.

So let me explain what's going on here. So the bars that are graphed up to 2017 is basically capital spending. In 2012, CapEx was $178 million. As we indicated earlier, CapEx this year, we're expecting in PDC to be about $185 million. We're assuming roughly $200 million in CapEx in the future years. Now I would point you down to the first line below the years, cumulative cash out, meaning what is our cumulative capital investment in this business. You can see that by 2017, we'll have a significant number invested. Next line down, total cash in, meaning the proceeds received from dispositions, and that's basically the figures I showed you earlier. And you can see how those ramp. And so by the end of 2017, cash inflow will exceed cash outflow. Therefore, if you look down at the bottom number on 2017, we'll be in the net cash positive position. In fact, the maximum cash out we'll have is in 2013 at $241 million. Now if you look back up at the bar chart and you'll follow the gold line through the year, that basically graphs the amount of cash we have outstanding in any one year, and you'll see declines over the 5-year period to 2017.

And so we feel very good about this business, it's a logical extension of what we're doing now, we're leveraging existing resources. We've done this activity for many, many years. We're just stepping up the level of commitment here. We think we have very, very good resources in terms of people who are developing this business. And it is a logical extension of what we're doing right now. So essentially now, we're just capturing the profit pool that we've allowed developers in the past to capture. So that covers PDC.

Now it is the next section of the presentation are just a number of points of interest. So the next topic is a REIT. So there have been a number of shareholders who have communicated with us about their interest in whether we should pursue a REIT investment, and I know a number of the analysts here have written about that. So it's a topic of interest to a lot of stakeholders. So we spent quite a bit of time thinking about this. We've retained experts to advise us on tax matters on a number different issues. And so we just got 1 slide. Here's where we're at.

So for U.S. owned real estate, it is not expected -- U.S. owned real estate is not expected to be placed in a REIT. The #1 issue that's driving that conclusion is the amount of cash flow that will be required upfront to form a REIT. There's -- to form a REIT, the earnings and -- the cumulative tax earnings and profits allocated to these assets would have to be paid out to shareholders. A minimum of 20% of that accumulated earnings and profits purged, if you will, is the term of art [ph] used, just the cash portion, again, which would be 20%, would be $600 million. Now if you look at the cumulative earnings -- tax and earnings for Safeway, it's a very large number, exceeds the market cap of the company. A portion of that, if we place the U.S. assets in a REIT, will have to be allocated to the REIT assets based on the allocation methodology we have employed. Just the cash portion of that, which again is 20%, would be an outflow of $600 million. The other 80% of that earnings and profits would be allocated to these assets, would have to be paid out in the form of stock, which would be taxable to Safeway shareholders who received a share of a REIT stock. And there would be no tax -- there's no cash associated with that, to pay the tax associated with that. And so the $600 million upfront cash is just part of the negative news for shareholders if we did this. Because a shareholder who received a share of a REIT property, essentially you would have one share of Safeway, you have received one share of a new REIT security, there will be a large tax bill that you would receive based on the earnings and profits that would be allocated to these assets.

Now in addition to that, there would be what we estimate to be about $650 million of breakage fees associated with changing all of our debt and the covenants associated with that. As we can see on this slide, that we would have -- we would expect a cash outflow in excess of $1.2 billion at the start of pursuing a REIT. Then you have to balance that out with what was the upside that a REIT would trade at. There are lots of issues, will it be a single tenant REIT, how would that trade relative to other securities. And then you have to look at this over the long term, how would a REIT-based security that we would form, how would that trade and how would the interest rate is going to trade over a long period of time. And so if you put all of these issues together, it's our conclusion that it does not make sense for the U.S. assets to be placed in a REIT. And again, we've had lots of tax advice here, which has driven a lot of these conclusions. And others have looked at this. And so we do not think it is in the best interest of our shareholders to pursue a REIT for the U.S.-based assets.

So the second question is for Property Development Centers, should we pursue a REIT for PDC? Our conclusion is that it is not in the best interest to do that. Again, our strategy at PDC is to leverage our existing resources and build shops around our store, get those entitled, get those leased, establish a reliable income stream, and then monetize those investments and generate significant cash flow by doing that. If you form a REIT for PDC, there are no -- you cannot be in the business of disposing of real estate. Therefore, it would be a significant ongoing capital commitment without cash flow coming from that business. And because the core grocery business is capital-intensive, the feeling is we cannot have 2 capital-intensive businesses at the same time, so the conclusion is at this point in time, that PDC is not currently a candidate for a REIT.

Now the last bullet on this slide is what to do with our real estate assets in Canada. As you know, Loblaw has established REIT, got a big upsize on their stock price, and so we are currently evaluating that. Just based on the number of initiatives we're looking at and getting ready for this conference, we sort of deferred looking at that. But once we get through with the conference, we'll again look at our Canadian assets to see whether that makes sense for REIT. So the conclusion we've reached, do not put the U.S. assets in REIT, and we also feel that this does not make sense to pursue for PDC. And I know a number of you have very strong feelings about that, but based on extensive work and advice from a lot of very sophisticated advisors here, that's the conclusion we've reached.

Now a topic that from time to time has been of interest to many stakeholders is our multi-employer pension plans. I think many of you here understand as we try to explain this in prior earnings calls and other venues, and so I thought I would just go through a few slides here to just cover this topic. But the most important point or the takeaway for all of our stakeholders to understand, I think most of you do, is the last one on the slide, which we think this is a manageable issue. So if you leave with one thought regarding multi-employer pension plans at Safeway, it is that this issue is a manageable issue. Funding issues are not new. We've had this for over 40 years. In the 1990s, the biggest issue is the plans were overfunded and that was causing concern about tax deductibility and other issues. Today's concern is underfunding. Another key takeaway for you to understand is that there is -- we do not believe that there is any possibility for any large cash call associated with our pension plans. The cash contributions of the pension plan are all negotiated in collective bargaining agreements. They are known, and we have very good people negotiating with this. And so we do not believe there is any possibility for a cash call over and above what we've negotiated in our agreements with the unions.

So the Pension Protection Act requires that funding shortfalls be cured. The cure periods are long, generally between 10 to 13 years. But they can be longer, and they can be longer up to even 25 years. So if we have plans that are not agreed upon between the parties, the PPA Act mandates that benefits are reduced or employee contributions -- employer contributions are increased. Now we had a similar situation, underfunding in 2003. This pie chart illustrates that market recovery took care about 84% of that issue. Reductions and benefits covered about 9% of any shortfall, and then contributions increases covered about 7%. So if you look at the -- over the long term based on the return assumptions that we're using, our assumption is that improvements in the market would contribute about 40% to eliminating the shortfalls, contribution increases about 30%, and then reductions and benefits about 30%.

Now we've mentioned this in the past, but just one more time, our approach to bargaining is to determine what we think an acceptable compound average growth rate is in total wage cost, wages, health and wealth, as well as pension benefits. If the pension is underfunding -- underfunded, it's the first priority to deal with. And then basically, whatever is left over based on our established guidelines, then is available for wages, as well as health and benefits.

Last year, at the conference, we presented a similar chart to this. And this breaks out the key components of total labor costs, wages, health care, pension, other, then shows the compound average growth rate that those components have been growing at since -- from 2004 through 2012. And then importantly on the right, we've weighted what importance does that factor have in total labor cost.

And so if you look at pension, you'll see that the compound average growth rate is higher than the other components of total labor. But then if you look at the relative weighting, pension is really only about 5%, so quite a small part, in fact, the smallest part of total labor cost. And so, if you look at -- down at the bottom of the chart, the compound average growth rate in total labor cost, 2004 to 2012 was relatively modest. And so our labor costs are well managed despite having higher increases in pension. So again, a conclusion that we believe that this is a manageable issue.

So in summary, current funding is manageable. The legislation that has been put in place has been quite helpful. Again, our focus is on managing total labor costs, again, of which pension is a relatively small component. And we believe that the pension increases are expected to be modest. And in the 5-year plan forecast that we've shown you, we have included our expectations on what happens to multi-employer funding going forward.

So that concludes that portion of the presentation. And so Bill Tauscher, who is both a Safeway Board Member and the Chief Executive Officer for Blackhawk, will now update you on Blackhawk.

William Y. Tauscher

Thanks, Robert. Well, in the interest of the Q&A, I'll be brief. Blackhawk had another terrific year. As I think most of you know, we're a prepaid network -- we think one of the leading prepaid networks and that network is spread across a third-party distribution network around the world, we're clearly one of the largest distributors of gift cards at a minimum. And of course, we have this proprietary network for distribution that's now around the world of about 100,000 points. It continues to grow as I'll show you in a minute. We're a company that's innovated the space, really, from its beginning and continues to add lots of innovation. And we think there's plenty of growth opportunities ahead of us.

If you look at the different services or products that we offer, the first 2 things that are up here are the gift cards. Open loop is a card you can use anywhere with a Visa, MasterCard or American Express capability underneath it. And close loop, of course, you can only use in the store that's name and brand is on it. That's the business that really dominates who and what we are today. It differentiates us. It makes us fairly different than all the companies that people talk about out there in that we are really the gift card third-party distributor in the world today.

The prepaid telecom business, which is very mature outside the United States, has started to grow fairly dramatically. In the United States, it's become a meaningful part of the business. By and large, it's not done in our distribution channel. And what we've set about to do is make it a growth business for us by shifting the business into a primarily grocery distribution channel, which is where it is done outside the U.S.

We have a number of other services we provide to our partners: marketing services, card printing services, et cetera. If you go down to the bottom, one of the smallest segments we have is we are in the prepaid, financial, general-purpose, reloadable debit card business. It's a business where we have our own product. And as of the end of last year across our entire network in the U.S., anyway, we're now distributing the leading brands, Green Dot and NetSpend. So we're also a distributor creating a whole category. It's a very small business for us but growing very dramatically.

The next one over is a brand-new business within the last year for us. It's the secondary market. It's the market where gift cards that you don't want can be exchanged. It's a fledgling market, a fledgling space. But when you get large spaces like gift cards, secondary markets come along. This business for us is growing very rapidly. We think we're the biggest kind in the space today, and it's got the number of dynamics in terms of market size and how we expect to grow the business that are interesting.

And finally, lots of questions and talk about the future of this business. What we do today is physical distribution, physical cards. At some point, I think we all believe that's going to become a digital item, whether it's in a wallet or online or in a mobile phone or whatever. And we're spending lots of time, energy and money to prepare ourselves to have the same kind of position in the digital distribution of our products that we, today, have in the physical distribution of our products.

So here's some performance metrics that you haven't seen for 2012. You saw 2011 last year. The first line is the value of load, if you will, that's put on our card. That's what goes through all those registers that we're connected with to those point-of-sale systems around the world. And we had a nice 23% increase last year. We'll look at what that's been historically.

Approximately 9% of that are the commissions and fees that in our business model are provided by the products that we're selling for our gross revenues. The growth was made up of about 17% growth in transactions and about 4% growth in transaction value. And you can see the growth in selling stores. Some of that came in the U.S., even though the market's maturing in terms of new places for third-party gift card distribution. A lot of it came around the world. One of the reasons the numbers outside the U.S. grow fairly dramatically is there are a lot of small stores around the world that we tend to sign up.

Here's the growth over the years. You can go back and look from sort of '08 backwards. Part of that was the economy, but the biggest reason for the rapid growth there, that was the period of the land grab of new distributors and new card content the network was getting filled out in the U.S. And while we still have some of that going on around the world, as we open up countries and new distributors and new card partners, our business has clearly matured.

But you can see we've been able to continue to grow it with, I think, one would consider pretty acceptable rates as we focus our business on store productivity. And in fact, the biggest part of our growth today comes -- almost 3/4 of it comes out of the productivity that we gain on same-store sales. We've learned literally down to the metric of each thing that we can do in a given store type to drive the sales in our business. We do have some growth still from new distribution partners, as I mentioned, and the smallest piece comes from new content.

This slide really speaks to what I mean by productivity improvement. Now this is a U.S. data set of grocery retailers, so stores that are essentially the same in size, shape, volume, traffic, et cetera. They are Blackhawk all distributors and customers in our network. And as you can see for a moment, we've categorized them into 3 groups:

The group on the far side, your left side, is what we call the basic group. The basic group's definition means they have a fixture in the store, a destination fixture. They're in the business. And we -- that's about 1/2 of the grocery stores we distribute today.

And the second group, over which is about 1/4, we've characterized it as somebody who's put in an expanded display, might have a second end cap, has multiple displays around the store, has -- when you check out, there are displays at checkout. It's running marketing programs over the course of the year, and it's following all of our merchandising and planograming efforts. In short, it's doing our best our practices.

The group here on the right is the group that supply the loyalty program, in most cases, the same fuel program you heard Robert and Steve talk about to our business. And what that does is it takes the purchase of gift card, which is a purchase for gift usually, and it turns it into a purchase for self-use. People are literally buying the cards to use for their own use to maximize their loyalty program. As you can see, it really puts the business on steroids.

Our job is to push people from the left to the right, and we've literally got it down to what each element of our best practices contributes. And of course, we're about presenting to these various partners about what they need to do to move themselves into here, and of course, to get as many of them on some form of load enhancement as we can.

Here's the rest of the financial numbers. The operating revenues, which are those approximately 9% on the load value, grew a little faster than our load value. The next line is the revenue less the commissions we pay our distribution partners, so we have the fees and commissions we gain in gross from the products we sell and then the fees we pay out to our distribution partners. That growth grew a little faster. A lot of that has to do with some mix issues. Pre-tax income item, of course, also had a wonderful healthy year. And our adjusted EBITDA, which eliminates crummy [ph] non-cash item, stock cash -- stock compensation and mark-to-market, grew in a healthy fashion as well.

If you look at our history, this is the adjusted EBITDA numbers. You've got the actual numbers here in the blue chart. You can see a CAGR of about 27%, and then you can see the margin against that adjusted revenue number that's literally run in the 23%, 22% range pretty consistently.

So I think you're up. I kept to my timeline.

Steven A. Burd

And we're in good shape. And remember, you're all snowbound anyways. So just by way of quick summary, I'm just going to show you one new slide, and then I'm going to bring back a few slides I wanted to make sure that you had spent some attention with.

So just starting with the earnings to maybe give you a little bit more color. This is our guidance for the year. If you think about the plan as we described it for 2013, there's a lot going on as we move through the year. We provide only annual guidance, but it's our custom at this meeting to give you some kind of idea about how the income might taper over time.

And so if you think about -- you got just for U, which is going to continue to build but is maturing. The fuel program, particularly with the partners, that's all new. The wellness stuff, which will kick in the back half, that's all new. So as you think about your own models and how the income will behave, and you can look and see from last earnings reports, whether there's anything unusual in the quarter, you should think about how to taper that.

The other thing you might consider, you know that fuel prices really move around. I think Robert, we had a period where fuel went up 45 days in a row. And on the way up, we actually -- we make no margin on the way up. When it stabilizes, we start making margin. When it begins to fall, because we sell about 3x more than the average fuel station out there, that's when we begin to make money.

Our fuel business has been remarkably consistent over the last 8 years. So whatever you have in your model for fuel, that's probably a good number, if it looks like the past. But the fuel margins will be weak in the first quarter because we've got almost 10 weeks under our belt, and we know what those are. So I would just -- none of what I said changes anything about where we end the year, but I would encourage you to look closely at your pattern. Some of the steps that I've looked at, they're a little heavy. They're a little heavy in the first quarter and maybe even in the first half, and then just put that money in the back half.

So that's all the additional color I would provide on this slide. Just a way of summarizing, we clearly intend to accelerate our top line sales growth, which I think is good news for our shareholders, because we know how that affects PE multiple. We don't know how inflation is going to play out. Our inflation so far this year, 10 weeks in, is actually hovering around 1%, maybe a little bit less. I think most of us think that inflation will grow as we move through the year. But I know that the vendor community is very concerned about their negative volume, and they'll try to introduce cost efficiencies and some other things. So if I were to handicap this thing and the one thing I can tell you is I've never been right. Look at the inflation we've had. But we think it's going to be in that 1.5% to at the outside 2% on the year. And that's what's embedded kind of in our numbers.

We will continue to build market share because everything you heard from Robert and Diane and me, that's going to build as we go through the year. We feel very good about our ability to grow market share and to grow volume. That should grow operating profit margin, really, for the second year in a row. And we'll have a very good strong cash flow year. We've got some things we're doing on the inventory side that, as we ask ourselves from time to time, if we were to start this company today, how would we build these stores? What would be the depth of the shelving? What would be the size of the packaging? There's a lot of opportunity for us to reduce inventory without losing any sales.

And I'm just -- I'm not interested in having 100-year supply of anything. And believe it or not, that happens. I remember 4 years ago, we had a 110-year supply of Kool-Aid in the Alamo store. And that's where clustering came in. I don't think we ever sold Kool-Aid in the Alamo store, which is where I shop, which is why I spotted it, okay?

So these are the big hitters, just for U, fuel, wellness, second-half play, but we'll start the smoking cessation, diabetic counseling and that stuff early on. And then we've got these 2 other initiatives, again, the early returns are very good. Center of the store is costing about 1/6 of the Lifestyle and delivering about 3/4 the result of the Lifestyle. And if we can keep that pace up, and frankly, we think we'll get better and better at it, that should produce some good results.

Because the returns are early, as we built our plan, we deeply discounted those kinds of numbers because they're just early returns. And I would encourage you to do the same. This is our history in market share. I wanted to make sure that this left a strong impression with everybody inside the channel. And then this is our experience outside the channel. And what you see is through the first 7 weeks that we've recorded here, we're better than the fourth quarter and better than previous quarters, and there's no reason that shouldn't continue.

And then controlling expenses, looking for profit improvement, we give ourselves a big number year after year. I remember one of our competitors had $180 million target, and they were going to achieve that, I think it was over 3 or 5 years. For us, that's the first half of the year. That's we have to get done. So we're very good at this. And it may seem odd. I've been doing this for 20 years. Before that, I did it across -- a broad number of companies and industries. This is a business that has so much detail associated with it. You can actually do this, in all likelihood, for another 20 years, particularly, as the process by which we go to market changes. Right now, I would argue that we have a relatively complex marketing and pricing program. As that gets simplified, as something like print advertising becomes a lot more digital, we have the basic framework in place to move in that direction. There's several hundred million dollars associated with that, which someday goes away.

And then if you look at the margin improvement, again, I showed this slide earlier, this is -- we're not in free fall. We had 2 bad years. They were deflationary years. They were years of great price investment. We make price investments all the time. That's why that number of gross enhancing doesn't all flow to the bottom line. We're putting more money into advertising, putting more money into communication. We're using all forms of media, and we're just having a more sophisticated approach to the marketplace. But we should be able to grow operating profit margin.

And then Robert went through this, but when we get to 2017, keep in mind, at that year and beyond, we're still spending $200 million a year in this business. But essentially, we've gotten all of our cash out of the business. So I consider this a very low net capital-intensive business. It's not capital intensive because you got your cash out and you got an income stream in the $80 million range.

Now should we choose to expand that operation any time in the next 3 or 5 years, we can do lots of other things. But right now, we're focused on building centers in which we have a store. But you could conceivably expand that and that makes good sense. We're in a mature industry. The only way we grow sales and profits is we take somebody else's business. So it makes good sense to be in other businesses along the way.

And then this is just showing you how important really PDC has been in turning what has been a long-term negative for the company into a positive outcome.

And then I like this slide a lot. It was my favorite slide the first year we presented it. It's still my favorite slide, because I want to make sure you understand what's implied in here. It's implied that every time debt matures, we retire it, okay? We don't have to retire it. And so, if you retire $3.1 billion in debt, then you still have $2.6 billion. What are you going to do with that? It gives you an opportunity to buy other assets. It gives you an opportunity to buy more shares, lots of flexibility, and that's what we like.

So we have finished pretty much on schedule. I'm going to ask Robert to come up with me, and he can anchor that into the floor. I learned years ago from Senator Bill Bradley that you don't want to stand next to a guy that's 6'4" unless you're a 6'5". And so I'm going to let Robert stand over there. Yes, there you go. Yes, that will be good. I'll come over there then. Okay, so why don't we open it up for questions?

Question-and-Answer Session

Steven A. Burd

John, you're first. We'll get you a mic so the webcasters or are they castees? No, they're -- who knows? We're grocers.

John Heinbockel - Guggenheim Securities, LLC, Research Division

So 2 topics. On the wellness initiative, I know you want to ramp it pretty aggressively during the year. So when you think about its impact in '13, is it accretive? Is it dilutive? How do you build it into your forecast? Then the second part of that is, when you think about the economics longer term, I know they're probably far better than the core business, but how would they compare to Blackhawk, if you want to dimensionalize it?

Steven A. Burd

Yes. Okay, I'll give you a couple of things. We have given ourselves the flexibility in the plan to spend heavily against this business if we need to and take market share at a very fast rate. So we have not put income numbers in here for the plan. At the same time, this is a relatively high-margin business. I would compare to probably second in terms of drop-down of P&L to produce. And so -- and it also operates with an element of fixed cost. So once you go beyond the fixed cost, then you're really throwing in some profits. And it has extension lines into other businesses. And we're free to grow that footprint virtually at will. And so, it will produce top line IDs. It will be core, and it will be a very nice, profitable addition to the business. In fact, it has a greater opportunity to grow operating profit margin than virtually anything else in the store, because the business will be so high growth.

John Heinbockel - Guggenheim Securities, LLC, Research Division

And -- but the operating margin would be less than Blackhawk, right?

Steven A. Burd

Less than Blackhawk, I have to think. Robert -- let me throw that over to Robert, okay? And I'm trying to think. Because THNT [ph] changed the way we accounted for the business. So you've got revenue -- reported revenue of roughly $900-plus million. You've got a reported profit in the $100 million range, so that's a 10% margin. I would say it's more profitable than Blackhawk and a bigger business in the near term.

John Heinbockel - Guggenheim Securities, LLC, Research Division

And then secondly -- okay, I know you haven't necessarily wanted to -- you like the capital-light model and haven't wanted to maybe get bigger in the food retail business. But when you look at just for U, you look at the brands, you look at wellness, it would suggest that if you were to buy a decent franchise, an acquisition or -- that path would be more successful this time around than it was in the past. How do you look at that tension, not liking the business necessarily longer term, buying other assets but having a better chance to do something with them?

Steven A. Burd

Robert, do you want to take a first shot at that?

Robert L. Edwards

Well, I think that if you look just your asset, it is producing great value for Safeway shareholders. But -- and we have a well-defined roadmap ahead of us in terms of expansions rolling into Canada. But if you think more -- think broadly about that asset, there are a number of ways to create incremental value beyond Safeway with that application. I think we're seeing more to that, but it is a great asset that is applicable in a number of environments.

Steven A. Burd

I think what's kept us away, John, from buying hard grocery assets is that we would be very careful to buy assets that began with a competitive cost structure. But I think it makes perfectly good sense that we -- in the old days, we took what we learned about cost reduction. But the best acquisitions we did, which included cars and bonds, great acquisitions for us, we learned as much from them as they learn from us. And it was that combination that we were able to execute. But we've tried to, I'll use the term decapitalize the business and try to be less capital intensive. But I think you're accurate to think that if we took all that we now have and we started with the business at a competitive cost structure, that you could add a material amount of accretion to those assets. And I think we all know that there will be continued consolidation in the sector. And it's been disrupted by the economy and some other things. So I don't think you could rule it out. But I think you would have to think we'd be very smart about it, and we love this idea of developing new income streams with not the capital intensity of the supermarket business.

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

Andy Wolf, BB&T. I was hoping you might comment on the kind of redemption mix in just for U between club coupon, which are existing, and the just for U aspect of it. And I would assume the trend would be increasing in the just for U part of the mix and if you could comment on how that is trending.

Steven A. Burd

Well, the -- our receipt actually breaks out the traditional club discount. It breaks out the coupon discount even inside of the just for U. So the just for U discount at this juncture is going to be personalized. It's going to be -- this can also contain the coupon component, and then the club component is separately identified. Also on the receipt, the receipt has become lengthier over time. If we have a fuel customer that we've decided to earn -- they can earn rewards at a faster clip, that would also be reflected on their receipt that they were earning at, say, twice the rate. And then that also has an expiration. We keep our customers informed about that.

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

Okay. And then just moving to sort of a board issue on succession planning with your announcement to retire and also the wellness program and your intimate involvement in that. Could you just give us an update on how the board is proceeding with finding a new CEO? And what your commitment or involvement is going to be with the company on the wellness side?

Steven A. Burd

Sure. I probably can't shed a lot more light than what you would have saw -- seen in the press release. The board is conducting a search, which evaluates inside candidates and outside candidates, which is pretty common. Even when an insider gets the job, you often discover that they went through a very similar process. And I think our board feels that, that is the diligent thing to do to make sure that the next CEO of Safeway considers all possibilities. In terms of my role, and I'm involved in that search, my role post retirement is to be deeply engaged for a finite period until the wellness initiative that I've been so integral in creating is, in fact, rolled out. And it's hard to tell what the length of that engagement would be, but a not unreasonable guess is the end of the year. But I will not be operating in the capacity of a CEO, but I think you can tell that I've had a passion for this for a long time. We have a partner that -- in companies that innovate, the CEO is often the innovator and the president runs the company, while the CEO is engaged in something that could be so transformational. And so it just makes perfectly good sense even though Robert is deeply engaged, knows about every conversation with our partner, understands the agreement and how it could change over time. We have a large number of people that are engaged in this effort. Once it is executed, I have total confidence that the organization can execute it day in and day out and can actually change it over time, as it needs to without my personal involvement. But for launch and rollout, it makes an awful lot of sense for me to do that. Okay, you need to get the mic off from -- oh, you have the mic. Go ahead. I'm going to have you take this one, Robert?

Kelly A. Bania - BofA Merrill Lynch, Research Division

Kelly Bania from BofA Merrill Lynch. I actually had 2 questions, one for each of you. Steve, on just for U, there was no comment on how that was expected to impact gross margin this year. And I know in the past, you've said it is gross margin enhancing. So I'm wondering if you can just remind us how that should impact gross margin this year and beyond. And then, Robert, I had a question for you on the REIT commentary, thanks for all the color on that. I'm just curious, given your analysis on why maybe it doesn't make sense in the U.S., any initial thoughts on how things could be different in Canada? And then if you could share with us any color on the real estate that you do own up there.

Robert L. Edwards

The -- in terms of the possibility of the Canadian REIT, it's been more that we've allocated our time to the first 2 issues: U.S.-based assets and then secondly, PDC. And now that we're through the investor conference, we'll have enough mind share to dedicate to that. There are some different tax laws and different structures that can be applied in Canada that are different than the U.S., and the Loblaws transaction is one of those. And so it's been more -- we've had other priorities to look at first, and now we'll move to looking at the possibility of doing something with the Canadian assets. And so I think that's where we're at. So once we completed with that analysis, then we will probably communicate that by an earnings call or something like that.

Steven A. Burd

With regard to just for U, I think you should think about it in a couple of different phases. In the near term, which is the history we have so far, you get -- you moderate the impact on gross margin by getting a lot of support from the vendor community. And we've just gone from 7, probably a year ago when we first talked, now to 100. So that puts more plays in the playbook, if you will. The reason we believe this is long-term margin enhancing is that we're really trying to completely personalize the ad and the discounts to individual households. So that -- and there are some markets where you might promote gallon or half-gallon milk once a month. I can think of one market where that's pretty common. But now what we've been able to do is to identify the people that actually switch their business based on that. And through just for U, we can give them the best price in the market all the time and then use our markdown capability with other items to other households who are sensitive on different items. So when you go with a common ad and common club specials across the chain, you are giving deep discounts to people that aren't motivated any differently and maybe would have bought the item anyway. So this allows you to completely personalize it. And we've been doing this for so long, and we started with our own employees. People appreciate the fact that their items are relevant to them, and there have been no issues with, "Why didn't I get the bagels?" Because they got the breakfast item that was important to them. So I really see, over time, the opportunity to completely digitize the ad. And I think our paper expense today is like $300 million. So someday, that goes away. And then instead of having a price for everybody in the market, we have a price for the goods that are important to them. And so in the near term, a lot of vendor support, which I don't think goes away, but that's why I think this is, ultimately, gross margin enhancing.

Robert L. Edwards

Kelly, let me come back to the second part of your question about the assets in Canada. We have a very strong business in Canada. Chuck Mulvenna is here, who runs Canada. Chuck's a very good leader, has a very good management team. But one of the key strengths of our business in Canada is our real estate. We own more real estate in Canada than we do in the States. And if you think -- pick Vancouver, where we have a very strong business and you look at the assets we own in that geography, those assets, you could not replace those. And so great assets we own in Canada, strong part of the business.

Steven A. Burd

And we decided 10 years ago that if we own the asset, we own the air over the asset.

Robert L. Edwards

And we -- a number of a -- we -- in the past, we've monetized the number of what we call air rights, meaning that we own the store. But there's a potential to build a high-rise building or apartments or condominiums. We have a disproportionate number of air rights opportunities in Canada that we think are quite valuable, so great, great assets.

Steven A. Burd

Right, down here.

Mark Wiltamuth - Morgan Stanley, Research Division

Mark Wiltamuth from Morgan Stanley. Robert, on the guidance, you have some residual effects from the share buyback that are still rolling into this year's EPS numbers. You have a tax gain, because you're going to have a lower tax rate this year. I think investors are really focused on what is the actual EBIT or EBITDA growth that you're looking at here. So if maybe you can parse that out for us a little bit.

Robert L. Edwards

I think the -- I don't have -- Mark, I haven't got the numbers exactly with me. But I think it was flat to slightly increasing, if I recall it.

Mark Wiltamuth - Morgan Stanley, Research Division

Okay. And also, the -- what's your response to the Albertson's discounting that could pop up in the marketplace? Now that those Albertson's assets have been sold to Cerberus, they've had a bank meeting, where they indicated they'd be doing some significant price discounting.

Robert L. Edwards

We -- if you look at our price position relative to SUPERVALU or Albertson's, whichever way you want to ask it, we're in very good shape. We have an ideal price position we like versus specific competitors and in specific geographies that those competitors compete with us. So relative to those assets, we're in great shape. Historically, in this business, competitors indicate that they're going to invest this massive amount of money in pricing. If you actually do a post-audit on what people actually say they're going to do versus what they really do, it's often varies is quite a bit. And we monitor the number of prices that people increase on onetime period and we -- when we monitor how many they decrease. And often times, people will decrease some of the prices they said they were going to. But at the same time, they're raising prices in other parts of the store to offset the gross margin impact. So it's a common practice in this industry for people to announce massive pricing reductions. But in reality, it doesn't happen that regularly or consistently or for an extended period. They may announce something and actually do a bit of that for a short period of time but then quickly come back. And so, we -- when we think about SUPERVALU service transaction, it has been an opportunity for us. It's reflected in the performance numbers. It will continue to be an opportunity for us for quite some time. Absolutely, no question.

Mark Wiltamuth - Morgan Stanley, Research Division

That's why store closed.

Robert L. Edwards

Absolutely. I mean, the -- clearly, there'll be a real estate monetization focus going forward. There will be more store closures, which means there will be significant opportunities for us to gain market share.

Meredith Adler - Barclays Capital, Research Division

I have 2 questions. First about the fuel rewards program, which seems to make a tremendous amount of sense looking at how many partners you have or locations you have. Does this also mean that you will not be opening very many new suit [ph] and fuel centers of your own? Does this kind of replace it? And I assume it's better for customers to have all that choice.

Robert L. Edwards

Meredith, we will still -- we've got 407-or-so stations. We will continue to add to existing -- the existing complement of fuel sites. But it will not be a rapid increase. Because essentially, this is a virtual fuel program that we're using the bricks and mortar of Chevron and Exxon or their jobbers or distributors in lieu of the capital that we spend. It might surprise you how expensive a fuel site is, particularly in California. And sometimes, getting entitlements can be very challenging. And so we will still add to our fuel sites. But for the most part, we'll be leveraging the asset -- the fixed assets of others.

Steven A. Burd

We just built a fuel station, or we approved one here in California. That cost about as much as building an entire store did in Arizona, when I started here in 1992.

Meredith Adler - Barclays Capital, Research Division

And a question about just for U. Again, it seems to make a lot of sense that you are trying to get more loyalty and bigger share of wallet for your existing customers. Is there any thought about ways to get customers back into the stores or get new customers? Or is that something you just think you don't need to think about right now?

Steven A. Burd

If you think about the normal marketing and advertising we do, think about the weekly ad, for example. I view that as the invitation to bring other customers in. Now think about the numbers I gave you earlier, 9 million unique households in a week, 22 million in a quarter, 30 million in a year. So you can think about, frankly, everybody between 9 million and 30 million as somebody else's customer, who's coming into our store with some degree of regularity. And so, we have all of our competitors' customers in our store and even some of that 9 million is -- are some of those customers. So -- and we have a unique offer for all 30 million of them. And so, we attract people by the products we carry, the service we deliver, the ads that we offer and people do that comparison. In the digital world, we've just made that so much easier for people to buy groceries at a lower cost. So if you are a price-sensitive shopper and you go back to the slide about how the just for U customer does better, the just for U customer is getting 7% to 8% lower prices than someone that's not participating in just for U. That's across the entire basket. On the just for U items that they're buying, their discount is even greater. And so, we don't feel that we're marketing only to our loyal customers. Because most of our customers, that's true of most grocery stores, are not loyal. The highest loyalty you might get in a grocery store could be 50%. And even then, 50% of their wallet is being spent somewhere else.

Meredith Adler - Barclays Capital, Research Division

And I'm sorry, just a final question. You -- unfortunately, Costco does not provide any kind of information to the syndicated services, but you have in the past. I think Steve said that Costco was a big competitor. Do you have any sense about how they've been doing in your markets? Are they -- have they been taking share? Their numbers look pretty good, but it's very hard to say what exactly what that means, so that's my question.

Steven A. Burd

Yes, my comment would be that they had a soft period in there that seems to be behind them. They came out, and I think it was '10 or '11, much stronger then hit a bump. But basically, I would say, I think their volume is growing, and I think their sales are growing. Probably they are a big competitor of ours in Northern California, less of a competitor in most of the other markets. As we think about the premium play that we're making, their shopper is a premium shopper. And so when we developed a premium strategy, it's to go against people who at least have a premium element. Their beef category would be considered premium by those people. Again, if all you had to do was merchandise 30 SKUs, and if people bought in volume, you could look pretty impressive. Keep in mind, our customers, and I like to go back to your example, Diane, because I've shopped at that store in Kings Beach, and the demographics at Kings Beach, the people who live there, is about 38% Hispanic. And then the people that are coming to their homes on the lake, they all contributed heavily to Jerry Brown's tax campaign this last year. And so that store has to be built with premium products and mainstream products and some value products. And the people who do that well are the ones who take share. And so we think we're set up in how we cluster and how we organize to be able to take share in all of those demographics. And I think it would surprise people -- I'm not sure, Diane, if you or Robert said it, but our biggest gains have frankly been in the value segment over the last year. And the reason we're focused first on the premium set is that's always been our customer, and we intend to make more progress in the premium set. But we do very well on the volume set -- value set, and just for U is a big reason for that. We should work this side of the room, too.

Priya Ohri-Gupta - Barclays Capital, Research Division

Priya Ohri-Gupta from Barclays. I realize it's early sort of in the discussion around the Canadian REIT, but sort of if we take a step back and think about how we would view any potential use of proceeds, if you were to go down that road, would it be commensurate with the type of free cash flow sort of priority that you've already provided for this year or next year? Or should we think of that as sort of separate from that?

Robert L. Edwards

Well, it would be premature to conclude that there will be proceeds from a REIT. It's just something we're currently considering based on comments from shareholders and a number of analysts, who have written about it as well, so premature to think there would actually be any kind of a transaction. If there was a transaction, I think it's consistent that the focus this year is primarily on debt paydown.

Priya Ohri-Gupta - Barclays Capital, Research Division

Okay, that's helpful. And then secondly, just a follow-on on your debt reduction comments. It looks like that's going to be less of a focus starting next year. How should we think about the need for any sort of incremental debt paydown beyond this year in order to get back to mid-BBB credit ratings?

Robert L. Edwards

Well, again, we haven't given a specific projection, but I think the comment that free cash flow would primarily be used to return the cash to shareholders would allow for some debt paydown. And it's our objective to get back to the ratios we had prior to the accelerated stock buyback program.

Steven A. Burd

Which should make us a solid BBB.

Robert L. Edwards

And we meet with the agencies on a regular basis and update them on where we're at, and we feel good about the ability to get back to those ratings.

Priya Ohri-Gupta - Barclays Capital, Research Division

And your timeline around getting back to those ratings would hopefully be in the next 1 to 3 years? Is that fair?

Robert L. Edwards

For sure. Yes.

Steven A. Burd

Go ahead, Victor [ph].

Unknown Attendee

Just real quick, of the identified PDC projects over the next 5 years, how many involved Canadian real estate?

Robert L. Edwards

Don [ph]? Zero.

Unknown Attendee

So sorry, just following on the KN theme [ph]. If you look at your financials for this year, sales were up slightly, and Canadian and local currency seemed to be up slightly, operating profit was down, and operating margins were down. So I guess I'm just wondering what your thoughts are on the longer-term profitability of the division, and if you think you are where you need to be to deal with the onslaught of competitive activity.

Robert L. Edwards

The change in profitability last year compared to this year, if you recall, we had some very large real estate transactions last year that improved operating income disproportionately. Those were not repeated this year. So that was the primary reason for the decline in operating income dollars. And also, there's been quite a bit of legislation in Canada affecting the profitability of generic drugs and in certain provinces and then those are moved to other provinces, and so those are the 2 primary factors that impact the profitability this year -- excuse me, 2012 compared to 2011. But having said that, it is a very profitable business, and it's a great asset.

Steven A. Burd

The other thing that I would add on to go back to John Heinbockel's comment earlier about could you do an acquisition and apply these things. We have -- we spent little to no capital in Canada on the wellness initiative that's available there. We don't have a fuel program that has been very helpful in the U.S. and helpful for Blackhawk. And just for U isn't going to be there until roughly the third quarter. So I think there's lots of opportunity to grow top line sales and bottom line profits in Canada, which has great market positions throughout Western Canada.

Unknown Attendee

Okay. And then the second question I had is just looking at the presentation slides that you gave us this year versus last year, your free cash flow guidance for fiscal '13, '14, '15 kind of seems to have come down a little bit. Your CapEx hasn't really changed that much. You've obviously lowered your operating cash flow, but that just seems odd given that all these things are kind of coming to fruition. Can you maybe just address that?

Robert L. Edwards

Well, in the projections we had last year probably included some benefit from the Wellness initiative that -- so the timing has changed a bit, I would say that's a primary driver, maybe a little bit more CapEx than we had last year. I'd say those are the 2 biggest factors.

Steven A. Burd

I wouldn't get too stuck on the cash flow projections in the out years. I mean, we have more confidence in '13 and '14. And -- but we provided numbers that we thought we could do that, and I think you'll see those updated in future investor meetings.

Yes, let's -- there's one right here. Chuck? If you give your name and who you represent, I guess we want to do that for the broadcast.

Charles Edward Cerankosky - Northcoast Research

Chuck Cerankosky with Northcoast Research. To look at the Private Label initiatives and that whole concept, how do you think about Private Label competing against the lot of opening price points, which are private labels, I'd assume your competitors, while you're emphasizing quality? And then when you look at the content of just for U, how do you sort of allocate content between your own brands in the CPGs, who want to get into the program as well?

Steven A. Burd

One of the things that we've done, and I don't think Diane touched on it this year, but we've greatly expanded opening price point brand, pantry essentials, and we've actually been behind some of our key competitors in that kind of offering. And you will see pantry essentials on personalized office for people, on just for U work. So I don't think that we necessarily give our own brands any premier spot. It could be that -- remember, we have 2 pieces of this, and I like -- the best application I like is actually the iPad application because it merges coupons and personal deals, and then separates them into things that you buy and things that we think you might like. So you might see us put more Private Label in the things that you might like, because we know we're giving you a value proposition for things that you already buy. But we put virtually all brands on just for U where they're appropriate or relevant for the consumer. I'll give one to this side, then we'll go -- are you ready, Bob? You got one?

Robert A. Gordon

Yes, yes.

Edward J. Kelly - Crédit Suisse AG, Research Division

Ed Kelly, Crédit Suisse. A follow-up question on the fuel rewards program. You talked about how the fuel centers at -- with fuel centers that you own today do better from a comp perspective, which we've heard from others as well and it makes sense. The partnership that you have, can it drive the same type of comp outperformance given that you don't have these fuel centers attached to the stores? And then what's the ramp like when you're rolling in this program? And then you also sort of mentioned just for U and leveraging just for U with fuel. Could you provide a little bit more detail there as well? And then I have one follow-up.

Robert L. Edwards

Yes, in terms of the ramp, I think there's obviously a building -- awareness takes some time. I think consumers understand the proposition. But if you look at what happened, I guess Vons would be the best example. It does -- there is a ramp period based on awareness because people will have to get used to, and I don't have to go to Safeway fuel site. I can actually redeem it when I get to the Chevron station. It actually works. But I think Chevron has done a wonderful job in marketing. It's exciting. The first time that I went to a Chevron after we started the program in Southern California, I go into a Chevron kiosk, all the employees have a Vons T-shirt on in a Chevron kiosk at their station, powerful. And in Target employees, they're excited about it, enthusiastic in marketing the program. And so there's a bit of a ramp because just awareness builds, but then it doesn't take very long to get to traction going forward. We'll see that in Northern California. We're in the early stages of ramping here in Northern California, but we've got a very good partner, and they've dedicated a significant amount of resources to communicating this concept. And it's actually seamless. Our IT systems are integrated, so it's a seamless transaction for the customers. And so we're expecting very positive results here. And it's a good program for our shareholders going forward.

Steven A. Burd

Robert, let me take the just for U piece of that and maybe make sure everybody focuses on something that you wouldn't necessarily know, and that is the vast majority of these branded stations are owned by jobbers. And so somebody in that station owns that station. So when we cut our deal with Chevron, that occurred in meetings of 100 owners coming to that meeting. And so this is real, real money to them. And so I think you can get an embrace and a level of enthusiasm at the station level that you wouldn't otherwise expect if you thought these were owned by a big company, making $10 billion, $11 billion a quarter, okay? And so that -- I think, there's an element of entrepreneurial energy, and they can reflect that and the people that might be working hourly there because they get excited about it. And frankly, they give their loyalty to Vons or to Safeway. On the just for U piece, just to make it crystal clear, what we've been able to identify is people that are much more responsive to a fuel offer than others. And so if someone is willing to give us $30 of additional business per week because we reward them at $0.20 per $100, $0.20 a gallon, they get $0.20. All that can be done on a self basis. So you have a basic program in the market, and we will test the sensitivity periodically by doing promotional things on just for U. If we get the response we want, then that can be embedded in their regular set of offers. And that's how that works. So it becomes stealth. Increasingly, the shelf price structure in our stores has less and less meaning as more and more of our shoppers participate in just for U.

Robert L. Edwards

So as you think about our competitive position, think about the assets we have, we have a strong fuel complement, and we're adding basically thousands of virtual fuel stations, and then you combine that with the best in class personalization platform like just for U. So think of those competitive strengths and then think about -- could be a regional competitors, could be more of a national competitor, who either doesn't own fuel, does not have a partnership and does not have a personalization tool, then combine that with the fact that we are gaining share across the conventional channel, but against all competitors. And then so you think about the future going forward, our ability to leverage fuel, but then also personalize offers for people that fuel is the most -- that they're most sensitive to versus competitors, who don't have any of those abilities. Our competitive strengths in this business are increasing significantly versus those people who don't have a fuel program and don't have a personalization tool. So our ability to compete going forward is significantly enhanced versus a large part of our competitive set. So think about small owners, people who own 10 stores or less, they control a surprising share of this business and that even some of the competitors we've talked about a few moments ago, we are very excited about our enhanced ability to compete and capture share because of our fuel program and then the leverage that just for U creates with fuel.

Edward J. Kelly - Crédit Suisse AG, Research Division

My second question for you is how do we think about SG&A growth in sort of dollar terms going forward? Now you've done a lot of great work on cost control over the years. You showed the side today which it looks to be more gross enhancing your profit improvement objectives, right? And then you're rolling into these more premium comps that requires some labor and the health, the wellness thing seems you might require more labor. Are we going back to the more natural rate of SG&A growth in this business, which is, I don't know, probably at least a couple percent?

Robert L. Edwards

Well, you -- I think a couple of data points to connect. You saw the compound average growth rate for labor costs that was on the slide, modest. In the premium stores, clearly, there'll be labor, but we're talking about 300-plus stores relative to our total. And then if you look at our history in managing O&A, I think we excel in this regard. So I think relative to other competitors, we'll be close to best in class in this regard going forward. I haven't got a specific number to quote now, but maybe at a future meeting, we can quantify that. But I'd say we're very optimistic about our skills in this regard.

Steven A. Burd

If you think about how we've leveraged SG&A, that's some pretty modest sales levels. When you get to 2% or 3%, net leverage should be considerably greater. What's going on in here, Bob? We have...

DeAndre Parks

DeAndre Parks from Western Asset Management. I know that Safeway has always been big in Private Label. But can you provide some color on the marketing strategy as it relates to industry pricing structure? As we were walking through the store yesterday, just about every place we went with the organics as well as the meats was a very consistent message in terms of, well, we're better in terms of taste versus the national brand, but we aggressively price below the brand. And it seems like it was quite aggressively, when you think about the piece of marketing, quite aggressive on price. Does that do more to hurt industry pricing structure overall over the long term? And just maybe comment a bit on that.

Steven A. Burd

Yes, just a couple of comments. I think when you think about private brands, there are private brands that actually compete against the private brands of your competitors, and then there are private brands that sit next to an item and they actually compete with a national brand, not your competitors' price point on Private Label. The greater the household penetration -- let's take milk. Milk is milk, U.S. commodity. But there would be brands that are not -- don't have that same level of household penetration, and they would compete with the next-door national brand. We still make greater margins on Private Label products all-in, promotions and everything considered, and it's because we don't have the heavy advertising spend and brand-building activity that's required of a CPG company. So I think we're still about 10 points higher in gross margin against the national brand. That's a combination of low price and low cost. And by having a culinary kitchen and a pretty large brand organization, we bid out these products that are manufactured by others. It's a spec that we designed, so we're getting exactly the same price from the manufacturers. And we've always thought that it was in our best interest, we have 32 manufacturing plants, to be in the business of buying raw materials, to be in the business of processing raw materials and turning them into finished goods. It gives us a leg up as we look for people to supply us with Private Label that we design.

[indiscernible] Victor?

Jason DeRise - UBS Investment Bank, Research Division

It's Jason DeRise at UBS. A couple of questions. I guess one, just kind of a simple one. Will you give the U.S. multi-employer liability? I know last year there was a special press release that came out, and I'm just wondering if you'd be willing to give it. I mean we can obviously go dig it out and try to calculate it ourselves, but if you're willing to share it.

Robert L. Edwards

Well, the last time that we publicly quoted was I think $1.88 billion, something in that range. We have not provided an update to that figure, although we're working on that calculation right now. That's the last public figure we've given.

Jason DeRise - UBS Investment Bank, Research Division

Okay, so maybe I'll ask...

Steven A. Burd

Just one comment on that. I would ask you to sort of etch in your memory, if you can, Robert's slide about that's where a disproportionate amount of percentage increase goes, averaging 5%, and that's the smaller piece of the spend. And even if you were to exit a market and have a withdrawal, that still doesn't require a cash call. So I go back to what Robert said. These are quite manageable numbers. People have asked me for 20 years, what are you going to lose sleep over. My consistent answer has been my kids. And this thing has never hit the radar of anybody in our management team because of how manageable it is.

Jason DeRise - UBS Investment Bank, Research Division

Right, I guess this is just from an enterprise value point of view, sort of the way you would capitalize operating leases is that just to figure out what to do from enterprise down to equity. That's the only reason I'm asking. But on to operations. On the wellness, obviously, aside from the big initiative, there's a lot of emphasis on changing the product mix. I'm wondering, are you going to go as far to really change the store from some of the treat items that are in the store that maybe aren't healthy or maybe -- obviously, there's a big alcohol department. There's -- you sell tobacco. You sell soft drinks. How do you feel about that evolving if wellness is the future of the company?

Steven A. Burd

Sure. I think I would start by telling you that we believe in freedom, and we believe in personal accountability. We believe in serving consumers what they demand and not forcing our concept. I mean I'm a health fitness nut, but there's nothing wrong with indulging in anything that might considered an indulgent product as long as you're personally accountable and you exercise your own freedom. That's why we've changed our health care plan. So I think you will see us introduce products as demand picks up for products that are increasingly good for you. We've made a real effort in the last year over gluten-free product. We've made it a lot easier to find. We're developing this website that allows you to completely change how you would feed your family. That's something -- that's somewhat revolutionary. No one else can do that. And if a doctor tells you he would like you to consume less of something, you can actually go -- you will be able in a couple months go on a Safeway website, look at any product category and choose for yourself the product categories that would be better for you. So we'd rather provide information and be available as trends pick up and not try to cut some sort of independent path because we know what's good for you. So we'll leave it up to consumer choice.

Jason DeRise - UBS Investment Bank, Research Division

Okay. And just a last organizational type of question on just for U. It can obviously be used as a traffic driver. It can be defensive. It can be basket builder. It can be loyalty. Where does that decision get made for each store and each customers? Is it just a black box that just looks at what patterns are and it figures it out? Or do you push a button and say we need to go for loyalty now or we need to go for traffic?

Steven A. Burd

I think that if a store is under competitive threat, and I use the term threat because sometimes we will begin to do some things in advance of the opening. We do that with capital projects. We might put capital into a store in advance of the competitor opening. We might start spending our marketing money a little bit differently in that store in anticipation of an opening. Or sometimes, we'll wait till the opening occurs, then we can be more accurate kind of rifle shooting in what we need to do for that particular store. So we're all aware of the competitive openings, and division presidents are free to weigh in about what they need and where they need it. But the marketing spend and the markdowns and the just for U offers, those are done here at the corporate office. We have a digital marketing group and -- but anybody can weigh in if something seems to be overlooked. But we're looking at trends. We're looking at openings. We're looking at what's going to motivate our shoppers to become more loyal. And I think that we've learned a lot over the last 2 years, but we'll learn a lot more this year. We will get better and better at this. And I think that becomes our longer-term competitive advantage, somebody with 3 years experience versus somebody who just has -- remember, we've made -- I said, we make about -- we made 150 changes already to just for U, and we'll probably make 40 or 50 changes this year. Yes, Bob, back there?

Doug Thomas

Doug Thomas, JET Investment Research. First, I just wanted to congratulate you on your upcoming retirement and tell you that it's been a pleasure to watch all the hard work and effort you put in on behalf of shareholders all these years. I don't think I'd come out here on a regular basis to a meeting of any other company that I can think of like this one, so it's been fun.

Steven A. Burd

Appreciate that.

Doug Thomas

I was wondering, in light of that, I don't -- I've always pointed out you're the largest single individual shareholder in the company. And given your plans for the next 9 months or so, do you -- would it be asking too much to sort of have you comment on whether how we should perceive if, in fact, you decide to start selling your stock or whether how that would -- given the plans that you think you've laid out today and the optimistic tone you've got for the future, would it be safe to assume that you're going to slowly sell your shares or that you're not going to sell your shares or how should we look at that?

Steven A. Burd

Sure. I think it's a good question. I don't know if it's a fair question, but it's -- that's why you started with a compliment, right? I think I've been pretty unique among publicly paid CEOs. I've always believed that I should walk in the shoes of the shareholders. I know Robert believes that. And I've been at this game long enough. I made, from a base salary standpoint, I make exactly today what I made 20 years ago, and I got equity on all my private transactions. So I've had all of that to kind of fall back on. And so I've taken very little off the table. I think right now, I own 1.2 million shares. I own some of those shares at $0.50. That was kind of nice. But many of those, I exercise at $31, and I expect this company to make them worth much more than $31. I think I'm going to -- when we say retirement, to me retirement is going to do something else, and I'll do something else in the health care space. I'm not sure whether I will -- I could work for free. I could do some work that actually adds to my net worth. I could get paid. There's lots of things that I will have available to me. But I do believe in the prospects here and particularly in the initiatives that we've started and how exceptional they are. So I think you can -- I don't know how you'll be able to look at this because I won't be a member of management. My plan is to keep the vast majority of my shares in the enterprise because I think they're going to be more valuable 2, 3 and 5 years from now.

Doug Thomas

If you're willing to work for free, I'm willing to hire you right away, just so you know.

Steven A. Burd

Well, it has to be some very interesting, world-changing health care opportunity.

Doug Thomas

Just a quick -- I have 2 other kind of smaller questions. What is the conversion rate on just for U from the percentage of new enrollments coming from other than existing Safeway loyalty members?

Steven A. Burd

I don't think we've -- I think what you're asking, how many would be new club cardholders. I don't think we've looked at that. The vast majority of people in our markets are walking around with multiple loyalty cards. And so the only way we can look at them as a new shopper is if we haven't seen them for a long time. But I would tell you that I think the vast majority of our incremental sales are coming from people who have shopped with some regularity, probably our top 3 groups. That's where a lot of the spend is, that's where a lot of the increase is. Because even in the highest loyalty category we have, we're only getting 85% of their wallet. Just to kind of give you -- in the top spend group, I think that average is $130 spend. Now that sort of food retail spend, I happen to be an empty nester. There are 2 of us. I have more than my share of house guests, but my weekly spend at Safeway is $350, okay? And I don't drink wine or beer. I don't drink any other alcohol either. So where is that spend going? It's basically going into basic food. So there's a lot of potential to increase the loyalty of our shoppers. And Diane said it best. We love it when somebody calls us and says, "Well, in my store..." That's what we want. We want all of our shoppers to stake ownership. We want them to identify with their store.

Doug Thomas

And then just last question. The deals you have with Chevron and Exxon Mobil in California, for example, or other geographic regions, are they exclusive to Safeway? And you mentioned you're building another gas facility as we speak or you've approved one. And I'm just thinking why would you -- under what circumstances would you add a new gas station, for example, if it is so expensive, unless there's not a potential partner nearby within driving distance. That's it.

Steven A. Burd

Sure. Good questions. [indiscernible] fuel guy, then I'll fill in.

Robert L. Edwards

In some cases, a lot of part is due to how close either the Chevron or Exxon stations are to the store, proximity, distance, commute time. There's some cases, where there won't be a branded partner of choice available within so many miles, then we'll make the decision to build our own site there. So it's based on the density of the branded partners' coverage, how close they are to the store, how long distance, those kinds of things. So we've got some decision rules set up of how to make that call. And then as we get more information, as we move further into the partnership, then we'll modify our algorithms as to how we make that call.

Steven A. Burd

And dealing with your -- the exclusive element of your question, we have the right to add stations, but Robert said earlier, we're not adding them in any great clip. If you compare the last 12 months to back in 8 years ago, it tends to make sense if you have a very high volume store. If I think of the last 3 that we located that I can think of, it may not be the last 3, but I can think of $1.1 million a week, $1.2 million a week, $900,000 a week, and we get a lift in the store of about 6% when we put that station there. But we trade that off against now our partners. And so if the dollar amount of lift, so it's easier to justify a $1 million a week store, isn't there then the partner is there. And so we've committed to them as our partner and they've committed to us that we are their partner. And we manage to do this with 2 branded partners. It takes us to 94% in the U.S. And the reason it's 94% instead of 100% is neither of those partners is a good play in that other 6%. So you could see us add a different partner. And so the exclusions are by market.

Robert L. Edwards

And just to comment on the relationships, say, particularly with Chevron, this may also apply with Exxon. There are other potential synergies based on potential for expanded relationships that may occur with Chevron. We're in a discussion on a number of different initiatives, but very good partner and could be other synergies for both companies that we're exploring now. So we're very excited about the relationship on a number of different levels actually.

Steven A. Burd

Yes, Victor [ph]?

Unknown Attendee

Andrew Restrick [ph], Elements in Management [ph].

Steven A. Burd

We have 4 minutes. Okay, go ahead.

Unknown Attendee

Just a quick question, turning to Blackhawk. Last year, net revenues were $448 million and the adjusted EBITDA was $100 million. Can you give us a better idea of what lies between those 2 lines? How much of it is variable?

Robert L. Edwards

Would you say that again. I wasn't exactly sure…

Steven A. Burd

Did you understand the question?

Robert L. Edwards

I didn't understand the question.

Unknown Attendee

Yes, last year, Blackhawk's net revenues were $448 million and your put it [ph]adjusted EBITDA of $100 million. What lies between those 2? What do you spend the money on? What are the costs of the business, and how much is variable?

Steven A. Burd

He's saying [indiscernible] why isn't it $448 million? Because we pay Bill. Why don't you just talk about it?

William Y. Tauscher

I wish it was my salary. If you get on the list of where -- what the cost to make Blackhawk work, you've get a lot of processing and transaction cost. We got set data centers, connectivity in terms of network connections in almost any network of the world. So all of that has to be supported. We literally are connected to all those POS devices and we settle with all our providers. We have a very substantial customer care operation, not only for all of our partners, but a customer care operation for some of the products we manage all the way to the consumer. Some are telecom products, some of them prepaid financial products. So there's a customer care operation embedded in our business. We have a distribution operation. We shipped 315 million cards in the U.S. alone last year, and we did that on a direct store delivery for about 60% of the deliveries to all those distribution points, some 50,000 across the U.S., so there's a big distribution business sort of at the bottom of this. We've also got every single one of the network on long-term contracts. We process 1,000 contracts a year around the world, both renewals and new contracts, as we add people to the network. So we have a lawyer or 2 sitting in the backroom to get that done. So this is a robust, pretty large network. Some of those costs are variable, some are fixed. One of the comments I made, I think, last night at dinner was we have spent the last 3 or 4 years building out a lot of this structure. We, in the early years, sort of, rode on the back of some of Safeway's things. There were lots of limitations to that. We ran on Safeway systems. We use Safeway's accounting. So in the last 3 or 4 years, we built this infrastructure out and haven't gotten a lot of operating leverage as a result of it because we want to build it out world class, we want to build it out with industrial strength. And in the accounting and finance area, we want to build it out so we could really be an independent company and do all the right things in that regard. The good news is a lot of that's come to the end, so we have some hope for the future that we'll get some more leverage than we've seen in the past.

Steven A. Burd

And we have one more question. Go ahead.

Damian Witkowski - Gabelli & Company, Inc.

Damian Witkowski with Gabelli & Company. I didn't want to leave without talking about Canada. So if you just look at Canada, I mean, obviously, it's a market that you're excited about it. We have still [indiscernible] for you to be rolled out in the wellness program later on. But hypothetically speaking, if someone came along and wrote you a check for the entire business that kind of reflected all of that and the board was happy with it, what would be the 2 reasons you might not do it? Is it because you view Canada as so strategic long term, or is it simply that the tax structure would not work for American shareholders? I'm not sure if you've looked at that.

Steven A. Burd

I guess my answer to that would be if Barack Obama were standing here, he would say he doesn't answer hypothetical questions. I think that I don't want to add to any of the speculation or rumor that's out there. So I think that what you should take comfort in is that we are very shareholder-driven. And I own a lot of shares, as commented earlier, and our goal is to always do what's in the best interest of shareholders, and we take a much longer-term view of that than the typical shareholder, who is free to buy and sell virtually every day. So our view is clearly long term, and any asset that we have -- we don't just look at how it performs today, we look at what we can do with that asset and how it performs tomorrow. So we make decisions that are in the shareholders' best interest.

Okay. Thank you all for coming.

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