Perry Caicco - CIBC World Markets John Heinbockel - Goldman Sachs Mark Husson - HSBC Meredith Adler - Lehman Brothers Todd Duvick - Banc of America Chuck Cerankosky - FTN Midwest Securities Scott Mushkin - Banc of America Ken for Deborah Weinswig - Citigroup Andrew Wolf - BB&T Capital Markets

Good day, ladies and gentlemen, and welcome to the second quarter 2007 Kroger Company earnings conference call. (Operator Instructions) I would like to turn the call over to your host for today, Ms. Carin Fike, Director of Investor Relations. Please proceed. Carin Fike: Good morning and thank you for joining us. Before we begin, I want to remind you that today's discussion will include forward-looking statements. We want to caution you that such statements are predictions and actual events or results can differ materially. A detailed discussion of the many factors that we believe may have a material affect on our business on an ongoing basis is contained in our SEC filings, but Kroger assumes no obligation to update that information. Both our second quarter press release and our prepared remarks from this conference call will be available on our web site at www.kroger.com. Now I would like to introduce Mr. David Dillon, Chairman and Chief Executive Officer of Kroger. David Dillon: Thank you, Carin and good morning, everyone. We're pleased you could join us to review Kroger's second quarter 2007 financial results. With me today are Rodney McMullen, Kroger's Vice Chairman; Don McGeorge, Kroger's President and Chief Operating Officer; and Mike Schlotman, Senior Vice President and Chief Financial Officer. I'll begin with the recap of Kroger's second quarter and year-to-date results. I will also update our guidance for 2007 and Rodney will then provide additional details on Kroger's second quarter results. After that, we'll be happy to take your questions. Kroger delivered another quarter of strong sales performance. Total sales for the second quarter increased 6.6% to $16.1 billion and identical supermarket sales increased 5.8% with fuel and 5.1% without fuel. This is the ninth consecutive quarter Kroger has reported identical supermarket sales, excluding fuel, in excess of 3%.…

Your first question comes from Perry Caicco - CIBC World Markets. Perry Caicco - CIBC World Markets: On the gross margins, I just want to make sure we understand the impact of passing along the higher product costs. Do you see this as essentially a one-time catch-up from Q1, or should we expect margins to be impacted for the rest of the year? David Dillon: Perry, we were trying to demonstrate by illustrating the year-to-date picture that you ought to look at Q1 and Q2 together in this regard and actually in operating profit too. One of the reasons we did is that we identified in the first quarter that as inflation occurs, depending on the items that it happens in and depending on the market conditions, it may or may not get passed through at that particular moment in time. You may as a result see some unusual fluctuations in margins at different times because of that. As a result, I think you could continue to see that same kind of a picture down the road depending on what happens with inflation and then what items occurs and what the market conditions are. Mostly what we're trying to do is make sure you understand not to expect growing gross margins and instead to look back at what our overall strategy is. Our overall strategy is to grow identical sales and have a slightly improving operating margin. That requires actually, in our opinion, that we continue to invest in each of the four keys -- not just price -- but each of the four keys on those areas where we find savings. That's the overall picture and theme that we want to make sure you take away from this call. Perry Caicco - CIBC World Markets: Do you have any…

Your next question comes from John Heinbockel - Goldman Sachs. John Heinbockel - Goldman Sachs: A terrific quarter. A couple of things. Number one, you talked about market conditions maybe being a little more favorable in the second quarter. Was the competitive environment or the promotional environment a little less intense? Is that what you were referring to? Related to that, what was your level of, on a relative basis, magnitude of your price investment second quarter versus first? Were they substantially less or modestly less or how would you define that? Rodney McMullen: Well on the market conditions, from a competitive point of view, I don’t think that the conditions really changed much. I think probably if I were to try to guess the reasons we saw a difference in what you are asking about is that the whole market was paying higher costs on products and as a result, competitors chose to raise some of their retail prices on selected items, based on this cost. That took a little bit of the heat off of individual items that may have kept us in the past from being able to pass through a cost increase, again, depending on the items. Some items like milk varies every week. But other items, it wouldn’t be as competitive. Once those get passed through to the market then it is certainly back to the competitive conditions it was before, even though we passed through a price increase. So that’s really what was happening there. The other question you asked was? John Heinbockel - Goldman Sachs: The proactive strategic price investments seem to be a bit less in the second quarter than the first. A general sense of magnitude of how much less? Rodney McMullen: Price investment in the quarter, I don’t think we…

Your next question comes from the line of Mark Husson - HSBC. Mark Husson - HSBC: We've been looking at these numbers and noticed a couple of things. The first thing was, they weren't too bad, were they? David Dillon: Well, thank you. Mark Husson - HSBC: The second thing was, if you look back, and I went back through the models to have a look and see the last time you had a gross margin increase, because it's a bit rare, and it was about five years ago, actually the first quarter in 2002. Also in that period of time, you've managed to lose about 350 basis points of gross margin and lost about 150 basis points of SG&A. Now I think you anticipated a long journey in terms of rebuilding and rebasing the P&L account, but being as we have now seen your guidance is 165, well, includes 165, which was about what you made five years ago, finally, so while these numbers aren't very good, it's five years since you made the same number. Has that journey ended, or how is it changing? It seems unlikely you're going to lose another 350 basis points over the next five years. David Dillon: Well, I'm glad you noticed the milestone that we're reaching. We appreciate that insight. It is a long journey. I don't view this as the end of that journey. I view it as actually we're in the second half of it. But that's actually because it's almost like the cost opportunities of saving money and the cost savings that we see, when you get to the top of the peak, you look out ahead and see another mountain peak higher than the last one, you say, whoa, what at an opportunity. Every step of the way…

Your next question comes from the line of Meredith Adler - Lehman Brothers. Meredith Adler - Lehman Brothers: I have a bunch of questions that kind of follow on what people have said. I would like to just start with the last thing you said, that customers are pleased with changes you've made in your business, outside of just price. At your analyst meeting last year, you actually put up a slide and showed customers' view of those four keys. Could you just update us a little bit? I think you've said you're happy with price, but what about everything else. Are you seeing customers report back to you improvement? David Dillon: We continue to improve, but if you would ask us internally, we're not making as much progress as we would like and it's certainly one of those half full or half empty. The positive is we continue to improve, but we want to improve even more. Meredith Adler - Lehman Brothers: Then sort of following on this conversation with Mark, do you see the potential ever to get back the 200 basis points of operating margin that you lost? Is that not something you're even thinking about? I know you want to drive sales, but is it reasonable to believe that? David Dillon: We really are focused on the combinations of sales and what then happens with our operating margin and the slight improvements that we're seeking. It's my personal opinion that if we were to make a drastic change in the near term in operating margins that we would soon see the sales gains that we had get dissipated and the combination of our strategy would not really work after that. So you should not expect anything in the short run that would cause that to be…

Your next question comes from the line of Todd Duvick - Banc of America. Todd Duvick - Banc of America: Good morning and congratulations. I was wanting to know if you can tell me about the share buyback program? On a full-year basis, do you plan to buy back the shares strictly with cash flow, or are you also considering funding the program partly with debt? Rodney McMullen: Our long-term strategy is to fund our share buyback and dividend with free cash flow and manage our net total debt to EBITDA ratio to a level that will allow us to be a solid investment grade rating. As the enterprise expands and EBITDA continues to grow, you can see what we spent over the rolling four quarters on capital, which is why we talked about those. We spent $2 billion in capital and then bought in the level of stock we did over the rolling four quarters as well as paying the dividend. We spent quite a bit of dollars and we're still able to reduce net total debt and improve our leverage ratio. My expectation would be that you would continue to see that kind of activity happen. Debt at some point, as the enterprise continues to grow and EBITDA continues to grow, we need to balance the amount of debt as compared to the amount of equity on our balance sheet to make sure we have the right balance. But we will remain focused on our net total debt to EBITDA ratio to manage that to a very solid investment grade. Todd Duvick - Banc of America: So I take from that that as we look at the debt balance going forward, generally we should expect debt to grow inline with cash flow? Rodney McMullen: I wouldn't predict a…

Your next question comes from Chuck Cerankosky - FTN Midwest Securities. Chuck Cerankosky - FTN Midwest Securities: Just one cleanup item to start with. You mentioned when you're discussing the gross profit margin, Rodney, you talked about a 38-basis point item and I sort of lost what that was? Rodney McMullen: Let me go back and make sure I quote exactly right. It was supermarket selling gross. David Dillon: Yes, the supermarket selling gross in the quarter was up 38 basis points. Chuck Cerankosky - FTN Midwest Securities: If we're looking now at these acquired store, the 37 you just bought, can you tell us where they're at in terms of getting them fixed up, how many are open, and when the rest will reopen, that sort of thing? David Dillon: All are reopened except for one store that we plan to reopen. The one store that we didn't reopen, we will do a major remodel in that store and we just didn't think it made much sense to open it, because the remodel is going to be so major. They're all converted to Kroger systems and all of those behind the scenes things. Now we're going through the process of actually remodeling the stores and that will take two or three years to get through all of them in terms of remodeling the stores to the way we like. Chuck Cerankosky - FTN Midwest Securities: And those will be more basic remodels? David Dillon: It will be everything from basic to some will be pretty serious. It's a pretty wide range and if you look on both of these, we were especially pleased with some of these sites and we will make sure that we remodel these stores right, because we think the opportunity is pretty big in terms…

Your next question comes from the line of Scott Mushkin - Banc of America.

I just wanted to kind of pick on the issue of going back to the gross margins, but also a comment you made that there was a little less price investment during the quarter. Vis-à-vis clearly Wal-Mart, a big competitor of you guys have been vocal in the other direction. With the second quarter it seems like Wal-Mart, they did it in October, it didn't have an affect. They started doing this again in June, maybe even on a bigger basis. Are you just not seeing any impact from their actions, or they're thinking that the consumer's in a different place? Are you seeing any consumer reaction to what seems to be a more difficult economic macro economic environment? David Dillon: Scott, I look at lots of different competitors and certainly Wal-Mart is one of them. I'm pleased with, actually, our price competitiveness as to Wal-Mart on a relative basis compared to where we've been over time. I don't think that we've let that position deteriorate. On the other hand, we have similar questions on other competitors too, as to how we're faring those and we watch those pretty closely. Overall our price position, we are generally pleased with it. I've said before and I think it's still true that there are plenty of opportunities to improve on that position, but relatively speaking from whence we came several years ago, we've really improved on that situation. I don't think that changed in the quarter, because really the costs that we described in our inflation were costs that many others, in fact everybody else, would have experienced too. So they would have had to figure out what they would do with their own pricing and in their own situations. Rodney McMullen: And also, some of their price investments or comments are…

Just for what it's worth, our pricing survey with Wal-Mart are showing gaps widening again, for what it's worth. The second question I had was regarding growth, and I think it goes back to a question Mark was asking or looking at it historically. Historically you guys, if I go back in my model, it looks like you used to grow square footage net of about 4%. As we look out to '08, '09, and look to maybe transition from the value story, are there opportunities to grow organically or do you still favor the acquisition fill-in? Rodney McMullen: At this point, our preferred method, obviously, is growing identical sales. Because we've had great success in that and we think when you look across the enterprise, we still have a lot of capacity to grow identical sales even better than where we are and then some of the slightly improving margins and buying back stock. You'll see us over time to continue being a little bit more aggressive, but it will be more in terms of replacing good stores with Marketplace stores will really drive the organic growth. To go into new markets, you probably won't see too much of that unless it's finding the right company to merge with.

Your next question comes from the line of Deborah Weinswig - Citigroup.

Congrats on the impressive quarter. My question relates to your Kroger personal finance initiative. We noticed that you guys have added a few more products on your website. Can you give us an update on that strategy and how has that impacted traffic or just the overall results? Rodney McMullen: Overall, we're very pleased with where we are in Kroger personal finance. As you know, we have a partnership with Royal Bank of Scotland and it's working out great for us. When you look at the business model overall it continues to develop where we expected if not better than what we originally expected. Our customers continue to reward us with more and more loyalty on some of the products. So overall we're very pleased with where we are and we are very pleased with where we see it going and it really is just one more thing to eliminate another stop for the customer to make it easy for them. We have some great products at very good values for the customer.

As far as the financial contribution to your earnings, can we expect that to be significant five years from now, or is this more for traffic building? Rodney McMullen: It certainly has the opportunity if you look five years out, to be something that would be willing to talk about, but we're looking at it one step at a time.

My last question is related to your in-store clinic strategy. Can you give us an update on how that's going? Rodney McMullen: Currently, we have in-store clinics, I believe, in 30-some stores. We've partnered with several different companies on our in-store clinic strategy. So far, the customers seem to like it and it continues to grow, but the growth is reasonably slow. But we continue to look at it and look at how it will become part of our overall pharmacy strategy and try to understand how to make it a more important piece. It's still pretty early in the process, but it's something we are spending some energy on trying to understand and look at in a little bit more serious way.

Your next question comes from the line of Andrew Wolf - BB&T Capital Markets. Rodney McMullen: Andrew, this will be our last question, I think. Andrew Wolf - BB&T Capital Markets: I've got two for you and congrats on the momentum. Do you give out or can you give out the change in penny profit per gallon at your fuel stations? I think you mentioned you had a good quarter there in profits. Rodney McMullen: We do not and we always think it's more important to look at it over a longer period of time than quarter-to-quarter, but we do not give out the specifics. Andrew Wolf - BB&T Capital Markets: The other question regards inflation crept up from 2% in the first quarter and whatever it was last year, looks like it was running around 1%. You're passing through more of it and sales are very impressive, but they're on a nominal basis at about the same number, 5% plus comp. So that implies either your tonnage or volume is sort of decreasing or there's some trading down, which I guess you would expect in this environment. In lieu of that, if you agree to that kind of logic, would you discuss trends in tonnage and in trading down? David Dillon: Well, the trading down is hard to track, at least in a very precise way. Certainly, we believe some of that would occur. People trading to a lower priced product, buy more Kroger brand, which certainly has been true in the quarter. Whether that's driven by inflation or driven by national brands raising prices, it's hard to say. But to that extent, we certainly believe the customers will tend to shift as they need to shift, but they also will shift, as I mentioned earlier from restaurant business…