Fitch Ratings Reports Safeway’s Outlook As Stable

NEW YORK — Fitch Ratings has affirmed its ratings on Safeway Inc. (Safeway), including the Issuer Default Rating (IDR) at 'BBB'. The Rating Outlook is Stable. As of Sept. 11, 2010, Safeway had about $5.3 billion of debt outstanding, including capital leases. A full rating list is shown below.

The ratings reflect Safeway's broad geographic presence and strong positions in its key markets, cost reduction efforts, strong cash flow generation and steady credit metrics. The ratings also consider the economic environment and intense competition in the sector which are expected to continue to exert pressure on sales and operating profitability.

Safeway is one of the largest supermarket operators in the U.S. with 1,702 stores located primarily in the West, Chicago and mid-Atlantic regions as well as western Canada. The company has benefited from its investments in its private label products and store base under its 'Lifestyle' format, which represents 83% of the stores.

Safeway's operating performance has been pressured by the competitive and challenging operating environment and, as a result, the company has reported negative non-fuel ID (identical) store sales over the past seven quarters. However, the trend in ID store sales has been improving with non-fuel ID sales of -3.1%, -2.5%, and -2.0% during the first, second, and third quarters of fiscal 2010, respectively. This follows the company's significant price investments in the U.S. market during the second half of 2009 which has improved its price perception with consumers. As a result, in each of the past two quarters, Safeway reported flat volume levels. Fitch expects non-fuel ID sales to improve modestly in the fourth quarter and further in fiscal 2011 as the company anniversaries the price investments from the prior year and as food price inflation is expected to gradually return to more historical low single-digit levels. However, still a concern for sales is the continued pressure on consumers and competitive pricing activity.

Despite the significant price investments, Safeway's gross margin has declined only 30 basis points since 2007 given the company's significant product cost reduction efforts including reductions in shrink and other supply chain efforts. However, weak sales levels have reduced the company's O&A expense leverage, and EBIT margin is expected to be below 3.0% in 2010 compared to 4.2% in 2007. It is expected that operating profits will continue to be pressured although operating profitability should strengthen as ID sales improve in fiscal 2011.

As a result, Safeway is expected to continue to generate strong cash flow which will be used primarily for dividends and share repurchases. Debt levels should remain relatively stable with credit metrics improving modestly from current levels. For the latest 12 months ended Sept. 11, 2010, total adjusted debt/EBITDAR was 3.2 times (x) and EBITDAR coverage of interest and rents was 3.6x. Safeway's liquidity remains strong, with a $1.6 billion bank credit facility that supports is commercial paper program under which $444 million was outstanding on Sept. 11, 2010. The company's debt maturities are manageable with upcoming maturities of $500 million in 2011, $800 million in 2012 and $0 in 2013 which Fitch expects will be refinanced.

Fitch has affirmed the following ratings on Safeway with a Stable Outlook:

–Long-Term Issuer Default Rating (IDR) at 'BBB';
–Senior unsecured notes at 'BBB';
–$1.6 billion bank credit facilities at 'BBB';
–Short-Term IDR at 'F2';
–Commercial paper at 'F2'.

Source: Fitch Ratings