Gary Millerchip
Senior Vice President and Chief Financial Officer at Kroger
Thanks, Rodney, and good morning, everyone. As Rodney shared this morning, Kroger delivered strong results in the third quarter, highlighting the flexibility of our business model in a dynamic operating environment. Our focus on execution combined with our disciplined approach to balancing investments in our associates and customers with strong cost management and growth in our alternative profit business is positioning us well for the future. Over time, our model has proven to be resilient during different economic scenarios, and this was true again during the third quarter as we grew the top and bottom lines while navigating higher product cost inflation, a tight labor market and supply chain constraints.
Our identical sales without fuel in the quarter returned to positive, growing 3.1% as we delivered for our customers across our seamless ecosystem and customers again signaled higher food-at-home consumption is here to stay. Adjusted FIFO operating profit and adjusted EPS both increased year-over-year and grew by compounded annual growth rates of 22% and 29% respectively versus 2019.
Third quarter EPS was impacted by two unusual items that were excluded from our adjusted EPS results. First, we engaged in an annuity buyout on lump sum distribution transaction related to the Company's consolidated retirement benefit plan, which will reduce future administrative costs. This triggered a write-off of deferred losses and the non-recurring non-cash charge of $87 million on a pre-tax basis. This Company pension plan is currently 100% funded as a result of previous action taken to freeze the plan and protect benefits for our associates. This transaction was fully funded by assets in the plan. The second unusual item was Kroger recording a non-recurring benefit of $47 million, or $0.07 per diluted share, primarily due to the favorable outcome of income tax audit examinations covering multiple years. This amount is also excluded from the Company's adjusted net earnings per diluted share result for the third quarter.
I'll now provide more detail on our operating results in the quarter. On a two-year stack basis, our identical sales without fuel increased 14%. We also saw digital sales increase 103% on a two-year stack. As we have previously shared, we do not expect digital growth to be linear, especially as we cycle last year's sales spike and customers become more comfortable shopping in store again. The launch of several new digital offerings, which Rodney outlined earlier in addition to the rollout of new customer fulfillment centers, gives us confidence in our ability to deliver against our growth targets for digital sales and profitability. We look forward to sharing more detail on our digital roadmap at the business update in March that Rod noted earlier on the call. With regard to digital profitability, we continued to make progress during the quarter and achieved our best cost to serve on record for pick-up orders.
Gross margin was 21.66% of sales for the third quarter. The FIFO gross margin rate, excluding fuel, decreased 41 basis points compared to the same period last year. This decrease primarily related to higher supply chain costs and continued price investments, partially offset by sourcing benefits. Our investment was in line with expectations and fully funded by cost savings and OG&A improvement. Recognizing recent inflation trends and our outlook for the rest of the year, we recorded a higher LIFO charge for the quarter of $93 million compared to $23 million in the prior year. This increase represents a $0.07 headwind to EPS in the quarter versus 2020.
The operating, general and administrative rate decreased 49 basis points, excluding fuel and adjustment items. This improvement was achieved even with continued investments in our associates and growth in our average hourly rates and reflects the outstanding work our associates are doing to execute cost saving initiatives in a very dynamic environment. We remain on track to deliver $1 billion of cost savings during 2021.
Our alternative profit business had a record third quarter, and remains on track to deliver the high-end of our expected range of $100 million to $150 million of incremental operating profit in 2021.
We saw increased strength in Kroger Personal Finance results during the quarter. And Kroger Precision Marketing introduced a new programmatic advertising marketplace to unleash first-party targeting and measurement capabilities, further highlighting our ability to differentiate in the advertising space. Fuel is also an important part of our overall value proposition and a key offering to help customers stretch their dollars, especially in times when fuel prices are high. During the quarter, we saw a significant increase in the number of customers actively engaging in our fuel program. Gallons grew in the third quarter by 5%, outpacing market growth. The average retail price of fuel was $3.24 this quarter versus $2.15 in the same quarter last year. Our cents per gallon fuel margin was $0.42, compared to $0.37 in the same quarter in 2020.
I'd now like to spend a couple of minutes providing some additional perspective on how we are proactively managing inflation. We are currently operating in a more volatile inflationary environment. And during the third quarter, Kroger saw higher product cost inflation in most categories. We are being disciplined in managing these increases. Our teams are doing an excellent job working to minimize the effect on our customers and our financial model by using our data and working closely with our suppliers. We are passing along higher cost to the customer, where it makes sense to do so. In some key areas, we are choosing not to pass through cost increases and continuing to invest in value for the customer. We are investing where it matters most using our proprietary data to be strategic in our pricing and personalization with the objective of winning long-term customer loyalty. We also believe our brands is an important -- is an even more important differentiator for Kroger in an inflationary environment, offering customers an unmatched combination, a great value and great quality.
Turning now to our financial strategy. Kroger is operating from a position of strength and continues to generate strong free cash flow, as evidenced by our net debt to EBITDA ratio hitting an all-time low of 1.68 in the third quarter. While we continue to see attractive opportunities to invest in the business to widen our competitive moats and drive sustainable revenue and earnings growth, our capital expenditures in 2021 are now expected to be below our original guidance range of $3.4 billion to $3.6 billion. This is because of delays in project implementations, primarily due to COVID-19-related supply challenges.
Kroger continues to return cash to shareholders. During the quarter, we repurchased $297 million of shares and year-to-date have repurchased $1 billion of shares. Since 2000, we have now returned more than $20 billion to shareholders via share repurchases at an average price of $16.45 per share. As of the end of the third quarter, $511 million remains outstanding under the current Board authorization announced on June 17, 2021. We look forward to sharing more about our plans for future deployment of excess cash to drive sustainable growth and create value for our shareholders at our business update in March.
As Rodney mentioned, we continue to invest meaningfully in our associates. In addition to the $350 million of hourly rate investment already planned this year, we're committed to further investments in the fourth quarter, which equates to an incremental $100 million on an annualized basis. During the third quarter, we ratified new labor agreements with the UFCW for associates in our Columbus and Mid-Atlantic divisions, covering over 4,500 associates. We continue to negotiate contracts with the UFCW for store associates in Houston, Lake Charles, Shreveport, Dallas Meet [Phonetic], Little Rock, Memphis, Portland and Denver.
Our financial results are pressured by inefficiencies in healthcare and pension costs, which most of our competitors do not face. We continue to communicate with our local and international unions, which represent many of our associates about the importance of growing our business in a profitable way, which will help us create more jobs and career opportunities and enhance job security for our associates.
I'll now turn to our expectations for the remainder of 2021. Driven by the momentum in our third quarter results and sustained trends in food at home, we are raising our full year guidance. We now expect identical sales without fuel for the full year to be between negative 0.4% and negative 0.2% and a two-year identical sales stack of between 13.7% to 13.9%. There remain some uncertainties as we look ahead and our guidance of positive ID sales excluding fuel of between 1.5% to 2.5% in the fourth quarter reflects this.
We expect adjusted net earnings per diluted share to be in the range of $3.40 to $3.50. We expect our adjusted FIFO operating profit to be in the range of $4.1 billion to $4.2 billion, reflecting a two-year compounded annual growth rate of between 17% and 18.4%. The midpoint of our adjusted EPS range for 2021 now equates to full year results approximately in line with our 2020 results, despite cycling the unique COVID-19-related demand spike last year.
Our guidance fully reflects the investments in our customers and associates I shared earlier, plus increased marketing to support the exciting new digital initiatives we launched in the third quarter. It also reflects the latest projection for LIFO, and because we recorded a LIFO credit in the fourth quarter last year, LIFO is now expected to be a $0.13 headwind to EPS in the fourth quarter.
Overall, we are very proud of our results, which are projected to be significantly ahead of where we originally guided for the year. In conclusion, Kroger is executing against this key financial and operational initiatives and continues to invest in strategic priorities that will deliver attractive and sustainable total shareholder return of 8% to 11% over time. We believe our business is emerging stronger through the pandemic and through the investments we are making is well positioned to grow beyond 2021.
I'll now turn it back to Rodney.
