Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations

Results of Operations

Net income was $234.3 million ($0.53 per diluted share) for the second quarter of 2008 compared to net income of $218.2 million ($0.49 per diluted share) in the second quarter of 2007.

ECONOMIC OUTLOOK The current economic environment has made consumers more cautious. This trend may lead to reduced consumer spending which could affect Safeway's sales growth. Additionally, rising food inflation combined with reduced consumer spending could also put pressure on gross profit margins.

However, in a slowing economy, we anticipate that some customers may trade down from dining out in restaurants to shopping more at grocery stores such as Safeway and from purchasing national brand products to purchasing less expensive Safeway private label brands. Additionally, rising fuel prices may lead some consumers to switch from shopping at more remote club and discount stores to Safeway's more convenient neighborhood locations.

SALES AND OTHER REVENUE Total sales increased 3.0% to $10.1 billion in the second quarter of 2008 compared to $9.8 billion in the second quarter of 2007. This increase was driven by contributions from Lifestyle stores, an increase in fuel sales of $138.1 million and an increase of $132.2 million (in U.S. dollars) due to a change in the Canadian dollar exchange rate, partly offset by a shift in Easter holiday sales which occurred in the first quarter of 2008 compared to the second quarter of 2007. At the end of the second quarter of 2008, Safeway had 1,096 Lifestyle stores compared to 838 at the end of the second quarter of 2007. Non-fuel, identical-store sales declined 0.3% due in part to the shift in Easter holiday sales. When adjusted to exclude the estimated impact of the Easter holiday shift, non-fuel, identical-store sales increased 1.0%.

Safeway's marketing strategies have evolved in recent years and are based on consumer research and competitive analysis. This helps us carry the right products (such as organic products and our revitalized corporate brands) at the right prices (including our club card specials), increasingly merchandised in a warm and inviting shopping environment (our Lifestyle stores). We have communicated this message through our "Ingredients for life" advertising campaign. We believe all of these elements have contributed to our sales growth.

Through past experience, we have further improved our Lifestyle store execution by refining the layout and dιcor of the Lifestyle format and improving our store opening promotions. We believe this has contributed to our sales growth.

Same-store sales increases (decreases) for the second quarters of 2008 and 2007 were as follows:

                                                                    12 weeks ended
                                              June 14, 2008                              June 16, 2007
                                     Comparable-          Identical-
                                     Store Sales         Store Sales          Comparable-         Identical-Store
                                     Increases/           Increases/          Store Sales              Sales
                                     (Decreases)         (Decreases)*          Increases            Increases*
As reported                                  1.0 %                0.9 %               4.9 %                   4.5 %
Excluding fuel sales                        (0.2 %)              (0.3 %)              4.0 %                   3.7 %
Excluding fuels sales and
estimated Easter holiday shift               1.1 %                1.0 %                   **                      **

* Excludes replacement stores.

** There was no Easter holiday shift in 2007 since Easter fell in the second quarter of both fiscal 2007 and fiscal 2006.

                         SAFEWAY INC. AND SUBSIDIARIES

                    MANAGEMENT'S DISCUSSION AND ANALYSIS OF

                 FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The amount and percentage of total sales and other revenue contributed by food,
drug, general merchandise and other and by fuel sales are shown below:



                                                           12 weeks ended
    (dollars in millions)                        June 14, 2008        June 16, 2007
    Food, drug, general merchandise and other   $  9,094.5    90 %   $  8,935.9    91 %
    Fuel                                           1,025.5    10 %        887.4     9 %

Total sales and other revenue $ 10,120.0 100 % $ 9,823.3 100 %

GROSS PROFIT Gross profit represents the portion of sales revenue remaining after deducting the cost of goods sold during the period, including purchase and distribution costs. These costs include inbound freight charges, purchasing and receiving costs, warehouse inspection costs, warehousing costs and other costs of Safeway's distribution network. Advertising and promotional expenses are also a component of cost of goods sold. Additionally, all vendor allowances are classified as an element of cost of goods sold.

Gross profit declined 20 basis points to 28.31% of sales in the second quarter of 2008 compared to 28.51% of sales in the second quarter of 2007. Excluding the effect of higher fuel sales (which have a lower gross margin) gross profit margin increased 26 basis points. This improvement was the result of improved shrink and lower advertising expense, partly offset by investments in price.

The decline in advertising expense was primarily the result of a different mix of advertising media and may not necessarily continue in the future. Improved shrinkage and supply-chain initiatives are the result of long-term efforts which we do expect to continue into the future. Supply-chain initiatives consist primarily of Company programs to reduce cost of goods, transportation and warehouse expenses.

Vendor allowances totaled $583.9 million for the second quarter of 2008 and $579.0 million for the second quarter of 2007. Vendor allowances totaled $1.2 billion for the first 24 weeks of 2008 and 2007. Vendor allowances can be grouped into the following broad categories: promotional allowances, slotting allowances and contract allowances. All vendor allowances are classified as an element of cost of goods sold.

Promotional allowances make up nearly three-quarters of all allowances. With promotional allowances, vendors pay Safeway to promote their product. The promotion may be any combination of a temporary price reduction, a feature in print ads, a feature in a Safeway circular or a preferred location in the store. The promotions are typically one to two weeks long.

Slotting allowances are a small portion of total allowances, typically less than 5% of all allowances. With slotting allowances, the vendor reimburses Safeway for the cost of placing new product on the shelf. Safeway has no obligation or commitment to keep the product on the shelf for a minimum period.

Contract allowances make up the remainder of all allowances. Under the typical contract allowance, a vendor pays Safeway to keep product on the shelf for a minimum period of time or when volume thresholds are achieved.

OPERATING AND ADMINISTRATIVE EXPENSE Operating and administrative expense improved 36 basis points to 23.85% of sales in the second quarter of 2008 from 24.21% of sales in the second quarter of 2007. Higher fuel sales in 2008 reduced operating and administrative expense margin by 26 basis points. The remaining 10 basis point improvement was the result of reduced employee costs, partly offset by lower property gains and higher energy and occupancy costs.

INTEREST EXPENSE Interest expense declined to $81.7 million in the second quarter of 2008 from $89.7 million in the second quarter of 2007 due to a combination of lower interest rates and lower average borrowings.

OTHER INCOME, NET Other income declined to $2.0 million in the second quarter of 2008 from $5.4 million in the second quarter of 2007 due primarily to lower operating results at Casa Ley, Safeway's unconsolidated affiliate.

INCOME TAX Income tax expense was $137.6 million, or 37.0% of pre-tax income in the second quarter of 2008. Income tax expense in the second quarter of 2007 was $119.9 million, or 35.5% of pre-tax income.

24-WEEKS ENDED JUNE 14, 2008 COMPARED WITH 24-WEEKS ENDED JUNE 16, 2007 Net income for the first 24 weeks of 2008 was $427.7 million ($0.97 per diluted share) compared to $392.6 million ($0.88 per diluted share) in the first 24 weeks of 2007.

The gross profit margin was 28.55% in the first 24 weeks of 2008 compared to 28.89% for the first 24 weeks of 2007. Operating and administrative expense margin was 24.31% in the first 24 weeks of 2008 compared to 24.80% in the first 24 weeks of 2007.

Same-store sales increases through the second quarters of 2008 and 2007 were as follows:

                                                 24 weeks ended
                                June 14, 2008                     June 16, 2007
                         Comparable-     Identical-      Comparable-     Identical-Store
                         Store Sales     Store Sales     Store Sales          Sales
                          Increases      Increases*       Increases        Increases*
  As reported                    2.8 %           2.6 %           4.9 %               4.6 %
  Excluding fuel sales           1.4 %           1.3 %           4.3 %               4.0 %

* Excludes replacement stores.

The amount and percentage of total sales and other revenue contributed by food, drug, general merchandise and other and by fuel sales are shown below:

                                                           24 weeks ended
    (dollars in millions)                        June 14, 2008        June 16, 2007
    Food, drug, general merchandise and other   $ 18,256.7    91 %   $ 17,607.1    92 %
    Fuel                                           1,862.1     9 %      1,538.0     8 %

    Total sales and other revenue               $ 20,118.8   100 %   $ 19,145.1   100 %

Critical Accounting Policies

Critical accounting policies are those accounting policies that management believes are important to the portrayal of Safeway's financial condition and results and require management's most difficult, subjective or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. The Company's 2007 Annual Report on Form 10-K includes a description of certain critical accounting policies, including those with respect to workers' compensation, store closures, employee benefit plans, stock-based employee compensation, goodwill and income tax contingencies.

New Accounting Standards

In March 2008, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 161, "Disclosures about Derivative Instruments and Hedging Activities." SFAS No. 161 is intended to improve financial reporting about derivative instruments and hedging activities by requiring enhanced disclosures to enable investors to better understand the effects of the derivative instruments on an entity's financial position, financial performance and cash flows. It is effective for financial statements issued for fiscal years and interim periods beginning after November 15, 2008, with early application encouraged. Safeway is currently assessing the potential impact of SFAS No. 161 on its financial statements.

In December 2007, the FASB issued SFAS No. 141 (revised 2007), "Business Combinations" ("SFAS No. 141R"). SFAS No. 141R established principles and requirements for how an entity which obtains control of one or more businesses
(1) recognizes and measures the identifiable assets acquired, the liabilities assumed and any noncontrolling interest in the acquiree, (2) recognizes and measures the goodwill acquired in the business combination and (3) determines what information to disclose regarding business combinations. SFAS No. 141R applies prospectively to business combinations for which the acquisition date is on or after the beginning of the first annual report period beginning on or after December 15, 2008. The Company is currently assessing the potential impact of SFAS No. 141R on its financial statements.

In December 2007, the FASB issued SFAS No. 160, "Noncontrolling Interests in Consolidated Financial Statements-an amendment of ARB No. 51." SFAS No. 160 establishes accounting and reporting standards for the noncontrolling interest in a subsidiary and for the deconsolidation of a subsidiary. It clarifies that a noncontrolling interest in a subsidiary is an ownership interest in the consolidated entity that should be reported as equity in the consolidated financial statements. Additionally, SFAS No. 160 requires expanded disclosures in the consolidated financial statements. SFAS No. 160 is effective for fiscal years and interim periods beginning on or after December 15, 2008. The Company is currently assessing the potential impact of SFAS No. 160 on its financial statements.

Liquidity and Financial Resources

Net cash flow from operating activities was $712.9 million in the first 24 weeks of 2008 compared to $652.1 million in the first 24 weeks of 2007.

Net cash flow used by investing activities was $657.0 million in the first 24 weeks of 2008 compared to $692.8 million in the first 24 weeks of 2007.

Net cash flow used by financing activities was $0.8 million in the first 24 weeks of 2008 compared to net cash flow provided by financing activities of $23.4 million in the first 24 weeks of 2007.

As of June 14, 2008, current maturities of notes and debentures were $1.2 billion. Safeway expects to repay these borrowings with cash on hand, borrowings of commercial paper and/or the issuance of public debt.

Based upon the current level of operations, Safeway believes that net cash flow from operating activities and other sources of liquidity, including potential borrowing under Safeway's commercial paper program and Credit Agreement, referred to below, will be adequate to meet anticipated requirements for working capital, capital expenditures, interest payments, dividend payments and stock repurchases, if any, for the foreseeable future. There can be no assurance, however, that Safeway's business will continue to generate cash flow at or above current levels or that the Company will maintain its ability to borrow under the commercial paper program and Credit Agreement.

CREDIT AGREEMENT The Company has a $1,600.0 million credit agreement (as amended, the "Credit Agreement") with a syndicate of banks which has a termination date of June 1, 2012 and provides for two additional one-year extensions of the termination date. The Credit Agreement provides (i) to Safeway a $1,350.0 million revolving credit facility (the "Domestic Facility"), (ii) to Safeway and Canada Safeway Limited a Canadian facility of up to $250.0 million for U.S. Dollar and Canadian Dollar advances and (iii) to Safeway a $400.0 million sub-facility of the Domestic Facility for issuance of standby and commercial letters of credit. The Credit Agreement also provides for an increase in the credit facility commitments up to an additional $500.0 million, subject to the satisfaction of certain conditions. The restrictive covenants of the Credit Agreement limit Safeway with respect to, among other things, creating liens upon its assets and disposing of material amounts of assets other than in the ordinary course of

business. Additionally, the Company is required to maintain a minimum Adjusted EBITDA, as defined in the Credit Agreement, to interest expense ratio of 2.0 to 1 and not exceed an Adjusted Debt (total consolidated debt less cash and cash equivalents in excess of $75.0 million) to Adjusted EBITDA ratio of 3.5 to 1. As of June 14, 2008, the Company was in compliance with the covenant requirements. As of June 14, 2008, there were no borrowings, and letters of credit totaled $37.1 million under the Credit Agreement. Total unused borrowing capacity under the Credit Agreement was $1,562.9 million as of June 14, 2008.

SHELF REGISTRATION In 2004, the Company filed a shelf registration statement covering the issuance from time to time of up to $2.3 billion of debt securities and/or common stock. As of June 14, 2008, $825.0 million of securities were available for issuance under the shelf registration. The Company may issue debt or common stock in the future depending on market conditions, the need to refinance existing debt and capital expenditure plans.

DIVIDENDS ON COMMON STOCK Dividends paid on common stock totaled $30.2 million and $25.4 million for the second quarters of 2008 and 2007, respectively. Year-to-date dividends paid on common stock totaled $60.6 million and $50.7 million for 2008 and 2007, respectively. Note I to the Company's condensed consolidated financial statements in this report provides additional information on dividends declared and dividends paid on Safeway common stock.

STOCK REPURCHASE PROGRAM From the initiation of the Company's stock repurchase program in 1999 through the end of the second quarter of fiscal 2008, the aggregate cost of shares of common stock repurchased by the Company, including commissions, was approximately $3.7 billion, leaving an authorized amount for repurchases of approximately $1.3 billion. This includes an increase in the total authorized level of the repurchase program by $1.0 billion to $5.0 billion approved by the Board of Directors in May 2008. During the second quarter of 2008, Safeway repurchased approximately 3.2 million shares of its common stock under the repurchase program at an aggregate price, including commissions, of $100.6 million. The average price per share, excluding commissions, was $31.07. The timing and volume of future repurchases will depend on several factors, including market conditions.

CREDIT RATINGS On April 8, 2008, Standard & Poor's upgraded Safeway's corporate credit and senior unsecured long-term debt ratings to 'BBB' from 'BBB-'. Concurrently, the short-term rating was raised to 'A-2' from 'A-3'. The outlook was revised from positive to stable.

Investors should note that a credit rating is not a recommendation to buy, sell or hold securities and may be subject to withdrawal by the rating agency.

Capital Expenditure Program

Safeway invested $676.8 million in capital expenditures in the first 24 weeks of 2008. The Company opened four new Lifestyle stores, completed 68 Lifestyle remodels and closed seven stores. For the year, the Company expects to spend $1.70 billion to $1.75 billion in capital expenditures, open approximately 20 new Lifestyle stores and complete approximately 250 Lifestyle remodels.

Forward-Looking Statements

This Quarterly Report on Form 10-Q contains certain forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934 ("Exchange Act"). Forward-looking statements contain information about our future operating or financial performance. Forward-looking statements are based on our current expectations and involve risks and uncertainties, which may be beyond our control, as well as assumptions. If assumptions prove to be incorrect or if known or unknown risks and uncertainties materialize into actual events or circumstances, actual results could differ materially from those included in or contemplated or implied by these statements. Forward-looking statements do not strictly relate to historic or current facts. Forward-looking statements are indicated by words or phrases such as "will," "may," "continuing," "ongoing," "expects," "estimates," "anticipates," "believes," "guidance" and similar words or phrases and the negative of such words or phrases.

This Quarterly Report on Form 10-Q includes forward-looking statements, including forward-looking statements relating to pension plan contributions; debt repayments; sufficiency of liquidity for the foreseeable future; capital expenditures; improved shrinkage; supply-chain initiatives; and Lifestyle stores. The following are among the principal factors that could cause actual results to differ materially from those included in or contemplated or implied by the forward-looking statements:

• General business and economic conditions in our operating regions, including the rate of inflation, consumer spending levels, currency valuations, population, employment and job growth in our markets;

• Pricing pressures and competitive factors, which could include pricing strategies, store openings, remodels or acquisitions by our competitors;

• Results of our programs to control or reduce costs, improve buying practices and control shrink;

• Results of our programs to increase sales;

• Results of our continuing efforts to improve corporate brands;

• Results of our programs to improve our perishables departments;

• Results of our promotional programs;

• Results of our capital program;

• Results of our efforts to improve working capital;

• Results of any ongoing litigation in which we are involved or any litigation in which we may become involved;

• The resolution of uncertain tax positions;

• The ability to achieve satisfactory operating results in all geographic areas where we operate;

• Changes in the financial performance of our equity investments;

• Labor costs, including benefit plan costs and severance payments, or labor disputes that may arise from time to time and work stoppages that could occur in areas where certain collective bargaining agreements have expired or are on indefinite extensions or are scheduled to expire in the near future;

• Failure to fully realize or delay in realizing growth prospects for new business ventures, including Blackhawk Network Holdings, Inc. ("Blackhawk");

• Legislative, regulatory, tax, accounting or judicial developments, including with respect to Blackhawk;

• The cost and stability of fuel, energy and other power sources;

• Adverse developments with regard to food and drug safety and quality issues or concerns that may arise;

• Loss of a key member of senior management;

• Data security or other information technology issues that may arise;

• Unanticipated events or changes in real estate matters, including acquisitions, dispositions and impairments;

• Adverse weather conditions;

• Performance in new business ventures or other opportunities that we pursue, including Blackhawk;

• The capital investment in and financial results from our Lifestyle stores;

• The rate of return on our pension assets; and

• The availability and terms of financing, including interest rates.

We undertake no obligation to update forward-looking statements to reflect new information, events or developments after the date hereof. Please refer to our most recent Annual Report on Form 10-K, subsequent Quarterly Reports on Form 10-Q and subsequent Current Reports on Form 8-K for more information regarding these risks and uncertainties. These reports are not intended to be a discussion of all potential risks or uncertainties, as it is not possible to predict or identify all risk factors.