After the market closed Monday afternoon, J.C. Penney (JCP) announced much maligned CEO Ron Johnson is out, and the reins will be turned over to former CEO Mike Ullman. While we saw little chance of Johnson's turnaround consummating in a retailing powerhouse at this point, we are shocked by the timing. If there was any chance that the J.C. Penney turnaround was going to work, Johnson had to be given some additional time to complete the changes. The abrupt decision indicates that the board clearly believes Johnson's strategy would continue to fail, and the return of Ullman suggests that J.C. Penney may return to its previous market position.
Not everything Johnson did was necessarily bad - the Levi's store within a store and the PVH (PVH) stores could leave a lasting legacy, and the company did eliminate corporate staff that spent the majority of the day on YouTube or Netflix (NFLX). We've said all along that Johnson's strategy change was a gamble, but a necessary gamble. J.C. Penney looked to be on the Sears (SHLD) long, slow route to irrelevancy, but Johnson could either change the company for the better or accelerate the inevitable. With sales falling 25% in 2012, it looks evident that the decline accelerated. Johnson overestimated consumers' ability to recognize value pricing, in our view, which led to the collapse in demand. J.C. Penney's customers seem to need a relative price to determine the value of a product.
Although J.C. Penney's management switch could make for an interesting case study, we find it crucial to look at what lies ahead. Frankly, this road looks even murkier with Ullman back at the helm. J.C. Penney's capital is largely constrained at this point, and it could be too costly to completely abandon Johnson's strategy. Ullman acknowledged that it would probably be wrong to return to the strategy in place in 2011, but we fear he could overreact with heavy discounting to induce sales and traffic increases, which could cap profitability. Either way, J.C. Penney's gross margin situation for 2013 looks poor.
Overall, Johnson's departure is slightly surprising to us, but we figure the board sees no chance of turnaround in sight. Was Ullman the correct hire? We doubt it, considering he was already fired because his strategy wasn't working. It does appear to be a safe hire, as we do not believe he will alter the corporate culture in the same way that Johnson did. Ullman may appreciate J.C. Penney's previous customer base more than Johnson did, and he could install changes tailored to these customers. Still, the potential (and likely) change in strategy introduces even more uncertainty into the equation. This is unlikely to help J.C. Penney's share price. We will remain on the sidelines, and we have little interest in shares of the retailer at this time.