Abridged Introduction - "Welcome to J.C. Penney, Everything is Horrible!"
Rather than explain in detail what my position on J.C. Penney (JCP) has been in the past, let's take a creative approach and simply review what my last few J.C. Penney articles have been titled:
- J.C. Penney: Oh, the Humanity! (link)
- J.C. Penney is Dying Like a Crazy Headless Chicken (link)
- Myron Ullman Lulls J.C. Penney Investors to Sleep (link)
- J.C. Penney Resorts to Begging for Business (link)
I started calling J.C. Penney a short in the first quarter of 2013, in the midst of a dung heap of problems the company is currently buried under. My intention here is not to keep beating an almost dead horse, but to give perspective to whoever is holding up JCP's stock price - and that perspective is: get out.
Everybody that was giving Bill Ackman grief about selling out his shares around $13/share and incurring a loss looks to be getting a great lesson in discipline, cutting your losses, and not catching a falling knife. It's likely that the once "on the table" financing offer from Ackman's Pershing Square would be welcomed right about now. I wonder how the Board of Directors feels about that currently?
JCP currently is trading at its lowest point in years, $11.90, down 26.9% in the last three months, down 40.7% since beginning of 2013, and down 52.7% in the last twelve months.
I've already systemically dismantled the company by presenting my previous arguments:
- The brand is past its time
- Johnson's solutions were a disaster
- The stock technicals were ugly
- The retail sector as a whole is slowing down
- The company was wasting money on lawsuits
- JCP's "iconic" status can't save them
- The remodels didn't change enough
- The company admitted that nothing they were doing was working
- The Board of Directors was, at one point, turning into an after work bar fight at your local T.G.I. Friday's
J.C. Penney : "We're Broke. Now What?"
Now, it's looking like another problem has thrown itself into the ring, J.C. Penney doesn't seem to be able to find cash anywhere. Why is this a huge deal? At the rate they're burning it, they're going to be flat broke in 2014.
Retail sales inched up only 0.1% in August, the month that encapsulates back-to-school sales, according to the U.S. Department of Commerce. (That figure did not include auto sales). That led retailers to cut back on their orders for the holiday season, industry observers said.
All of this amounts to bad news for distressed retailers like Plano, Texas-based department store chain J.C. Penney, which needs a strong holiday to alleviate its cash burn. The retailer is trying to raise more capital, according to a Bloomberg report, a sign that it knows it will need it sooner, rather than later.
Some of those the store could be looking toward for additional financing include hedge funds that recently invested, just as activist investors William Ackman and Vornado Realty Trust sold their stakes and got off the board. The funds include Richard Perry's Perry Capital LLC with an 8.62% stake, J. Kyle Bass' Hayman Capital Management LP, which took a 5.2% stake, and Glenview Capital Management LLC with its 9.1% stake.
Earlier this year, Goldman, Sachs & Co. arranged $2.25 billion in loans to the beleaguered retailer backed by its real estate, ostensibly to give it enough cash to last through the holiday season.
In July, Moody's Investors Service calculated J.C. Penney would burn through $1.4 billion in cash by year's end, but in just the second quarter the retailer said it had spent more than $700 million, beating analysts' expectations on the downside.
The bull argument behind Penney, for the longest time, was the argument that the company had enough in assets and real estate to back further debt financing - this is a myth I dispelled in my last article, citing the fact that $2.25 billion of that was already tied up with Goldman Sachs. Not only did I point that out, but I did so (on September 6, 2013) with some forward looking allusions towards BlackBerry's (BBRY) potential coming issues:
The most common bullish argument that we do hear from a lot of JCP investors is that the value behind the company's assets alone are valued far beyond what the company's share price currently sits at.
The problem with this argument is a threefold. First, people seem to conveniently forget that the company has a $2 billion loan against the real estate of the company - so in the event that they did sell it off, that's $2 billion out the door first and foremost.
Secondly, how in god's name are you going to effectively and quickly sell off over a thousand stores without driving the price of the assets down yourself? Who are the buyers going to be and what are they going to be willing to pay? This whole hypothetical is a farce. It's likely to be sold at nowhere near what it's price would be if they were sold individually [the same type of problem that BlackBerry would have if they tried to sell the departments of their company, and not the whole company itself].
Heading into the fourth quarter, where the company traditionally does well, some analysts are calling for the company to simply build up a cash position and declare chapter 11.
As Seeking Alpha pointed out this morning, some analysts are even speculating that the weakness behind the stock of late has to do with insider selling before a coming news release. If that holds true, between that and BlackBerry's shenanigans these last 7 days, we might be getting a great two week case study in how ugly and backwards the markets can sometimes be for retail investors.
So, what are your options for financing when the company has an almost 5:1 ratio of debt to cash?
- Try and find more debt financing - but there isn't much to leverage against and the terms are likely to be really ugly at this point. Also, more debt on the balance sheet could finally allow JCP to surpass its "also failing miserably" retail brother Sears in total outrageous leverage.
- Trying to do an equity financing at this point for JCP would be likely to just prolong the misery - diluting the stock, ruining the share price. It would be a slow, sad end to JCP.
Lest we forget these will likely be the options only if the company can do enough in sales to make the holiday season somewhat manageable. If the holiday season is a major bust for JCP, they're going to make the Titanic look like "a small boat leak".
CMI Research does well to present, and then destroy, two of the last remaining bull arguments on JCP:
One major saving grace for JCP is the book value per share of $10.53, which, at a current share price of $13.74, is only a few dollars shy of being at par. However, the real world issue with shearing assets is that the value of similar assets decreases rapidly. In addition, the Company's long term debt on the balance sheet is close to $5 billion.
And finally my last and favorite bull's argument on JCP (well, two if you want to be exact): it's a cheap stock and big sharks are buying. First, there is a very good reason why it is cheap. A look at fundamentals and outlook (above) should dispel any notion that it is "cheap". The next argument, that Soros is buying JCP, can be somewhat misleading. Soros has bought around $51 million worth of JCP; from his $20 billion in funds under management, that equates to a 0.25% portfolio position. I'm not willing to put my hard earned money into a stock play based on that.
Estimates are looking for $400-$500 million in cash after the holiday season - not nearly enough for the company with its current cash burn. It's looking like to escape liquidity, chapter 11 may be J.C. Penney's only option - and it'd be likely to initiate right around Christmas time. There doesn't seem to be a path that I can draw in my head that leads to JCP getting the financing they need, on terms that aren't going to sink the company.
Abridged Conclusion - "Merry Christmas, We're Going Under!"
As I stated in my last article, right after Ackman got out:
With the Stewart mess behind it, Ackman is still making the right move on JCP. The company's liquidation value has been misinterpreted and the bullish arguments on JCP are simply not holding up. Soon, JCP will again report a horrible quarter, and we'll keep delaying the inevitable by debating whether or not the company is going to make it in the long run. This investor believes that answer to be a firm "no". As I've stated in past articles, the ground that this company is standing on has never been shakier. I would consider investing in J.C. Penney at this point an extreme risk of serious loss.
The humor in that statement is that the company STILL isn't done with the Martha Stewart mess, as it was reported today they're back in court, wasting money on legal fees dealing with their MSO contract. A fool and his money are easily parted.
Again, as I've said in the past, the only possible saving grace for this company would have been to trim a ton of the assets, get the company lean and clean with a brand new business model, and recreate themselves. Unfortunately, it's far too late for J.C. Penney, who remains dead in the water. I don't like seeing companies fail; nor do I like to see money wasted and jobs lost, but all roads in my head lead to J.C. Penney not making it but a couple more years. The cash burn is just too much and the sales continue to lag.
While it's likely that the executives will have a great holiday season, with golden parachutes that make sure they can all sleep easy each night, the story is going to be very different for J.C. Penney retail investors - unless they cut their losses and exit this stock.
I am reaffirming that J.C. Penney, at this point remains a short or avoid at all costs. It's going to get uglier in the coming weeks, and there's seemingly very little reward that could possibly be offered for the enormous risk that is going long J.C. Penney right now.
Best of luck to all investors.