Silver Lining On The Horizon For J.C. Penney Company, But Will It Last?

Dec.24.13 | About: J.C. Penney (JCP)

J.C. Penney Company, Inc. (NYSE:JCP), known for its chain of more than 1,000 departmental stores across the US, recently reported 10.1% YoY growth in sales for November 2013. This has been viewed by many as a silver lining in an otherwise dismal story of frequent modifications in its department stores, dubious pricing policies and steadily falling sales and earnings. Some investors have viewed this growth as the beginning of a rebound, attributable to the efforts made by the management headed by Mr. Ullman to undo some of the unprofitable measures undertaken during the tenure of Ron Johnson. While the efforts are indeed laudable, the fact remains (as shall be seen below) that the company's balance sheet is a mess and it will take a lot of effort for JCP to regain the position it once held.

J.C. Penney's Nightmare

JCP has made a number of highly controversial decisions during the past few years under the management of Ron Johnson. Ullman was replaced by Johnson in 2011 at the instance of activist investment firm Pershing Square led by Bill Ackman. Under Johnson, the big box retailer adopted the practice of reducing the gross margin on its price tags and one low price and gave up the practice of listing 99 cents at the end of every price . This confused buyers, especially discount hunters, who moved to other stores. It changed its brand logo four times since 2011, leading to further confusion.

The company has been pursuing the store within a store concept since 2007, forcing it to become more dependent on the continuing vitality of certain specific merchandise lines, while forcing customers to run from one end of the store to the other to compare prices.

Naturally, all of these factors led to decline in the company's profits. The company reported net loss of $87 million in 2011, which widened to $552 million for 2012. Revenue fell 25% between 2011 and 2012 to $15 billion, the lowest for the company since 1987. S&P cut its rating for JCP from B- to CCC+ in early 2013.

Ullman's return and the silver lining

Johnson was fired earlier this year following the dismal reports for 2012. Ullman came back in, and he reinstated some of the earlier policies regarding pricing. The company is now focusing on getting rid of its old inventory by heavily discounting products and improving its cash flow. It has achieved considerable success in both, with the latter currently being $898 billion. As mentioned above the November sales show a 10.1% YoY rise with the firm's house brands performing especially well. With the holiday season currently going on, sales are expected to rise by a further 8-10%. However, it should be noted that the grim situation that the company faced for much of 2012 makes the YoY benchmark for November a rather lenient one.

Continuing problems

The company continues to face significant problems. The forced inventory reduction has reduced its gross margin, which fell to 29.5% in Q3 2013. Further, the company's debt stood at $5.61 billion in Q3. These imply that the company cannot pull down prices further, something which its competitors like Macy's (NYSE:M) and Kohl's (NYSE:KSS) can do if necessary.

What should an investor do?

Though it can be said that the worst may be over for JCP, the above analysis shows that its position remains perilous. Though the new management has taken some positive steps and growth has resumed, it is by no means certain that it will continue since the options available to JCP are severely limited by its debt problem. As such, while the investor who already holds JCP stock would be advised to "hold" for now, investors who are considering the company's stock would do well to explore alternatives.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.