A Few More Reasons Why I Am Bullish On J.C. Penney

Mar. 6.14 | About: J.C. Penney (JCP)

Summary

Reinstatement of private brands will improve gross margins and drive consumers back into stores.

Financial position is improving, including improving liquidity ratios and cash figure.

Reduction in capital expenditure and selling and administrative expense will further strengthen its financials.

In my previous article on J.C. Penney (NYSE:JCP), I had advised investors to buy this stock. Since then, the company's share price moved more than 35%, from $6.11 to more than $8.30. Over the next few months, I expect more appreciation in the share price. The stock may see little depreciation in the short term, but has a bright long-term future.

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Source: Ycharts

Under the supervision of Mike Ullman, J.C. Penney will reach to its previous highs. Ullman's main goal is to regain the loyalty of so many customers they lost due to poor restructuring decisions. The company has brought back its old pricing and promotion policies to prove that they are the same J.C. Penneys as before and familiarizing them with the new layout. Its staff provides a strategic advantage over their customers, as they are continuously rated higher in customer satisfaction than other retailers.

With the increase in share price, we will also see improvement in J.C. Penney's financial position. The company has reinstated its higher margin private brands. These brands, such as: Arizona, Stafford, St. John's Bay, and Worthington have been the core of J.C. Penney's assortment and offer a margin 4%-5% higher than the new offerings. The reinstatement of private brands will help to get back its historical gross margin and recapture its traditional customers.

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Source: Ycharts

In the recent few quarters, J.C. Penney's inventory figure has increased significantly as the new management team has started to restock private brands. The company is currently clearing out its old inventory, as a result, margins will remain low in the short term. Once the new and lower margin brands are sold off on clearance there will be a reduction in inventory levels and significant improvement in gross margin. Expansion of higher margin product offerings like Sephora and Fine Jewelry will also help to improve gross margins, reaching its previous levels of 38%-40%.

Selling, general and administrative expense (SG&A) will also reduce in the coming quarters, as a result, J.C. Penney's bottom line will improve. Due to decrease in sales, SG&A accounted for a larger percent of revenue than it has historically, but will not continue to do so in the future. The company's management is also expecting decrease in SG&A, both on a year-over-year basis.

Along with decrease in SG&A expense, J.C. Penney's management expects lower capital expenditures as its Home segment restructuring is completed. After a long delay in the construction of its new home departments the renovations are almost finished, leading to a large decrease in the restructuring expense going forward. In 2013, the company incurred capital expenditure of $951 million, and the expenditure is expected to be around $250 million in 2014. As capital expenditures are lowered in order to cut costs, Depreciation & Amortization will also see reduction in 2014. J.C. Penney also plans to cut 2,000 jobs and close 33 stores. The cuts will help to save more than $65 million annually.

J.C. Penney's home department is currently under-performing. Ullman has made it quite clear that there will be changes made in the Home department product offerings and that improvement can be seen in late 2014 and early 2015. The new offerings will surely help to attract new customers.

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Source: Ycharts

Liquidity and cash position of J.C. Penney is also improving. Its current ratio is 1.69x, up from nearly 1 in the second quarter of 2013. The company ended its recent quarter with cash and cash equivalents of $1,515 million, increased from $930 million a year earlier. Improving liquidity and cash position is also reducing fears of bankruptcy. Although, the company's debt/equity ratio is still very high, but improving cash position will help to manage this debt easily.

Looking at Valuation metrics, J.C. Penney's Price/Earnings ratio is negative due to the prolonged negative earnings per share. Over the last three years, the company's shares have traded in the range of $4.90-$43.13. Its Price/Sales and Price/Book ratios are 0.21 and 0.82, much lower than its industry average of 1.84 and 4.24, respectively. This suggests that the stock is currently undervalued at these levels.

Bottom Line

Under the management of Ullman, J.C. Penney's financial position is improving. A successfully restructured management team combined with the reintroduction of private brands and traditional promotion strategies will result in increased store traffic, higher revenues, significantly higher gross margins, and overall the restoration of the company's financial health. In my opinion, J.C. Penney is an attractive investment opportunity for long-term investors.

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.