J.C. Penney: Is This 72%-Gainer Headed Higher?

Jun.23.14 | About: J.C. Penney (JCP)

Summary

J.C. Penney has achieved a remarkable turnaround in the last four months on the back of smart strategies.

Penney should be able to continue its comeback as it is focusing on cutting costs and bringing more customers to its stores by revamping stores and improving assortments.

Penney's PEG ratio is the best among peers and better than the industry average by a big margin, signifying the successful turnaround.

Retailer J.C. Penney's (NYSE:JCP) share price has remained flat so far in 2014. However, the stock has appreciated an impressive 72% since the end of February, fueled by a couple of impressive quarterly results. In fact, Penney has beaten analysts' estimates comprehensively in the last couple of quarters, signifying that its turnaround is firmly on track. CEO Mike Ullman seems to be pulling the right strings and investors have appreciated Penney's revival.

However, will the stock continue rising going forward? Chances are that it might scale new highs, as Penney's strategies look sound and it should continue getting better. Let's see why.

Strategies yielding results

J.C. Penney is revamping itself in three stages. The first is the stabilization phase, followed by the rebuilding phase in the third and fourth quarters of last year. The final stage is the go-forward phase, in which J.C. Penney is being positioned for profitable growth in the long run.

The first two phases of the turnaround were completed by strengthening teams in the company, and the stabilization of its operations and financials. Penney also strengthened parts of business that were important to its long-term success.

All through this phase, J.C. Penney has been focused on refinement of its merchandizing and marketing strategies, and aims to steadily grow sales and significantly improve gross margins. In addition, it is tightening and managing its expenses in order to return to profitable growth.

The first-quarter results of the company reflect its progress. Management is excited to have exceeded its sales guidance and deliver 6.2% same store sales growth for the quarter, or 7.4% growth under the new sales reporting methodology. In fact, Penney saw sequential improvement in sales in every month of the quarter. The Easter holiday led to a robust performance in April, helping it deliver better-than-expected results.

In all, the first quarter performance of J.C. Penney was in line with its plans of business expansion, and helped it snatch market share from competitors. So, Penney is moving in the correct direction, and a closer look at its strategies suggests that the robust performance should continue.

Smart moves

Penney is improving its merchandising assortments for women's and men's apparel, home, and fine jewelry. As a result, these have become the company's top performing merchandise divisions. So, Penney's updated merchandise assortments have been accepted well by its core customers. In addition, J.C. Penney has made quite a few impressive efforts to ensure that its customers find what fits and suits their style, including relevant private and national brands as well as exclusive brands like Liz Claiborne and Modern Bride.

Moreover, private brands such as St. John's Bay, Worthington, Stafford, J. Ferrar, and Xersion are performing well. J.C. Penney's in-house design teams have helped the company churn out solid products that are gaining traction with customers, and helping it perform ahead of the competition.

Also, some of the largest national brands such as Levi's, Nike (NYSE:NKE), Carter's, IZOD, and Van Heusen that Penney carries in its stores are witnessing continued expansion, which is very encouraging. The strength across these brands is a result of the appealing shopping environment that Penney has created around them.

Also, J.C. Penney has successfully re-launched its new home store and home collections segments. Moreover, it also focused on bedding and bath small electrics, as well as decorative accessories. It now offers a range of home merchandise to satisfy its customers' budget and lifestyle needs. Hence, Penney is making smart moves to bring customers back into its stores and push up sales.

In addition, approximately 30 new Sephora stores have been opened inside J.C. Penney locations last quarter, bringing the total count to 476. In addition, it has also expanded eight existing stores of its highest performing support locations last quarter to increase their visibility inside the store.

The company is also working on back-to-school and holiday marketing campaigns, and remains confident about its marketing strategy. Also, it is focused on the e-commerce platform, which is the reason why Jcp.com turned in a solid performance in the previous quarter, leading to a 25.7% increase in online sales.

Driven by such moves, Penney has been able to significantly increase the store conversion average transaction size and units per transaction. Now, J.C. Penney will continue to focus on a mix of private-exclusive and national brand merchandise to push up sales and improve margins.

Also, to control costs, Penney is discontinuing some brands like William Rast and Joe. The company is focused on attracting younger consumers by undertaking such a move. It is also revamping the home area, a key driver of customer traffic. Going forward, the company expects sales at established stores to increase in the mid-single digits, and the gross margin to improve significantly from last year.

Risks to consider

However, there are certain risks that investors need to keep in mind. First, Penney has a huge debt. It has a debt of $5.6 billion on the balance sheet, according to Yahoo! Finance. On the contrary, its cash position is weak at $1.17 billion. So, Penney is dependent on its credit lines to continue the turnaround, as it is burning through cash.

In the previous quarter, Penney managed to obtain a $2.35 billion credit facility. This replaced its existing credit line of $1.85 billion. As a result, Penney has been able to increase its borrowing capacity by $500 million. Moreover, Penney was also able to reduce expenses by lowering corporate support and advertising costs. The company will need to consistently make such improvements and ensure that its credit lines are sufficient, or else, it would not be able to execute the turnaround.

Valuation and conclusion

Being unprofitable, Penney does not have price-to-earnings multiples. However, according to Yahoo Finance, the PEG ratio of 0.12 is impressive and promises robust growth in future. In fact, the PEG ratio is better than the industry's average of 2.40, and also better than competitors like Kohl's (NYSE:KSS) and Macy's (NYSE:M) that have ratios of 2.37 and 1.09, respectively.

Moreover, a look at Penney's strategies indicate that the company is no doubt progressing in the right direction, and it should be able to sustain its turnaround going forward. So, investors should continue betting on a turnaround at J.C. Penney.

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