Should I Buy JCPenney? 2 Pros, 6 Cons

by Tom Taulli | April 10, 2013 1:34 pm

After successful stints at Target (NYSE:TGT[1]) and Apple (NASDAQ:AAPL[2]), Ron Johnson has pulled off one of the most stunning disasters in corporate history.

Johnson, as I’m sure you know, took over at JCPenny (NYSE:JCP[3]) in 2011. In 2012, same-store sales at the company plunged by 25%, wiping out over $4.3 billion sales. In the fourth quarter alone, the company suffered an ugly 32% drop in comparable store sales.

Now, Johnson has gotten the boot, while former CEO Mike Ullman is coming back on board. The good news is that he considered good at bringing discipline to an organization. The bad news is that it might be a little too late.

So, should you give JCP a chance? Of course, we will take a look at the pros and cons. But normally, I have three of each. With JCPenney … well … things shaped up a bit differently.

Take a look:

Pros

Real Estate. JCP has a large footprint, with over 1,100 stores across the U.S. In fact, it actually owns about half of those properties. In other words, the struggling retailer could aggressively close stores and then find tenants at higher lease rates, which could generate substantial gains in hot markets like New York or Los Angeles.

Negativity. While few people have hope for JCP, that could actually work to its advantage. When pessimism is at the lowest point, investors can sometimes make a tidy profit. For example, if Ullman takes swift actions and can show some improvement, the stock price could have a nice move — at least for the short-term.

Cons

Customer Problem. Johnson, who decided to nix coupons when he arrived, created a huge customer problem for JCPenney. He alienated a loyal base[4] by taking away discounts, then went crawling back to them[5] after the damage was done. Even the switch will probably not have immediate results, so JCPenney will still need to spend more on marketing to woo customers back … and the discounts may have to be even juicer, which could cut into margins.

Competitors. JCP’s implosion has been a gift for rivals like Macy’s (NYSE:M[6]), Kohl’s (NYSE:KSS[7]), TJX Companies (NYSE:TJX[8]) and Ross Stores (NASDAQ:ROST[9]), who have more than likely been able to grab some of the customers fleeing Johnson’s retail disaster. Undoubtedly, they’ll work hard to keep them. On top of that, other consumers now prefer to shop online and avoid retail chains altogether — especially those that are run-down and do not offer great merchandise.

Selling Pressure. Bill Ackman owns about 17% of JCP[10] and his average purchase price was about $25. Yet with the company — and his credibility — in shambles, there’s a good chance he will want to dump his shares. No doubt, that will be a drag on the stock. Already Steven Roth, who is the CEO of Vornado Realty Trust (NYSE:VNO[11]), sold 40% of his stake in JCP[12] (10 million shares at $16 each), despite being on the company’s board.

Uncertainty. Going private probably isn’t an option for JCP either, because it is far from clear when the company will stabilize. Keep in mind that equity firms generally do not want to take on huge risks when pulling off a deal. Besides, they have been resistant with retail deals lately; just look at the failed attempt[13] to take Best Buy (NYE:BBY[14]) private.

Morale. People can’t be happy on the corporate end of things. Morale has to be awful, as employees are probably fearing they will lose their jobs and it is far from clear what the new strategy will be. There have already been substantial cuts in the workforce[15]. Over the past year, the workforce has fallen by about 30% to 116,000.

Balance Sheet. At the end of the latest quarter, JCP had about $930 million in cash. There is also a revolver of $1.8 billion[16]. The problem: It looks like JCP could burn up a huge amount of cash for the first half of 2013. Some estimates are over $1 billion[17]. If so, the company may have little choice but to seek out more financing. Unfortunately, this will likely be on harsh terms, which could harm the stock price.

Verdict

Retail is a brutally tough business and history is strewn with massive failures. JCPenney could clearly be the next victim, as the financial situation is precarious, the customer base has been trashed and the competition is taking advantage of the situation.

Perhaps the best option for the store would a buy-out from a larger player … but that probably wouldn’t fetch a premium.

So, the verdict is simple. Investors: Stay away.

Tom Taulli runs the InvestorPlace blog IPO Playbook[18]. He is also the author of “How to Create the Next Facebook[19]” and “High-Profit IPO Strategies: Finding Breakout IPOs for Investors and Traders[20].”Follow him on Twitter at @ttaulli[21]. As of this writing, he did not hold a position in any of the aforementioned securities.

Endnotes:
  1. TGT: http://studio-5.financialcontent.com/investplace/quote?Symbol=TGT
  2. AAPL: http://studio-5.financialcontent.com/investplace/quote?Symbol=AAPL
  3. JCP: http://studio-5.financialcontent.com/investplace/quote?Symbol=JCP
  4. alienated a loyal base: http://investorplace.com/2012/09/dear-j-c-penney-dont-be-stupid-jcp/
  5. went crawling back to them: http://investorplace.com/2013/01/johnson-jcpenney-finally-stumble-into-the-right-decision/
  6. M: http://studio-5.financialcontent.com/investplace/quote?Symbol=M
  7. KSS: http://studio-5.financialcontent.com/investplace/quote?Symbol=KSS
  8. TJX: http://studio-5.financialcontent.com/investplace/quote?Symbol=TJX
  9. ROST: http://studio-5.financialcontent.com/investplace/quote?Symbol=ROST
  10. Bill Ackman owns about 17% of JCP: http://investorplace.com/2013/04/ackman-finally-realizes-that-jcpenney-hit-rock-bottom-now-what/
  11. VNO: http://studio-5.financialcontent.com/investplace/quote?Symbol=VNO
  12. sold 40% of his stake in JCP: http://investorplace.com/2013/03/has-vornado-given-up-on-jcpenney/
  13. failed attempt: http://investorplace.com/2013/03/best-buy-founders-buyout-bid-ends/
  14. BBY: http://studio-5.financialcontent.com/investplace/quote?Symbol=BBY
  15. substantial cuts in the workforce: http://investorplace.com/2013/03/struggling-jcpenney-lays-off-2200-workers/
  16. revolver of $1.8 billion: http://dealbook.nytimes.com/2013/04/09/a-solution-for-penney-may-be-to-sell-itself-or-some-of-its-assets/
  17. Some estimates are over $1 billion: http://finance.fortune.cnn.com/2013/04/09/jcpenney-bonds/
  18. IPO Playbook: http://investorplace.com/ipo-playbook/
  19. How to Create the Next Facebook: http://www.amazon.com/gp/product/1430246472/ref=s9_simh_gw_p14_d0_i1?pf_rd_m=ATVPDKIKX0DER&pf_rd_s=center-3&pf_rd_r=0GRB6ZMCTYDZVNG7Q7NV&pf_rd_t=101&pf_rd_p=470938811&pf_rd_i=507846
  20. High-Profit IPO Strategies: Finding Breakout IPOs for Investors and Traders: http://goo.gl/pR2F3
  21. @ttaulli: https://twitter.com/ttaulli

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