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August 17, 2013

J.C. Penney heads for 9th quarter of plunging sales

J.C. Penney countered criticism from investor Bill Ackman last week by saying it's focused on stabilizing the business and winning back customers. Results next week will show what little progress has been made.

Analysts predict a wider second-quarter loss and the ninth straight sales drop when J.C. Penney reports on Aug. 20, though improvements are projected for the second half of the fiscal year. The quarter was the first entirely under Chief Executive Officer Mike Ullman, who returned in April to undo the failed strategy put in place by former CEO Ron Johnson.

Ullman has ramped up discounts and run ads apologizing to the department-store chain's customers, even while he's forced to work with Johnson's store remodels that so far have driven away shoppers and led to almost $1 billion in losses. Ackman, who pushed for the retailer to hire Johnson initially, resigned from J.C. Penney's board this week and relented in his latest fight to replace Ullman faster than his fellow directors wanted.

"They do have a lot of work ahead of them," said Rick Snyder, an analyst for Maxim Group LLC in New York. "Eliminating the distraction is positive, so they can focus on the business."

J.C. Penney said Friday it entered into an agreement with Ackman under which its largest investor may make as many as four requests to the company to register for the sale of some of his stake. The rights granted under the Aug. 13 agreement end when Ackman and his funds own less than 5 percent of the retailer's stock, according to a regulatory filing Friday.

Ackman holds an almost 18 percent stake in the company.

Analysts project J.C. Penney's second-quarter net loss will widen to about $1.20 a share from 67 cents a share a year earlier and sales will fall 8 percent to $2.78 billion, according to the average of analysts' estimates compiled by Bloomberg. In the past four weeks, analysts have only become more bearish, with the average estimates for both profit and revenue declining.

Macy's Inc.'s performance during the second quarter doesn't bode well, either. The second-largest department-store chain's sales fell for the first quarter since 2010 and earnings per share trailed analysts' estimates for the first time since 2007. CEO Terry Lundgren blamed cool weather for slowing sales of summer apparel and consumers reducing purchases because of economic uncertainty.

Ullman, who led the Plano, Texas-based company for about seven years in his first stint as CEO, returned to stabilize the century-old chain after Johnson's costly overhaul failed to attract younger and wealthier customers while alienating longtime shoppers. That combination led to a 25 percent sales decline last year that, coupled with heavy spending on remodeling stores, caused a net loss of $985 million.

The company consumed so much cash during Johnson's time that within three weeks of returning, Ullman drew down $850 million of the company's revolving credit line and negotiated a $2.25 billion loan.

The company continues to use cash, including an estimated $1.2 billion during the second quarter, and that could prompt it to seek more outside funds by the end of the year, according to Matthew Boss, an analyst at JPMorgan Chase & Co. in New York. J.C. Penney this month estimated it had about $1.5 billion in cash at the end of last quarter. The retailer also denied a report that CIT Group Inc. had stopped funding some of its vendors.

After improving the company's balance sheet, Ullman made a slew of changes to revive sales. He reinstated brands and tried to improve customer service by bringing back cash registers and revamping the store employee uniform to make it easier to identify workers. Advertising shifted to a value message to promote the return of doorbusters and sales events.

Some of the merchandise Johnson swapped in hasn't been a hit with the chain's core customers, and it can't be changed as quickly. That has dragged on results, especially in the remodeled home section, according to analysts and three former store managers who left the retailer as recently as June.

The home overhaul was the most expensive and last part of Johnson's plan to turn J.C. Penney stores into collections of branded boutiques. After months of construction, the renovated departments opened in about half of the chain's 1,110 stores in the second quarter after Johnson was gone. Ullman had little choice but to finish the construction and get the stores fully operational as quickly as possible because home goods account for about 15 percent of floor space at those stores.

While there are low-priced private-label items, much of the sections are occupied by designer goods such as $60 toasters from architect Michael Graves and big-ticket goods including a $1,695 chair from Happy Chic by Jonathan Adler.

"The new home department has failed to drive traffic, and high price points on the new product have not resonated with J.C. Penney's customer," Deborah Weinswig, an analyst at Citigroup Inc. in New York, wrote in a note to clients. The merchandising missteps "could lead to markdowns," said Weinswig, who recommends selling J.C. Penney shares.

The managers, who all left during the second quarter and didn't want to speak publicly about a former employer, reiterated the pricing concerns and added that the redesign of these areas into so-called shops separated by partial walls only accentuated the issue. With their track lighting and ornate fixtures, they stand out from the rest of the store and look more like a pricey showroom than a place to browse, they said.

One of the most disappointing parts of the home departments has been the Martha Stewart Celebrations section, the managers said. The area sells party supplies such as gift bags, napkins and wrapping paper. One manager said the area generated about $350 of revenue in its first month while taking up more than 1,000 square feet of prime floor space. That would equate to sales per square foot of about $4, compared to $116 a foot last year for the entire chain.

Claudia Shaum, a spokeswoman for Martha Stewart Living, and Daphne Avila, a spokeswoman for J.C. Penney, declined to comment.

The party items aren't part of the legal battle involving Macy's, J.C. Penney and Martha Stewart Living Omnimedia Inc. The dispute, now awaiting a judge's decision, involves Martha Stewart-designed products for the bed, bath and kitchen that Macy's says it had exclusive rights to sell. J.C. Penney took Martha Stewart items it already made in those categories and re- branded them "JCP Everyday."

There are still ways to boost sales in the home department, according to Maxim's Snyder. He expects the company to swap out the underperforming brands by the holiday shopping season. Liz Dunn, an analyst at Macquarie Group in New York, predicts the chain will clutter up the wide aisles that Johnson installed with lower-priced, fast-moving goods like towels.

"It's definitely going to be hard to reverse," said Dunn, who rates J.C. Penney shares neutral, the equivalent of a hold. "And expensive to reverse for a company that is trying to conserve cash."

 

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