JC Penny (JCP)

Hello All,

I am a relatively new listener to the Podcast and this is my first post on the forum.

I was wondering if anyone has any thoughts on JC Penny.

Retail companies have been getting hammered lately, none more so than JC Penny. The company is currently trading very near to it's all time low after losing ~50% of it's value in the past year alone. That being said, it looks like the company is starting to head in the right direction from both a quantitative and qualitative standpoint.

The company appointed Marvin Ellison as CEO in August 2015. This seems to be a strong decision given his background in loss prevention through his former roles as an employee @ Home Depot and Target. Ellison's focus on internal operating efficiency and the prioritization of 'omnichannel, private brands and revenue per customer' which launched in 2015 seem to have had a positive impact on the financials as the company has shown steady YoY EBITDA growth and had positive net income in FY 2016 for the first time since 2010.

That being said, there are several headwinds as well which include declining revenue (and same store sales), high debt, and a shift in the competitive landscape due to online retail. Additionally, a portion of the strong 2016 financials is due to the sale of hard assets which is, of course, unsustainable. The key for this business will be revenue growth, but given the bearish outlook on retail it is difficult to determine where that will come from.

I could write more, but I want to hear everyone's thoughts. Is JC Penny currently undervalued or is it another retail stock (like Sears) that will continue to get pounded for the foreseeable future?

Comments

  • Just because something has gone down in price does not make it cheap. As we write today, JCP is trading at 15 times forward earnings:

    http://financials.morningstar.com/valuation/price-ratio.html?t=JCP&region=usa&culture=en-US

    If it were a growth stock this could indeed be a value, but let's consider the following factors.
    1. Amazon is still in its "day 1" phase for fashion retail
    2. JCP is dependent on cheap bonds, reference the balance sheet (4 billion in longer term debt vs cash of about 363 million)
    3. They missed q1 so 15 times forward might actually be optimistic.

    Overall I've been using them as a short, as i wrote up, here:
    https://forums.theinvestorspodcast.com/discussion/4586/jcp-jan-2018-long-puts#latest
    and
    http://decision-maker-software.com/index.php/blog/story/id/bond_mispricing_4_7_2017

    Think if the market stays strong, and their business stabilizes they might prove to be a bad short. But if junk yields go higher (in say a downturn) or if amazon continues to be effective, don't see how JCP makes it through.
    In my mind this is exactly the type of business that goes into bankruptcy sooner or later. Poor business fundamentals mixed with large debt.

    I would definitely be interested if anyone sees why this situation is going to change for the better? Like if their e-com effort is going super well, or their going to sell categories impervious to amazon, or other reasons why i don't see the real story. I am open to reconsidering my thesis.

    Disclosure i am long the puts.
  • Also I don't think the market believes in this as a long term investment. I think there is speculation in both the stock and even more so the bonds. Also the bonds are probably carried by some indexes, which buy on ratios. I've been trying to roll forward into the 2019 puts, and continually have unfilled put orders. If people truly believed that this thing is not going under they would sell me the puts. Of course they are limit orders but they are in the bid ask spread, which for 2019 is huge. Depending on when you look the ask is double the bid at times. Double, think about that. The sellers of the put seem to have some sense of what they are selling.

    My sense of it is the bond guys are continually talking this one up. But what they are really speculating on is that it doesn't go bankrupt before their bonds are paid. The equity holder on the other hand actually believes that this thing has value. There is essentially no difference in value regardless of if it goes bankrupt now or 3 years from now. The value is still zero, unless you believe it will pay dividends before it goes bankrupt.

    Just my view on it.
  • edited June 28
    Lev,

    Thanks for your response! I think that you bring up some very good points.

    I agree that a drop in price does not necessarily make a stock cheap. However, in the case of JCP, valuation based on the forward P/E should also be taken with a large grain of salt IMO. Given that JCP is going through a transitional phase (in a business climate full of questions marks), the assumptions made to arrive at a forward P/E likely vary greatly by the analyst (and to a certain extent the bias of the analyst). For example, Thomson Reuters gives JCP a forward P/E of 11. How much conviction do you have in the number provided by Morningstar (or in the Forward P/E generally as it pertains to JCP)?

    As for Amazon, I'm not sure how much effect this will have on JCP in the near to mid term. Poor management, not Amazon, put JCP in the hole. To your point, Amazon certainly presents a challenge moving forward. The presence of Amazon in the retail space will erode sales for brick and mortar stores. I see this resulting in the consolidation of brick and mortar retail companies - but this could be a potential boon to the survivors that do not go under. As far as department stores go, I see Sears as the first head to roll - this presents an opportunity for companies such as JCP to snap up market share. I'm curious to hear your thoughts. What effect do you see Amazon having on retail in the next, say, 5 years (particularly on JCP)?

    As far as debt goes, you are absolutely correct in that JCP is a highly leveraged company dependent on cheap debt. Given the steady improvement in FCF, I do not foresee any issues in regard to making the payments on current debt. My opinion is predicated on the assumption that interest rates stay relatively low and debt can be refinanced cheaply. I do recognize this as a potential threat to solvency should that change.

    Market consensus aligns with your bearish view and there is plenty of ammunition to support that claim. I wouldn't approach JCP with a Buffett strategy of buying with the intent to hold indefinitely - but I do see a lot of potential for capital appreciation in the near - to - mid term.
  • Hi W5Capital,

    I am using the forward pe from morning star as more of a broad tool. Earnings are hard to predict, second a large amount depends on if you want to look at gap or none gap earnings. One of the reasons i don't like JCP is they use the none gap numbers to make the situation look better than it is. I've seen gains from pension in there. Pensions expenses have many assumptions wonder if they are reasonable. They back out expenses like store closings. How is it a one time event if your doing it all the time. Also some numbers look better due to asset sales, how long can those continue?

    Again if dept stays cheap, and the economy stays strong, short to mid term don't have a strong view. Although one should ask the question, can debt be cheap and the economy strong for an extended period of time? If you watch the stock for long periods of time they tend to do better when the market is slightly down. Think the thinking is oh maybe the fed won't raise interest rates, that is good for people who need cheap debt.

    I think it is a good hedge against the market because they have strong factors going against them, and if debt spikes (due to a market event), then i think there is a good chance they are a zero or close to it.

    That is why i try and find cheap puts. If it happens i get paid asymmetrically in a time when everything else is down. If it doesn't i lose a small amount.

    Can management figure out ways to get short term gains? Maybe. But that is not a game where i have an advantage. Did you know that hedge funds have satellite data to measure traffic in retail parking lots. Surely they know the short term better than i do.

    Also let's compare it to something else. For instance Perston and Stig brought up BBBY on the podcast recently. Forward earnings on morningstar 7.3. Or let's take Delta, which does not have to compete with Amzn price to forward 10. I would ask why JCP deserves a higher multiple?

    One could look and say they are really cheap on a price to sales ratio, but then my question is why are the sales not falling to the bottom line. They are not in hyper growth mode. They are not in growth mode at all in fact.

    Also don't have a strong view on management. As i recall, people were super excited about the previous management also. There was people from Apple and Target, and we are gonna build stores within stores, and its gonna be great. Now apparently that was bad management?

    Think given a choice of having the pick of any manager except Jeff Bezos, and not having to compete with Amazon. I would pick not having to compete with Amazon. Amazon is so good its scary. One of many examples, now when i ship back a return. They refund me once the shipping company initiates the tracking. Everyone is going to have to now implement this. Think about that, that is only one example.
  • Lev,

    I acknowledge the fact that JCP's financial results reflect one time asset sales. Even if you back that out, it still appears to me that the company is heading in the right direction.

    To clarify: Are you stating that JCP tends to do well when the stock market declines?

    I'm not sure I understand your comment on the P/E either. The answer would probably be due to the fact that earnings are projected to be low, therefore lowering the denominator..but it sounds like you also disagree with the morningstar valuation which brings me back to my previous comment that the forward P/E probably isn't the best tool to value JCP. I'm also not sure that comparing the P/E of JCP to Delta is necessarily an apples to apples comparison as they are in different sections of what I supposed we could call consumer discretionary (i.e. delta isn't retail).

    I also agree that Amazon is a great company that is growing, but how specifically do you see them affecting JCP?
  • Not just asset sales. From adjusted earnings for instance they take out store closure expense, which is significant.

    Just by looking at the stock on a daily basis for some time now. It does seem to me like it tends to go up on slight down days. This is not scientific, have not used computer models to prove this. Just my sense as I do have a position, i do look fairly often.

    Let's look at it as a question. Here are some other stocks. Here are their metrics, why is JCP cheaper?

    Some thoughts on the Amazon affect.
    1. Amazon is growing sales, and is expected to keep growing sales. If they keep growing sales faster than the overall market, those sales are coming from somewhere. Would like to know why JCP is not one of those somewheres?
    2. Amazon forces capex in order to compete. If they implement something, and the customer likes it. In order to compete you now have to implement it.
    3. Amazon continues to change consumer behavior in general.
    4. Mall traffic has been trending down.
    Almost all of this is intertwined, one should not look at these things in isolation.
  • Would like to add one if I could. Do think Amazon's fashion effort is still in it's early days. If it really takes off. JCP could have unexpectedly weak results. Again I do think they are going after the same pool of dollars.
  • Was doing some thinking, and trying to relate this to Barnes and noble. After Boarders went bankrupt, Barnes and noble has still under performed the s&p. And this is keeping in mind that these were the only two major book chains in the country. Also Barnes and Noble was able to spin off a pretty decent business in BNED. In clothing / housewares there are many more competitors. How is the situation better here for JCP? One thing i can think of is some people still like to try on clothing. But then again its also nice flipping through a book before buying it.
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