With J.C. Penney's (NYSE:JCP) share price sliding more than 60% since the beginning of 2013, returning CEO Myron Ullman is seemingly looking for a Christmas miracle that will bring back bargain-hunting shoppers who have decamped to other department stores. Will the company lure customers back in the face of intensifying rivalry, or will Ullman come up short in the new year as competitors Kohl's (NYSE:KSS) and Macy's (NYSE:M) vie for those same consumer dollars?
For now it seems as though Ullman is getting his wish. The company reported a 10.1% rise in same-store sales through the month of November, which is certainly a good sign. But is there more than meets the eye? Keep in mind that two factors helped drive the exceptional comps growth. First, the extremely low hurdle the company had to cross considering the long string of quarterly comps declines, many of which were of the double-digit variety. Second, faced with a persistent overhang of stale inventory from the snafu-laden merchandising era of former CEO Ron Johnson, the company found itself in the precarious position of having to mark down old inventory beyond expectations just to move it out the door. And this is where the current problem lies.
Will they all fit?
While Santa's sack is presumably large enough to carry a multitude of toys for children around the world, I have my doubts that it's large enough to carry all those former die-hard Penney shoppers back to restore margins to historical levels anytime soon. Looking back over the past 12 years, through a series of market and economic cycles, one could easily discern that J.C. Penney's average gross margin resides slightly north of 37%. Even Ullman, on the third-quarter earnings call, targeted 37% to 39% as the long-term gross margin range sitting squarely in the crosshairs. However, with gross margins currently hovering around 23%, falling some 300 basis points last quarter on the precipice of those added markdowns, and a persistent inventory overhang problem, one could expect more pain in the interim.
For comparison's sake, both Kohl's and Macy's sport much higher gross margins than J.C. Penney. For the third quarter, Kohl's gross margin ticked down 600 basis points to 37.5% from the year-ago quarter. Despite the choppy waters, Kohl's is working to reinvigorate its portfolio of national brands with the recent additions of IZOD and Juicy Couture to drive traffic. Meanwhile, Macy's has spent the last several years retooling its merchandising strategy, as well creating a more localized and hence personalized retail experience. Perhaps this is one of the driving forces behind its leading near-40% gross margin for the same time frame.
It's not all doom and gloom for J.C. Penney
As Ullman said on the third-quarter call, J.C. Penney "is putting back into place the components necessary to return to historical gross margin levels." The company has focused on several initiatives toward this goal. First off, there will be a natural progression in the gross margin as the overhang is removed, assuming of course customers keep coming back. As the company sheds undesirable inventory, the problem will take care of itself. Second, J.C. Penney is working feverishly to restore the prominence of its private brands like Worthington and St. John's Bay. It's no secret that private brands offer a dual benefit unmatched by their national brethren. While they often represent value buys for customers who are seeking quality at more affordable prices, they also generate fatter margins for shareholders to the tune of 400 to 500 basis points over more recognizable national brands. According to Ullman, the company's composition of sales between national and private brands is "very close to desired level." Third, J.C. Penney is restoring initial markups on merchandise in order to more easily return to the promotional activity that arguably drove the business in the first place. This also protects margins when the sale discount is applied at the register. Finally, J.C. Penney has shown a willingness to test new concepts and brands to help drive foot traffic within stores. Not only is the company increasing the largely popular Sephora locations within its department stores, but it has recently partnered with Disney with plans for expansion as well.
Will the new year bring joy for Penney's shareholders?
Despite its tumultuous recent past and the current headwinds facing the company, J.C. Penney has gained momentum heading into the holidays and positioned itself for future success. Will it be enough to overcome fierce competition and restore the customer loyalty the retailer once enjoyed? Join the Motley Fools Consumer Goods team as it discusses Mr. Ullman's Christmas list.
Michael Finarelli has no position in any stocks mentioned. Mark Reeth has no position in any stocks mentioned. Sean O'Reilly has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.