It's still blue skies for J.C. Penney despite the seeming slowdown in growth in the third quarter.
More than a year into its turnaround, J.C. Penney (JCPN.Q) suffered its first stumble in the third quarter, reporting a surprise revenue shortfall as warmer weather kept consumers from stocking up on their winter gear. The stock, which had risen to its highest levels in a year, tumbled once more and today sits 16% below where it did 12 months ago.
Does this indicate the turnaround has stalled at the department store chain, and that J.C. Penney's stock has run its course?
Finances are firming up
The retailer remains financially fragile, but is well on its way to being healed. J.C. Penney might still be reporting losses at the moment, but they're dramatically lower than last year, and the company remains committed to ending 2014 being free cash flow positive.
The retailer remains financially fragile, but is well on its way to being healed. J.C. Penney might still be reporting losses at the moment, but they're dramatically lower than last year, and the company remains committed to ending 2014 being free cash flow positive.
The department store chain reported a 710-basis point improvement in gross margin, from 29.5% in the third quarter of 2013 to 36.6% in the period just ended, and said it anticipated a 500- to 600-basis-point improvement to margins for the full year. Its operating cash flow also more than halved the red ink, going from negative $737 million to negative $320 million. And its earnings before interest, taxes, depreciation, and amortization turned positive this quarter (and are expected to remain so) after being negative in the same period last year. All in all, J.C. Penney said it should end 2014 with a healthy $2.1 billion in liquidity.
Traffic remains negative, though
Of course, much of this will be predicated upon J.C. Penney continuing to attract customers to its stores, and it admits in-store traffic remains negative. Customers either aren't returning or they're leaving faster than they're being replaced by new ones . Still those numbers continue to improve sequentially, and store conversion -- the measure of how many customers coming into a store buy something before leaving -- was up compared to last year, as was average transaction size and average unit retail for the quarter.
Of course, much of this will be predicated upon J.C. Penney continuing to attract customers to its stores, and it admits in-store traffic remains negative. Customers either aren't returning or they're leaving faster than they're being replaced by new ones . Still those numbers continue to improve sequentially, and store conversion -- the measure of how many customers coming into a store buy something before leaving -- was up compared to last year, as was average transaction size and average unit retail for the quarter.
While it had a strong back-to-school season, followed by a falloff in customer traffic, J.C. Penney said the fourth quarter is off to a similarly strong start, and it is counting on that carrying through to Christmas.
Every day could be Christmas for retailers as low gas prices put money in people's pockets.
There may be something to that hope as well. The National Retail Federation forecasts total U.S. holiday sales growing between 8% and 11% in 2014 from last year to as much as $105 billion. With gas prices dramatically falling in the past couple months, putting more cash in consumers' pockets, and a blast of arctic weather reminding them winter is on its way, J.C. Penney should see its share of those sales coming through the door.
A willingness to sacrifice share for profits?
But investors need to be mindful that the consumer is still picky, looking to get the best deal possible. Those retailers willing to be promotional will likely do best. But that means they'll have to sacrifice profits in the process.
But investors need to be mindful that the consumer is still picky, looking to get the best deal possible. Those retailers willing to be promotional will likely do best. But that means they'll have to sacrifice profits in the process.
So far, J.C. Penney has been tackling the thorny issue smartly. Last year, the retailer cleared out its clearance racks, which earned it a large swell in volume. Sales of discontinued merchandise were 30% higher than they were this year, but that caused J.C. Penney to give up a lot in margins. This time around, it lost out on volume but preserved margins. Still, without the groundswell of customers, when the warm weather refused to dissipate it lost out on sales carry-through.
I think Wall Street has once again misread the news, and the market's response to the quarterly numbers provides a good entry point for investors. I used the market's overreaction to buy into J.C. Penney's stock several weeks ago, and with it still offering a significant discount from its recent high, others just might want to avail themselves of the opportunity, too.
