On Friday morning, J.C. Penney (JCPN.Q) reported generally solid results for the fourth quarter of fiscal 2017. This allowed the company to surpass its most recent full-year earnings-per-share guidance.
Nevertheless, it was hardly a victory lap for the struggling department store chain. Lingering problems in the women's apparel business prevented J.C. Penney from taking full advantage of rising consumer spending last quarter. Furthermore, the company's outlook suggests that 2018 won't be that much better.
J.C. Penney earnings by the numbers
In Q4, J.C. Penney achieved comparable-store sales growth for the second consecutive quarter, following a 2.4% comp sales decline in the first half of fiscal 2017. J.C. Penney's fourth-quarter comp sales gain of 2.6% helped it post a minuscule 0.1% comp sales increase for the full year.
|
J.C. Penney Key Q4 Metrics |
|||
|---|---|---|---|
|
Metric |
Q4 2017 |
Q4 2016 |
Year-Over-Year Change |
|
Revenue |
$4.03 billion |
$3.96 billion |
1.8% |
|
Comparable-store sales |
N/A |
N/A |
2.6% |
|
Gross margin |
33.6% |
33.1% |
50 basis points |
|
SG&A expense ratio |
23.4% |
23.4% |
Flat |
|
Adjusted EPS |
$0.57 |
$0.64 |
(11%) |
|
Free cash flow |
$530 million |
$670 million |
(20.9%) |
Data source: J.C. Penney Q4 earnings report. SG&A = sales, general, and administrative.
The extra week in the fourth quarter of fiscal 2017 mostly offset the negative impact on sales from J.C. Penney's decision to close nearly 140 stores last summer. As a result, total sales increased 1.8%.
Gross margin improved from 33.1% to 33.6% last quarter, helped by strong demand and a better inventory position. Meanwhile, selling, general, and administrative expenses were flat as a percentage of sales (up 1.9% in dollar terms).
Normally, this would have driven a year-over-year improvement in J.C. Penney's profit margin. However, J.C. Penney benefited from higher real estate gains in the fourth quarter of fiscal 2016, due to the sale of its corporate headquarters and surrounding land. Thus, EPS fell to $0.57 in the fourth quarter from $0.64 a year earlier. This was still better than what analysts were expecting. Free cash flow also declined substantially, falling to $530 million.
J.C. Penney reported a modest year-over-year EPS decline last quarter. Image source: J.C. Penney.
Free cash flow enables debt reduction
For the full year, J.C. Penney generated $213 million of free cash flow, driven primarily by an improvement in working capital and the sale of a valuable distribution center in Buena Park, California. This was near the lower end of the company's most recent guidance, which called for $200 million to $300 million of free cash flow for the full year. It was also well below management's initial forecast of $300 million to $400 million.
Even so, J.C. Penney was able to improve its balance sheet significantly during 2017, using a combination of cash on hand and free cash flow. The company reduced its debt by roughly $600 million during the year, and repaid another $190 million of debt last month.
J.C. Penney now has less than $4 billion of debt, compared to $5.6 billion at the beginning of 2014. This has provided a durable reduction in J.C. Penney's annual interest expense.
Making sense of J.C. Penney's outlook
J.C. Penney stock plunged on Friday morning, as investors seemed disappointed by the company's 2018 forecast. Management projects that comp sales will rise 0% to 2% for the full year, and adjusted EPS will be in a range of $0.05 to $0.25, compared to $0.22 in fiscal 2017.
The comp sales projection is solid, but not spectacular. Additionally, at this point, management doesn't have a very good sense of how sales trends will play out across the year, leading to a fairly wide guidance range. The EPS guidance seems less impressive at first glance, but it's important to recognize that this year-over-year comparison incorporates significant swings in items like asset sale gains and pension costs.
Free cash flow is a more useful metric for investors to follow, particularly because J.C. Penney needs to continue cleaning up its balance sheet. On the company's earnings call, CFO Jeffrey Davis indicated that free cash flow will be between $200 million and $300 million again in fiscal 2018. That would be another solid result. If J.C. Penney can hit this target, it will be able to improve its financial position even further in the coming year.
