J.C. Penney (NYSE:JCP) gave CEO Jill Soltau a stay of execution with a fourth-quarter earnings report that provided hope she can still turn the business around. But the performance didn't commute the sentence, and the ailing department store chain is still on death row as Soltau tries to dramatically shrink the retailer to a more manageable size.

Yet coupled with expectations the retailer will be free-cash-flow positive again at the end of the year, J.C. Penney's stock soared 24% in response. While it all sounds hopeful, the same problems that existed before the report was released remain, and there is still no real coherent plan to change course other than to get smaller. 

J.C. Penney appliance department

J.C. Penney is getting out of appliances as quickly as it got in. Image source: J.C. Penney.

If this is good, I'd hate to see bad

As my Fool.com colleague Timothy Green detailed, J.C. Penney's free cash flow claims are a chimera built on an unsustainable reliance on store closings and inventory reductions. When these temporary benefits are backed out, J.C. Penney's situation looks much worse. These can only be counted upon for so long before a business needs to show it is able to produce sales, and the department store chain still fails on that count.

Revenue tumbled 9.5% to $3.67 billion, in part due to store closings, but also because retail's relatively robust Christmas season bypassed J.C. Penney. The industry had its best holiday period in six years, but the department store chain saw comparable-store sales fall 4% on an adjusted basis. That was a better result than what Wall Street was expecting, but margins also contracted. 

Gross margin decreased 220 basis points while operating income plunged 48%. The earnings beat the retailer posted was actually only because analysts reduced their expectations following J.C. Penney's warning in January that its holiday season was going to badly underperform.

Everyday fire-sale pricing

Soltau also declined to elaborate on how the retailer is, in her words, "creating innovation and becoming more relevant to the customer." All that J.C. Penney has revealed is that aggressive store closures will be the linchpin to the turnaround. 

Some 18 full-line stores and nine home and furniture stores will be shuttered in 2019 in a bid to reduce inventory and stabilize sales by supporting the brands and categories that have the best chance for growth. Yet that suggests margins will continue to compress as it liquidates inventory, much as it did last year, which was partly responsible for the gross margin contraction it experienced.

In fact, J.C. Penney routinely resorts to massive markdowns to clear out merchandise. In 2017 it also needed to run big clearance sales on women's apparel as it sought to reset the department, and it's been using the sales tactic to get rid of more unsold goods this year. Inventory has been reduced 13% so far this year and that will continue at least into the second quarter as the retailer exits the loss-generating appliance and furniture businesses.

A thread of hope

Instead, J.C. Penney will focus on women's apparel -- which accounts for a quarter of net sales -- and home soft goods. These are certainly within the retailer's wheelhouse, and women's clothing comps were up 2% in the quarter, but they're also highly competitive segments that don't give J.C. Penney any room to make much profit, which means minimal room to avoid the risk of the types of apparel selection errors the company has made in the past.

The retailer did hire a new chief marketing officer, which may help in that regard, but J.C. Penney is still saddled with significant amounts of debt that give it little ability to maneuver. Long-term debt still exceeds $3.7 billion and it only has $109 million in cash in the bank.

The high points of the fourth quarter were built on a foundation of sand. Free cash flow is not what it appears to be and its earnings beat was the result of lowered expectations. That's hardly a combination to inspire confidence, and investors should refrain from joining in on any premature celebrations.