On Jan. 15, J.C. Penney (JCP +0.00%) announced that it will be closing 33 of its stores across the United States. This move by management is just one of the many put into place in an attempt to save the company from shuttering its doors completely. However, closing locations can have wide-ranging effects on a business and should only be implemented when the benefits outweigh the costs. In the case of J.C. Penney, does this strategic initiative indicate bright times ahead as the company tries to salvage itself from mismanagement under previous CEO Ron Johnson?
J.C. Penney's troubles run deep
Over the past few years, business at J.C. Penney has declined drastically. From 2008 through 2012, revenue at the $2.1 billion retailer declined 29.8% from $18.5 billion to $13 billion. Most of the drop came between 2011 and 2012 when sales fell 24.8%. This drop in sales had a significant impact on the company's net income. Over the past five years, the company went from earning $572 million to losing $985 million.
The declining prospects of J.C. Penney have largely been attributed to poor leadership at the top. In 2011, Johnson was brought on board from Apple to replace Mike Ullman, J.C. Penney's longtime CEO. After stepping into the position, Johnson began reinventing the company's business strategy by getting rid of coupons and instead offering everyday low prices. What started off as an idea to lure in additional customers only served to disenfranchise existing ones.
In response to the decline in revenue and net income, the board of directors ousted Johnson and reinstated Ullman, who reverted to the old business model of offering coupon sales. Despite this change in corporate strategy, Ullman did decide to use another of Johnson's ideas: the store-within-a-store concept. While Johnson initially signed on Martha Stewart Living Omnimedia (MSO +0.00%) to serve as a test subject with Martha Stewart mini-stores inside J.C. Penney locations, the deal fell through after Macy's (M +0.72%) filed suit.
In the lawsuit, Macy's alleged that Martha Stewart broke its agreement to sell its Martha Stewart Collection products exclusively to Macy's when it agreed to partner up with J.C. Penney. Legal action is still being sought by Macy's against J.C. Penney; a deal has been ironed out between both parties and Martha Stewart.
While the terms of the settlement between Macy's and Martha Stewart have not been disclosed, Martha Stewart's deal with J.C. Penney has been made public. In addition to Martha Stewart and J.C. Penney significantly reducing the size and scope of their agreement, J.C. Penney was forced to revert the 16.6% of Martha Stewart that it acquired back to the company. Despite this setback, the company has signed on Disney for its concept as a sign of its belief in the concept.
J.C. Penney's store closings might be a strong sign of a turnaround
As a result of management's change in strategy, J.C. Penney has begun to show signs of a turnaround. In October, the company reported a 0.9% increase in comparable-store sales. This was followed up in November by a 10.1% leap, which helped the company's share price rise.
Although this news has been positive for J.C. Penney, it believes it can better position itself for the future by cutting some of its underperforming stores. According to its announcement, the company will close 33 stores and lay off about 2,000 employees. The downside to this is that the company will book $26 million in pre-tax charges for the fourth quarter of 2013, followed by another $17 million through 2014. Management believes that the closures will result in $65 million of savings annually.
Moving forward, the decision by management to cut these locations and employees should benefit shareholders. The company still has a lot of work to do if it wants to turn things around, however. If analysts are right, then the company will likely see its 2013 earnings per share decline to -$6.03 from the -$4.49 it reported in the prior fiscal year.
Mr. Market believes that the situation should improve for the 2014 fiscal year, with earnings per share coming in at -$2.76. This optimism has been driven by its two consecutive months of comparable-store sales growth and will likely be bolstered further by these cuts. With these cost reductions, the company's revised earnings estimates should come in at -$5.94 in 2013 and -$2.66 in 2014.
Is there a dark side to these cuts?
Another way to interpret the information concerning the cuts is that J.C. Penney's situation isn't getting better, but is instead deteriorating rapidly. This theory is supported by the company's release earlier this month that failed to disclose sales metrics for December, a departure from previous months.
Just because a company is cutting its staff doesn't mean that the situation is getting worse, however. Macy's, a company whose sales have grown 17.9% over the past four years while net income jumped 305.8%, announced that it is laying off 2,500 employees and closing five stores.
According to Macy's, the move will create cost savings of roughly $100 million per year and will pave the way for the opening of eight new locations. This news came on the same day that management announced comparable-store sales growth in November and December of 3.6% (4.3% if you include its store-within-a-store setups).
Foolish takeaway
Currently, J.C. Penney's situation is precarious. The company's results have been far from strong over the past few years, but some signs are starting to signal that a turnaround might be in progress. The next couple of quarters will likely determine the fate of the once high-flying retailer, and management is aware of this.
