J.C. PENNEY CO. INC. $50 (New York symbol JCP; Aggressive Growth Portfolio, Consumer sector; Shares outstanding: 221.7 million; Market cap: $11.1 billion; WSSF Rating: Average) operates 1,067 department stores throughout the United States and Puerto Rico. About 40% of U.S. households have shopped at a JC Penney store in the past year. Apparel, footwear and jewelry account for about 75% of Penney’s total sales. Home furnishings and services such as services such as hair styling, optical, portrait photography and custom decorating provide the remaining 25%. Sales rose from $17.79 billion in 2004 to $19.90 billion in 2007 (fiscal years end January 31). Sales in 2008 slipped to $19.86 billion. Same-store sales were flat in 2008, compared with a gain of 4.9% in 2007. Earnings grew from $1.21 a share ($364.0 million) in 2004 to $4.88 a share ($1.13 billion) in 2007. Earnings in fiscal 2008 fell slightly to $1.10 billion. However, earnings per share rose to $4.90 on fewer shares outstanding. A big part of the company’s success is its focus on exclusive private label brands, which now account for 45% of its sales. These brands usually generate higher profits for Penney than national brands. The company has also cut the time it takes to design and launch new private label products, which helps it take advantage of changing fashion trends.
These alliances have big potential
Penney likes to form alliances with top apparel companies to cut the risk of new product launches. For example, it has joined with Polo Ralph Lauren to design a new line of clothing and home accessories under the “American Living” brand. Polo Ralph Lauren has responsibility for design, production, marketing and advertising. Set for the spring of 2008, this will be the largest launch of a new brand in Penney’s history. The company feels American Living products could eventually generate annual sales of over $1 billion. Another example of a profitable partnership is Penney’s deal with Sephora, which sells beauty and fragrance products. Sephora now operates small-scale boutiques inside 47 JC Penney stores. These “stores-within-a-store” give Penney an opportunity to sell other products to the younger, more affluent shoppers that Sephora tends to attract. Penney aims to attract new customers and encourage repeat visits with new stores and upgrades to existing stores. In fiscal 2008, it opened 50 new stores, and renovated 65 others. In the current fiscal year, it plans to spend $1.0 billion to open 36 new stores.
Off-mall stores help fuel growth
About 80% of Penney’s new stores will be standalone locations instead of traditional mall-based department stores. These “off-mall” stores feature easier parking, wider aisles, better lighting and centralized checkouts that cut wait times. That helps them generate higher customer traffic and sales-per-square-foot than mall-based stores. The company also sells goods through catalogs and over the Internet. These channels account for 15% of total sales.
Online sales rising fast
Sales through its web site account for nearly half its non-store sales, up from 30% in 2004. It’s possible Penney could phase out its catalog operations in the next few years as more customers shop online. That would cut Penney’s printing and postage costs. Penney is also enjoying the benefits of a new centralized inventory ordering and management system. This has helped it avoid shortages of fast-selling merchandise, which hurts customer loyalty. The new system has also cut the need for costly clearance sales. Penney’s strong earnings and cash flow let it repurchase $750 million worth of its shares in the past two years. It also let Penney increase its dividend twice in the past two years. The current annual rate of $0.80 a share yields 1.6%. Penney’s balance sheet is strong. Long-term debt of $3.5 billion is equal to a reasonable 35% of its market cap. The company also has cash of $2.5 billion or $11.15 a share.
Cheap in relation to earnings, sales
Penney’s sales were flat last year, and could fall somewhat in fiscal 2009. But ongoing cost cuts will help the company maintain its current profit margins. Earnings in the current year will probably fall to $3.90 a share. However, the stock trades at just 12.8 times that estimate. It’s also attractive at just 56% of its fiscal 2008 sales of $89 a share. Penney faces strong competition in the traditional department store industry. But its well-known brands, improving inventory management, strong customer service and focus on middle-income families should fuel its long-term growth. We’re adding J.C. Penney to our WSSF Portfolio for Aggressive Growth. It’s a buy.
