Saving J.C. Penney Due Date: Feb. 9th On October 2018, J.C. Penney hired a new CEO, Jill Sotau, after Marvin Ellison resigned five months earlier after three years of being CEO. Sotnu asked the interim CFO to be brought up to speed with the last three years. He delegated this job to Alicia Smith, a financial accountant who recently received her MBA. She was asked to perform a detail financial analysis and provide the results by the end of the week. Along with the analysis, he asked that she give recommendations on how to address weaknesses and highlight strengths presented by the financial statements. Knowing that this could boost her career, she decides to spend the week to focus on J.C. Penney's account and find a way to help save J.C. Penney. Overview of Retail Industry Overall, 2017 was a good year for retail Sales were up from the previous year from $1.85 trillion to $1.92 trillion. Even the destruction from high-category hurricanes helped boost sales for home improvement stores like Lowes. With the increase in technology, there has also been a shift in consumer preference; this is no more evident than the increase in online sales from $99.9 billion the previous year to $115.3 billion in 2017. Companies more and more are dedicating resources to get their online presence seen and used. Another big winner in the retail industry are "big-box" retailers including Wal-Mart and Target, who act as a one-stop destination for consumers, Walmart, who a few years back was losing consumers to Amazon, had huge sales growth in 2017 due to their e-commerce effort h However, it has not been a good year for everyone. The "retail apocalypse" also arrived in 2017 and devastated many companies. Although there has been an economic boom with high consumer confidence, and unemployment at an all-time low, there has been a number of retail chains closing stores. According to Bloomberg, 6.752 retail store announce closing. 553 of these are department stores'. The department store industry includes about 20 U.S. companies. In 2017, the annual sales for department sales was about $55 billion. Department stores are fuced with competition from online vendors like Amazon as well as discount department stores such as Ross, and large retailers such as Wal-Mart. Since 2000, sales in department stores has decreased. which has caused many stores to close. While some of this decrease could be due to the financial recession, part of it is due to their sluggish response to competition. Department sales are highly cyclical and dependent on holiday shoppers. Some companies can make up to a third of their sales just in the fourth quarter. About 55% of department sales come from apparel products, 11% from cosmetics, 9% from footwear, 5% from appliance and the remaining 20% is others. J.C. Penney allocation of sales can be found in Exhibit l. It is forecasted that from 2018 to 2022, sales will only continue to decrease for department stores. Many chains are incumbered with debt and with sluggish sales growth; many retails are having a harder time making payments. In 2017, a long list of retail stores filed for Chapter 11 bankruptcy. This list includes stores such as RadioShack, Payless, Rue21, Aerosoles, and one of the biggest bankruptcies to date "Toys"R"Us. Even historical stable department stores, like Macy's, are laden with billions of debt, and after the bankruptcy of Toys"R"Us, refinancing has Saving J.C. Penney become a lot harder. With refinancing becoming harder and competition stiffer, these companies may not have any choice but to follow Toys"R"Us to bankruptcy. The retail apocalypse is not Tinish collecting victims, as it seems to be encroaching at the doorstep of J.C. Penney JC Penney History James Cash Penney founded J.C. Penney (JCP) in 1902 with the name "The Golden Rule" with the mission to "treat others as they would like to be treated. Since then, it has grown to over 870 stores nationwide, Il supply chains, and over 97,000 associates worldwide. Throughout the years, JCP was known for its catalogues and its sales, which would bring shoppers to its door. JCP, like other retail stores would make most of their sales during the holidays and discount promotions. In 1994, JCP introduced its website that allowed shoppers the convenience to shop wherever they are. This opened access to new consumers. However, in the last few years JCP has faced many problems, Sales have decreased over the last 3 years and in 2017 posted a loss. Unlike other retail stores who has recovered from the great recession, JCP has struggled to stay relevant. JCP faces competition on many fronts, with stores such as Target, Walmart, and Amazon stealing many of its custumers. However, competition is not its only problem. Many of its present misfortunes can be traced back to mistakes made by Ron Johnson, the chief executive officer, in 2011, who promised to make JCP "America's favorite store." "He did that by getting rid of its discounting culture and beginning to refashion its stores as collections of boutiques for hip brand'." While the idea may have been good, the implementation was reckless. He did not take time to get to know how the company work, or to speak to others for advice. Instead, transformation was automatic without any test runs to determine how the market would react to change. His idea to transform JCP into Apple was a complete fail. He alienated its customers with change in brands and eliminated discount and did not do a good job attracting new customers. In the 17-months that Johnson was there, sales dropped by about $6 billion, 40.000 employees had to be let go, and share price fell dramatically, Johnson failure to understand the market and how JCP worked was detrimental to the store. In 2012, Johnson was let go. After Johnson, the former CEO Myron Ullman return to fill in the vacated role. Ullman's first set of business was to stabilize JCP through reversing Johnson's action. He restored the private labels and reintroduced discounts and promotions, along with releasing an apology. However, his actions proved a little too late, with some customers finding alternative options. In 2015. a new CEO was hired, Marvin Ellison, a former executive of Home Depot. Ellison continued Ullmann's strategy to stabilize JCP and to cut cost. Ullman and then Ellison retired $1.4 billion in debt, successfully partnered with Sephora to create Salon by Instyle, as well revamp the home and appliance department. However, Ellison has failed to bring new ideas to the table, rebrand JCP, and attract new consumers. J.C. Penney Operating Strategy One of the biggest problem that JCP faces is its debt. JCP has a total debt of $4.232 billion and has a $10.55 million of quarterly repayment duel. Exhibit 2 shows JCP's long-term debt. Additionally, the decrease in sales is worrisome for the investors, which is evident in the spiraling decrease of stock price. Exhibit 3 compares the return of JCP over five years. The graph Saving J.C. Penney is provided by JCP and assumes that $100 was invested in JCP's stock, as well as S&P SOO stock index, as well as S&P Department stores which includes competitors: Macy's, Kohl's and Nordstrom. This graph shows the retums on JCP is much lower than its competitors and the market So what are they going to do about it? In their latest SEC report, JCP identified a three- prong strategy, which include improving their private brand, omnichannel retailing, and revenue per customer. The objective is to increase sales and profitability. Prioritizing their brand is a key to increasing revenue with the help of their omnichannel strategy, which allows consumer to shop online, as well as through their mobile device. Another important strategy is to cut down cost. In 2017, JCP closed 138 stores, which decreased their SO&A cost for that year. In March 2018, J.C. Penney also fired 130 home office positions as well as 230 store positions, which is estimated to save them approximately $20-25 million . However, for the strategic plan to work JCP Penney needs to overcome its challenges. The retail business is highly saturated with competition and JCP needs to find a way to stand out. The ever-shifting preferences of consumer and fashion trend is another challenge. They most work on improving the image of the brand if they have any hopes of saving JCP. Discussion Questions Financial statement is provided in Exhibits 4 and 5 for the last 3 years. The industry averages can be found in Exhibit 6. Provide a summary of the issue that J.C. Penny face. Assume the role of Alicia Smith prepare a 3-5-page memo that analyzes the financial condition of JCP. Included in the memo should be a section describing the company's liquidity, asset management, debt management, profitability, market value and your recommendations to JCP. Make sure that you include the heading of each section in your report. Also include the following financial exhibits: Calculate the JCP's Free Cash Flow for 2017 and 2016 Ratio table (do the ratios included in Exhibit 6) Vertical (common-size) analysis of income statement and balance sheet Horizontal (percent-change) analysis of income statement and balance sheet Also give a summary update on how JC Penney performed since 2017? What is new for JCP? How did they react when Sears went bankrupt? Are these changes reflected in Sales and Profit? What about the stock price? Is JCP out of trouble or further into trouble? Saving J.C. Penney Exhibit 1: Allocation of J.C. Penney's sales 2016 23% 2017 22% 21% 15% 13% 22% Women's apparel Men's apparel and accessories Home Women's accessories, including Sephora Children's apparel Footwear and handbags Jewelry Services and other 9% 13% 13% 10% 8% 6% 2015 25% 22% 12% 12% 10% 8% 6% 5% 100% 6% 100% 100% Data: J.C. Penney 10-K SEC report Exhibit 2: J.C. Penney's Long-Term Debt ($ in millions) Issue: 2017 2016 220 190 175 265 400 400 1,667 500 7.95% Debentures Due 2017 5.75% Senior Notes Due 2018 (1) 8.125% Senior Notes Due 2019 5.65% Senior Notes Due 2020 (1) 2016 Term Loan Facility (Matures in 2023) 5.875% Senior Secured Notes Due 2023 (1) 7.125% Debentures Due 2023 6.9% Notes Due 2026 6.375% Senior Notes Due 2036 (1) 7.4% Debentures Due 2037 7.625% Notes Due 2097 Total debt Unamortized debt issuance costs Less: current maturities 360 1,625 500 10 2 388 313 500 4,063 2 388 313 500 4,665 -51 -232 -263 3,780 4,339 Total long-term debt 6.3 Weighted-average interest rate at year end Saving J.C. Penney weighted average maturity (in years) 16 years Exhibit 3: Stockholder's Return Stockholder's Return $250 $200 5150 $100 2012 2013 2017 2014 S&P 500 2015 2016 S&P Department Stores - JCPenney - - Saving J.C. Penney Eshibit 4J.C. Penney's Income Statement (in millions, except per share data) 2017 2016 2015 $12,506 $12,547 $12,625 Total net sales Costs and expenses/(income): Cost of goods sold (exclusive of depreciation and amortization shown separately below) Selling, general and administrative (SG&A) Pension Depreciation and amortization Real estate and other, net Restructuring and management transition Total costs and expenses Operating income/(loss) Loss on extinguishment of debt Net interest expense Income/(loss) before income taxes Income tax expense/(benefit) Net income/(loss) 8,071 3,538 19 609 -111 26 12,152 8,074 3,775 162 616 8,174 3,468 21 570 -146 303 12,390 116 33 325 -242 -126 - 116 395 84 12,714 -89 10 405 -504 30 363 2 1 1 -513 $3.16 $8.31 $6.66 - - Price Earnings/(loss) per share: Basic Diluted Weighted average shares - basic Weighted average shares -diluted -0.37 -0.37 311.1 311.1 -1.68 -1.68 305.9 305.9 308.1 313 Saving J.C. Penney bit : JC Penney's Balance Sheet (in millions, except per share data) Assets Current assets: 2017 2016 2015 $116 $125 $119 762 781 Cash in banks and in transit Cash short-term investments Cash and cash equivalents Merchandise inventory Prepaid expenses and other Total current assets Property and equipment Prepaid pension Other assets 900 2.721 2,854 160 342 458 2,762 190 3,410 4.281 61 661 3,901 4.599 4,018 4,816 618 608 Total Assets $8,413 $9,118 $9.442 Liabilities and Stockholders' Equity Current liabilities: $973 1,119 $977 1,164 $925 1,360 Merchandise accounts payable Other accounts payable and accrued expenses Current portion of capital leases, financing obligation and note payable Current maturities of long-term debt Total current liabilities Long-term capital leases, financing obligation and note payable Long-term debt Deferred taxes Other liabilities Total Liabilities 101 2,412 232 2,332 212 3.780 143 567 7,034 263 2,419 219 4,339 4.668 204 425 618 583 7,764 8,133 Stockholders' Equity Common stock (1) Additional paid-in capital Reinvested earnings/(accumulated deficit) Accumulated other comprehensive income/(loss) Total Stockholders' Equity 156 4,705 -3,122 -360 1,379 154 4,679 -3,006 -473 1,354 153 4,654 -3,007 -491 1,309 Total Liabilities and Stockholders' Equity 8,413 9,118 9,442 Shares Outstanding (in million) 312 308.3 306.1 Saving J.C. Penney hibit 6: Industry Average Liquidity Averages Ratios 2017 1.55 0.35 Current Ratio Quick Ratio Asset Management Ratios 2017 Total Asset TO 1.5 FA TO 3.996742 INV TO 3.883333 Debt Management Ratios 2017 Liabilities to asset 0.706009 TIE 4.549735 Profitability Ratio Operating Profit Margin Profit Margin ROA BEP ROE 2017 6.36% 4.21% 8.46% 11.67% 29.28% Market Value Ratios 2017 14.02 4.57 P/E Ratio M/B ratio Saving J.C. Penney Due Date: Feb. 9th On October 2018, J.C. Penney hired a new CEO, Jill Sotau, after Marvin Ellison resigned five months earlier after three years of being CEO. Sotnu asked the interim CFO to be brought up to speed with the last three years. He delegated this job to Alicia Smith, a financial accountant who recently received her MBA. She was asked to perform a detail financial analysis and provide the results by the end of the week. Along with the analysis, he asked that she give recommendations on how to address weaknesses and highlight strengths presented by the financial statements. Knowing that this could boost her career, she decides to spend the week to focus on J.C. Penney's account and find a way to help save J.C. Penney. Overview of Retail Industry Overall, 2017 was a good year for retail Sales were up from the previous year from $1.85 trillion to $1.92 trillion. Even the destruction from high-category hurricanes helped boost sales for home improvement stores like Lowes. With the increase in technology, there has also been a shift in consumer preference; this is no more evident than the increase in online sales from $99.9 billion the previous year to $115.3 billion in 2017. Companies more and more are dedicating resources to get their online presence seen and used. Another big winner in the retail industry are "big-box" retailers including Wal-Mart and Target, who act as a one-stop destination for consumers, Walmart, who a few years back was losing consumers to Amazon, had huge sales growth in 2017 due to their e-commerce effort h However, it has not been a good year for everyone. The "retail apocalypse" also arrived in 2017 and devastated many companies. Although there has been an economic boom with high consumer confidence, and unemployment at an all-time low, there has been a number of retail chains closing stores. According to Bloomberg, 6.752 retail store announce closing. 553 of these are department stores'. The department store industry includes about 20 U.S. companies. In 2017, the annual sales for department sales was about $55 billion. Department stores are fuced with competition from online vendors like Amazon as well as discount department stores such as Ross, and large retailers such as Wal-Mart. Since 2000, sales in department stores has decreased. which has caused many stores to close. While some of this decrease could be due to the financial recession, part of it is due to their sluggish response to competition. Department sales are highly cyclical and dependent on holiday shoppers. Some companies can make up to a third of their sales just in the fourth quarter. About 55% of department sales come from apparel products, 11% from cosmetics, 9% from footwear, 5% from appliance and the remaining 20% is others. J.C. Penney allocation of sales can be found in Exhibit l. It is forecasted that from 2018 to 2022, sales will only continue to decrease for department stores. Many chains are incumbered with debt and with sluggish sales growth; many retails are having a harder time making payments. In 2017, a long list of retail stores filed for Chapter 11 bankruptcy. This list includes stores such as RadioShack, Payless, Rue21, Aerosoles, and one of the biggest bankruptcies to date "Toys"R"Us. Even historical stable department stores, like Macy's, are laden with billions of debt, and after the bankruptcy of Toys"R"Us, refinancing has Saving J.C. Penney become a lot harder. With refinancing becoming harder and competition stiffer, these companies may not have any choice but to follow Toys"R"Us to bankruptcy. The retail apocalypse is not Tinish collecting victims, as it seems to be encroaching at the doorstep of J.C. Penney JC Penney History James Cash Penney founded J.C. Penney (JCP) in 1902 with the name "The Golden Rule" with the mission to "treat others as they would like to be treated. Since then, it has grown to over 870 stores nationwide, Il supply chains, and over 97,000 associates worldwide. Throughout the years, JCP was known for its catalogues and its sales, which would bring shoppers to its door. JCP, like other retail stores would make most of their sales during the holidays and discount promotions. In 1994, JCP introduced its website that allowed shoppers the convenience to shop wherever they are. This opened access to new consumers. However, in the last few years JCP has faced many problems, Sales have decreased over the last 3 years and in 2017 posted a loss. Unlike other retail stores who has recovered from the great recession, JCP has struggled to stay relevant. JCP faces competition on many fronts, with stores such as Target, Walmart, and Amazon stealing many of its custumers. However, competition is not its only problem. Many of its present misfortunes can be traced back to mistakes made by Ron Johnson, the chief executive officer, in 2011, who promised to make JCP "America's favorite store." "He did that by getting rid of its discounting culture and beginning to refashion its stores as collections of boutiques for hip brand'." While the idea may have been good, the implementation was reckless. He did not take time to get to know how the company work, or to speak to others for advice. Instead, transformation was automatic without any test runs to determine how the market would react to change. His idea to transform JCP into Apple was a complete fail. He alienated its customers with change in brands and eliminated discount and did not do a good job attracting new customers. In the 17-months that Johnson was there, sales dropped by about $6 billion, 40.000 employees had to be let go, and share price fell dramatically, Johnson failure to understand the market and how JCP worked was detrimental to the store. In 2012, Johnson was let go. After Johnson, the former CEO Myron Ullman return to fill in the vacated role. Ullman's first set of business was to stabilize JCP through reversing Johnson's action. He restored the private labels and reintroduced discounts and promotions, along with releasing an apology. However, his actions proved a little too late, with some customers finding alternative options. In 2015. a new CEO was hired, Marvin Ellison, a former executive of Home Depot. Ellison continued Ullmann's strategy to stabilize JCP and to cut cost. Ullman and then Ellison retired $1.4 billion in debt, successfully partnered with Sephora to create Salon by Instyle, as well revamp the home and appliance department. However, Ellison has failed to bring new ideas to the table, rebrand JCP, and attract new consumers. J.C. Penney Operating Strategy One of the biggest problem that JCP faces is its debt. JCP has a total debt of $4.232 billion and has a $10.55 million of quarterly repayment duel. Exhibit 2 shows JCP's long-term debt. Additionally, the decrease in sales is worrisome for the investors, which is evident in the spiraling decrease of stock price. Exhibit 3 compares the return of JCP over five years. The graph Saving J.C. Penney is provided by JCP and assumes that $100 was invested in JCP's stock, as well as S&P SOO stock index, as well as S&P Department stores which includes competitors: Macy's, Kohl's and Nordstrom. This graph shows the retums on JCP is much lower than its competitors and the market So what are they going to do about it? In their latest SEC report, JCP identified a three- prong strategy, which include improving their private brand, omnichannel retailing, and revenue per customer. The objective is to increase sales and profitability. Prioritizing their brand is a key to increasing revenue with the help of their omnichannel strategy, which allows consumer to shop online, as well as through their mobile device. Another important strategy is to cut down cost. In 2017, JCP closed 138 stores, which decreased their SO&A cost for that year. In March 2018, J.C. Penney also fired 130 home office positions as well as 230 store positions, which is estimated to save them approximately $20-25 million . However, for the strategic plan to work JCP Penney needs to overcome its challenges. The retail business is highly saturated with competition and JCP needs to find a way to stand out. The ever-shifting preferences of consumer and fashion trend is another challenge. They most work on improving the image of the brand if they have any hopes of saving JCP. Discussion Questions Financial statement is provided in Exhibits 4 and 5 for the last 3 years. The industry averages can be found in Exhibit 6. Provide a summary of the issue that J.C. Penny face. Assume the role of Alicia Smith prepare a 3-5-page memo that analyzes the financial condition of JCP. Included in the memo should be a section describing the company's liquidity, asset management, debt management, profitability, market value and your recommendations to JCP. Make sure that you include the heading of each section in your report. Also include the following financial exhibits: Calculate the JCP's Free Cash Flow for 2017 and 2016 Ratio table (do the ratios included in Exhibit 6) Vertical (common-size) analysis of income statement and balance sheet Horizontal (percent-change) analysis of income statement and balance sheet Also give a summary update on how JC Penney performed since 2017? What is new for JCP? How did they react when Sears went bankrupt? Are these changes reflected in Sales and Profit? What about the stock price? Is JCP out of trouble or further into trouble? Saving J.C. Penney Exhibit 1: Allocation of J.C. Penney's sales 2016 23% 2017 22% 21% 15% 13% 22% Women's apparel Men's apparel and accessories Home Women's accessories, including Sephora Children's apparel Footwear and handbags Jewelry Services and other 9% 13% 13% 10% 8% 6% 2015 25% 22% 12% 12% 10% 8% 6% 5% 100% 6% 100% 100% Data: J.C. Penney 10-K SEC report Exhibit 2: J.C. Penney's Long-Term Debt ($ in millions) Issue: 2017 2016 220 190 175 265 400 400 1,667 500 7.95% Debentures Due 2017 5.75% Senior Notes Due 2018 (1) 8.125% Senior Notes Due 2019 5.65% Senior Notes Due 2020 (1) 2016 Term Loan Facility (Matures in 2023) 5.875% Senior Secured Notes Due 2023 (1) 7.125% Debentures Due 2023 6.9% Notes Due 2026 6.375% Senior Notes Due 2036 (1) 7.4% Debentures Due 2037 7.625% Notes Due 2097 Total debt Unamortized debt issuance costs Less: current maturities 360 1,625 500 10 2 388 313 500 4,063 2 388 313 500 4,665 -51 -232 -263 3,780 4,339 Total long-term debt 6.3 Weighted-average interest rate at year end Saving J.C. Penney weighted average maturity (in years) 16 years Exhibit 3: Stockholder's Return Stockholder's Return $250 $200 5150 $100 2012 2013 2017 2014 S&P 500 2015 2016 S&P Department Stores - JCPenney - - Saving J.C. Penney Eshibit 4J.C. Penney's Income Statement (in millions, except per share data) 2017 2016 2015 $12,506 $12,547 $12,625 Total net sales Costs and expenses/(income): Cost of goods sold (exclusive of depreciation and amortization shown separately below) Selling, general and administrative (SG&A) Pension Depreciation and amortization Real estate and other, net Restructuring and management transition Total costs and expenses Operating income/(loss) Loss on extinguishment of debt Net interest expense Income/(loss) before income taxes Income tax expense/(benefit) Net income/(loss) 8,071 3,538 19 609 -111 26 12,152 8,074 3,775 162 616 8,174 3,468 21 570 -146 303 12,390 116 33 325 -242 -126 - 116 395 84 12,714 -89 10 405 -504 30 363 2 1 1 -513 $3.16 $8.31 $6.66 - - Price Earnings/(loss) per share: Basic Diluted Weighted average shares - basic Weighted average shares -diluted -0.37 -0.37 311.1 311.1 -1.68 -1.68 305.9 305.9 308.1 313 Saving J.C. Penney bit : JC Penney's Balance Sheet (in millions, except per share data) Assets Current assets: 2017 2016 2015 $116 $125 $119 762 781 Cash in banks and in transit Cash short-term investments Cash and cash equivalents Merchandise inventory Prepaid expenses and other Total current assets Property and equipment Prepaid pension Other assets 900 2.721 2,854 160 342 458 2,762 190 3,410 4.281 61 661 3,901 4.599 4,018 4,816 618 608 Total Assets $8,413 $9,118 $9.442 Liabilities and Stockholders' Equity Current liabilities: $973 1,119 $977 1,164 $925 1,360 Merchandise accounts payable Other accounts payable and accrued expenses Current portion of capital leases, financing obligation and note payable Current maturities of long-term debt Total current liabilities Long-term capital leases, financing obligation and note payable Long-term debt Deferred taxes Other liabilities Total Liabilities 101 2,412 232 2,332 212 3.780 143 567 7,034 263 2,419 219 4,339 4.668 204 425 618 583 7,764 8,133 Stockholders' Equity Common stock (1) Additional paid-in capital Reinvested earnings/(accumulated deficit) Accumulated other comprehensive income/(loss) Total Stockholders' Equity 156 4,705 -3,122 -360 1,379 154 4,679 -3,006 -473 1,354 153 4,654 -3,007 -491 1,309 Total Liabilities and Stockholders' Equity 8,413 9,118 9,442 Shares Outstanding (in million) 312 308.3 306.1 Saving J.C. Penney hibit 6: Industry Average Liquidity Averages Ratios 2017 1.55 0.35 Current Ratio Quick Ratio Asset Management Ratios 2017 Total Asset TO 1.5 FA TO 3.996742 INV TO 3.883333 Debt Management Ratios 2017 Liabilities to asset 0.706009 TIE 4.549735 Profitability Ratio Operating Profit Margin Profit Margin ROA BEP ROE 2017 6.36% 4.21% 8.46% 11.67% 29.28% Market Value Ratios 2017 14.02 4.57 P/E Ratio M/B ratio