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JC Penney Q3 Loss Narrows, Revenues & Comps Disappoint

J. C. Penney Company Inc. (JCP) reported third-quarter fiscal 2014 adjusted loss of 77 cents a share that fared better than the Zacks Consensus Estimate of a loss of 83 cents and narrowed substantially from a loss of $1.81 last year. Higher gross margin as well as lower operating expenses supported the bottom line.

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Including one-time items, quarterly loss came in at 62 cents per share, compared with a loss of $1.94 per share in the year-ago period.

However, revenues of $2,764 million fell short of the Zacks Consensus Estimate of $2,816 million and dipped 0.5% year over year. Moreover, comparable-store sales (comps) remained flat year over year, after registering growth of 6%, 6.2% and 2% in the trailing three quarters.

These were enough to spook investors as share price fell over 5% in the after market trading hours. The company had already warned last month that comps will suffer due to deterioration in traffic during September and a choppy retail environment.

Although the company is trying hard to reinvent itself after a botched transformation plan by Ron Johnson, there remain plenty of concerns about the turnaround. Mike. E. Ullman, current CEO, along with Marvin Ellison, CEO designee, stressed on the fact that the company is in better shape than it was last year. Though traffic took a toll in September, things have started improving in October and November. As a result, it expects comps to grow 2–4% in the fourth quarter which includes the crucial holiday season. Fourth quarter of fiscal 2013 witnessed 2% comps growth.

Investors’ concern also stems from the fact that many analysts have labeled J. C. Penney’s long-term goals as too lofty. The company had earlier intimated that it expects its strategic initiatives undertaken to provide an opportunity to generate $1.2 billion in EBITDA by 2017. The company expects to realize incremental sales of $2 billion over the next three years implying a mid-single digit growth. However, the company must undertake consistent efforts to augment its top line and keep costs under control in order to attain the set target. Noticeably, even if the company achieves these goals, sales would still be lower compared to pre-Ron Johnson era.

Back to earnings, Home and Fine Jewelry were the best performing categories. Performance of Sephora stores was also commendable. Regionally, sales improved overall, especially in the western and northeastern regions of the country. During the quarter, online sales grew 3.4%.

Clearance sales as well as favorable product mix boosted gross profit by 23.7% to $1,013 million, with the margin expanding 710 bps to 36.6%. Going forward, in the fourth quarter, gross margin is projected to increase 500-600 bps year over year.

Further, the company’s selling, general and administrative (SG&A) expenses fell nearly 1.8% to $988 million. As a percentage of sales, SG&A improved 50 bps to 35.7%, backed by lower corporate over head and a fall in store costs. In the fourth quarter, SG&A expenses are expected to increase slightly year over year.

J. C. Penney’s adjusted operating loss also significantly narrowed to $131 million compared with an adjusted loss of $354 million in the year-ago period. Adjusted EBITDA improved to $25 million from a loss of $193 million in the prior-year quarter.

Other Financial Details

J. C. Penney, which competes with Macy's, Inc. (M), Kohl's Corp. (KSS) and Nordstrom Inc. (JWN), ended the quarter with cash and cash equivalents of $684 million, long-term debt of $5,329 million and shareholders’ equity of $2,430 million. Inventory levels are down 10.4% to $3,358 million.

Moreover, the company generated negative free cash flow of $315 million in the said quarter, marking a remarkable improvement from a negative free cash flow of $898 million recorded in the last year. The company incurred capital expenditures of $61 million in the quarter.

Guidance

For fiscal 2014, management continues to expect comps to increase in the band of 3.5%–4.5% while gross margin is projected to improve 500-600 bps from the prior-year quarter. Capital expenditure is still expected to be $250 million for the year. The company also anticipates liquidity of roughly $2.1 billion at the end of the year while expects free cash flow to be positive.

Management of this Zacks Rank #3 (Hold) company remains confident of improving its bottom-line performance on the back of its robust private and national brands, compelling prices and unique collection. Also, with its turnaround strategy underway, the company aims to see itself as a leading department store retailer. However, we continue to believe that though headed in the right direction, it will be a time consuming affair.

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