J.C. Penney Company, Inc. (JCP): Bonds Vs. Equities

Since I heard Bill Ackman talking about J.C. Penney Company, Inc. (NYSE:JCP) a few months ago, I started my research on the name. As you may already know from reading my blog, I am basically a bond investor and JCP’s debt caught my interest, even when the company had been performing poorly from an operational standpoint. I basically think that, given JCP’s real estate asset base, my investment will finally be paid in full. Nevertheless, I think management’s strategy lacks visibility (so far), so I could not feel as comfortable with JCP’s shares as I feel with its bonds.

The reason for this is simple. Under CEO Ron Johnson, JCPenney shunned sales and coupons, which were the company’s mainstay, in favor of lower and more stable prices. Customer’s reaction was unexpected–they stayed out of JCP’s stores. In the past three quarters same store sales decreased by more than 20% while JCP’s balance sheet got significantly weaker.  In the 12 months ending in October, net debt increased by $330 million while the company sold over $300 million in assets (debt up and assets down). JCP’s CEO has assured investors that Q4 would come with an ameliorated balance sheet, but I am sure that by Q1 2013 JCP will continue burning cash unless a clear realistic strategy is put to work. Prospects signal that management is changing its original plan as JCP is reintroducing some event-driven sales and coupons. At the end Mr. Ackman might be right and the company (which in 2012 had 37% less revenue than in 2007) could manage to achieve a successful turnaround, but I think that there are more compelling stories within the department store universe from an equity side perspective.

Companies such as Dillard‘s, Inc. (NYSE:DDS) or Macy‘s, Inc. (NYSE:M) represent better stories and trade at reasonable multiples. While JCP will surely show negative EBITDA and net income numbers in 2013, a company like Dillard’s, Inc.(NYSE:DDS), which has been through a successful turnaround, shall be able to extend its three year streak of positive same store sales while directing its Capex and merchandising efforts in the growing footwear, accessories, and beauty segments (FAB). The company trades at 2013 6x EV/EBITDA and 13.9x P/E, and its numbers (top line and margins) are on the rise. Macy’s, Inc. (NYSE:M) is also an interesting case for those looking for some exposure to the department stores sector. For years the company has been showing good results through its significant exposure to FAB, good expense discipline, and consistent capital allocation.  Macy’s, which trades at 2013 5.8x EV/EBITDA and 11.7x P/E, is a great comparison base for the whole industry.