Valuation
What are you getting when you buy a share of J.C. Penney Company, Inc. (NYSE:JCP)? Well, currently the market is valuing common equity at $3.2 billion. What are we getting for that?
Well according to their most recent filing, we are getting $3.6 billion of current assets (including $2.3 billion of inventory), $9.7 billion of total assets (including $5.3 billion of property, plant, and equipment). On the liabilities side, JCP owes $2.6 billion of current liabilities and $6.6 billion of of total liabilities. This all gives us shareholder equity of $3.2 billion. So the market seems to be pricing JCP at their net equity according to their balance sheet.
There is something to remember about accounting balance sheets however. They are recorded at cost. What does this mean? Well it means that it is likely, that JCP probably owns a building somewhere that is recorded as an asset of something like $20 million, but has a market value of maybe $70 million. By the same token, the reverse is also true. In addition, if J.C. Penney Company, Inc. (NYSE:JCP) liquidated right now, who knows how much they could get for their $2.3 billion of inventory. That being said, JCP’s largest investor Bill Ackman, who has done far more due diligence than me, stated a couple weeks ago in an interview that JCP had many valuable long term leases and property. This leads me to believe, perhaps ignorantly, that JCP’s “Property, Plant, and Equipment,” could yield more than $5.3 billion.
In terms of operation, JCP is cash flow negative. This means that if it remains this way, they will burn through their equity surplus and equity holders will own less and less over time. That being said, in the most recent quarter, while they lost $577 million in cash, they had a cash operating loss of $10 million. They spent a lot of cash ($810 million) on capital expenditures –which are investments for the future, and on reducing borrowing ($250 million). So things aren’t that bad.
Management
I think I should start by saying I was a fan of Ron Johnson. I liked all of his ideas. I liked his new stores. I even liked getting rid of the gimmicky coupons. It’s interesting because, while I am a lover of coupons and sales, I always felt as if J.C. Penney just gave away too many. I no longer felt as if I was getting a deal. I actually felt that when I bought something at J.C. Penney that wasn’t on sale, then I was getting ripped off. (So I never bought anything at J.C. Penney that wasn’t on sale!) I thought his new stores were super cool. I drove to a J.C. Penney solely so I could see the transformation. Why else do I like Ron Johnson? He is credited with the creation of the Apple Retail Store. Also he is the one that brought trendy brands to Target. Both things added huge value to their respective companies. One thing I guess he could be blamed for is doing too much too fast. I’m not sure if this is a real criticism, but because of the way the world works and because of impatient investors who need to see a return on their investment too fast, the spiraling drop in sales was too much to bear. It sort of concerns me because now that Ron Johnson is gone, who knows where J.C. Penney Company, Inc. (NYSE:JCP) will go? Back to its slow but sure death?
Well, this leads me to look at Bill Ackman. His hedge fund owns 18% of JCP and he is currently sitting on around a $500 million dollar loss as a result of his investment. I just have a really hard time believing he is going to realize this loss. If you want to be cynical, think the market is rigged and corrupt, you could say that somehow we will see JCP be taken private for lets say like $20/share by some private equity fund and some public pension. (Does anyone think that when Palm was about to go bankrupt and HP bought them for $4.1 billion that was a arms-length transaction? Maybe it was, but it looked fishy to me.) ANYWAYS, if you don’t want to be cynical, you could say that Bill Ackman is a smart guy. He is an active investor. He knows how to get things done. He also knows other smart guys. He is going to figure out a way to make his money back. Somehow. Someway. We, as small time passive owners, can’t do anything. Ackman is a force. Ackman gets stuff done. One thing to note, is that if you read the news it looks like all these people are going to come in to “save the day”, and get paid fees by J.C. Penney Company, Inc. (NYSE:JCP), in addition to equity, which will just dilute common shareholders. That sucks, but what can you do?
How Does J.C. Penney Stack up against others in the retail space?
Well, it’s hard to say. Let’s look at Sears Holdings Corporation (NASDAQ:SHLD). If you recall, Sears faces a similar situation to what I was hypothesizing about J.C. Penney above. They have a ton of undervalued property on their books. (Read about it here). They also are not making any money. A big difference? Sears’ book value is just under $3 billion, while the market is selling them for $29 billion. That doesn’t look appetizing. Plus, I don’t see them doing anything to stop them from a long, slow death.
How about what I would call a slightly more upscale Macy’s, Inc (NYSE:M)? They are actually making money selling at a price-to-earnings ratio of just above 13. That seems reasonable. Plus they pay a 1.8% dividend. Not too shabby. At quick glance, Macy’s, Inc (NYSE:M) seems like potentially a reasonable investment, but it doesn’t appear to have the hidden value that I think J.C. Penney Company, Inc. (NYSE:JCP) might have. I guess higher risk, higher reward right?
And lastly, what if we compare JCP to slightly downscale Kohl’s Corporation (NYSE:KSS)? They might be even more attractive than Macy’s! Selling at a price-to earnings of just above 11, and a 3% dividend, looks like something I wouldn’t mind potentially owning. Plus that’s not even taking into account that companies like these get pretty substantial depreciation deductions ($833 million this past fiscal year), so Kohl’s Corporation (NYSE:KSS) is generating even more cash. Kohl’s Corporation (NYSE:KSS) doesn’t look like a bad company to own, but I don’t think it presents the same kind of opportunity we see with J.C. Penney Company, Inc. (NYSE:JCP).
Conclusion
My conclusion is that I don’t know whether JCP is a good investment right now. It looks interesting to me. It looks like something to look into. I am going to do more research, and maybe you should too.
The article Is Now the Time to Buy Into J.C. Penney? originally appeared on Fool.com and is written by Jared Kassan.
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