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J C Penney Company Inc Isn’t Ready For Investment Just Yet

After five years of struggling, beleaguered department store J C Penney Company Inc (NYSE:JCP) is back on analysts’ radars. Some are pointing to JCP stock as a great bet in retail this year, saying that the firm’s turnaround is finally taking hold. While it’s true that JCP has put up some promising figures in recent months that suggest things aren’t so dire anymore, I’d be hesitant to add JCPenney stock to my portfolio just yet.

The Good on JCP

The beginning of 2017 was great for JCP stock. The firm’s share price gained a whopping 17% and investors started to believe in the company’s turnaround plans.

The main reason for the January rise was JCP’s holiday performance. During the holiday shopping season, JCP reported a 3.4% rise in same store sales — marking the firm’s best comps growth in over a year.

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Investors were also encouraged by the fact that JCP’s tax rate could be reduced by 14 percentage points under Trump’s new tax regime.

The promising figures have given investors a lot to look forward to when the firm releases its fourth-quarter results on March 2. But there’s a pretty good chance JCPenney can’t live up to all this hype and JCP stock will pay the price in a few weeks.

The Bad on JCP

Admittedly, JCP has been improving its same store sales in recent quarters, which is definitely a positive sign. However, those improving comps figures really mean nothing if JCPenney can’t improve its margins and turn a profit.

During the third quarter, JCP saw its same-store sales rise 1.7% from the year earlier. However, those gains were due largely to heavy discounting in order to clear out old inventory. For that reason, the firm also reported a revenue decline of 1.8% and saw its gross margin shed 320 basis points.

In the fourth quarter, JCP needs to improve margins above all else. The company has been hyper focused on growth and getting shoppers to return to the store, which is admirable, but offering discounts upwards of 60% on a regular basis is going to loose its luster and chip away at the firm’s pricing power even more.

The Ugly on JCP

Perhaps the biggest reason I’m hesitant to jump on board with JCPenney stock just yet is the firm’s massive debt pile. The company has $4.25 billion worth of long-term debt, which translates into a debt-to-equity ratio of 394.53. That’s beyond excessive, especially considering the fact that the company simply isn’t generating the extra cash it needs to pay that figure down.

Not only that, but some of the optimism surrounding the stock might be unfounded. Remember that 14% tax benefit that JCP is due to receive? There is some question as to whether or not the tax reduction will actually benefit JCP as the company has a tax credit forward — meaning the firm doesn’t pay any taxes and therefore wouldn’t see any increase in profits once the new tax code is in place.

JCP Still Has a Chance

Even I must admit that JCP’s turnaround efforts are valiant. The company has brought its business back from the brink of bankruptcy and continues to fight in order to succeed in the retail space. JCPenney has been building out in-store shopping experiences that will help increase foot traffic and its focus on appliances could prove successful should Sears Holdings Corp (NASDAQ:SHLD) finally give up the ghost.

However, while its efforts are admirable, I’m not willing to bet on JCP as a winner in the appliance space. Don’t forget that when SHLD bites the dust, Home Depot Inc (NYSE:HD) and Lowe’s Companies, Inc. (NYSE:LOW) will also be there to pick up the pieces. Even if JCP is able to emerge as a top dog in appliance sales, remember it’s a low margin business. So although it will be a benefit to JCP’s bottom line, it won’t make a huge difference to margins.

Bottom Line on JCP

The big determinant will the the firm’s Q4 results. If the company can cut down some of its losses and improve margins, it will be a huge indicator that a turnaround is actually on the horizon.

However without that evidence, the future of JCP stock is far too uncertain to make it a good bet.

As of this writing, Laura Hoy did not hold a position in any of the aforementioned securities.

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