Conclusion: The market share shift back to JCP is undeniable, which is consistent with our research. Our estimates remain far above consensus. That said, we’ve kept this name off our Best Ideas list as we've been a vocal critic of CEO Ullman, saying that he’s not the guy to unleash the $1.40+ in earnings power we see at JCP and that we need a permanent CEO. Based on the conference call it does not sound like he's going anywhere anytime soon. While that’s negative at face value, let’s give the guy credit…he’s getting it done. If he could keep this momentum going, then maybe he should stay.
We were expecting a beat out of JCP based on the research we outlined on our JCP/KSS call on Tuesday (better visitation and spending statistics in our latest Consumer survey as well as clear signs that it was taking share from KSS online), but we were definitely not expecting a top line this strong. We modeled a 4% comp, but JCP came in at 6.2%, which is 780bps better than Macy’s and 960bp better than KSS. Anyone who tries to argue that JCP is not regaining the $5.4bn in market share it gave away over the past three years is simply ignoring the cold hard facts. Our research shows that these two retailers are responsible for $1.0bn and $500+mm, respectively of that share shift. That’s a lot more meaningful for KSS in percentage terms, and we don’t think KSS sees JCP coming (or it’s simply in denial).
There was so much in this quarter to like…a) positive traffic for the first time since before Johnson trashed the place, b) 26% growth in e-commerce – the first positive 2-year comp in 3 years -- during the same quarter that KSS dot.com slowed to the point where they stopped disclosing the exact number to the Street, c) continued improvement in Gross Margin -- +224bp vs. last year, d) only 1% growth in inventories on top of 6.3% revenue growth, which bodes well for GM% headed into the second quarter, e) a 6.4% decline in SG&A, which is great, though it’s an item that has a finite runway, and f) for the people that weren’t satisfied with JCP vastly improved balance sheet situation over the past 2 quarters, the company upgraded its credit facility such that it secured an extra $500mm in unsecured liquidity. Put all this together, and this is a really tough quarter to poke holes in. Most other retailers have nothing but excuses. JCP came through with nothing but results.
We’re taking up our estimates by roughly $0.20 each year out to 2018 (see Exhibit 2 below), which is largely a function of better revenue growth. That takes our ultimate earnings power up to $1.40. We’re still of the view that it will need to be a new CEO to realize that earnings power, and truth be told, we have more questions about that than ever.
From where we sit, Ullman is looking mighty comfortable in that CEO seat. In answer to a question about his future, he seemingly dismissed that there’d be a change up top anytime soon. We’ve been his most vocal critic, so at face value, we think this is a negative development.
But let’s keep ourselves honest here. We wrote above about how well the company is executing on its turnaround plan. Is it fair then to say that on one hand, and then push him out the door with the other? Probably not. Yes, we’d rather have a CEO who is 100% committed to JCP, has more horsepower, and who is financially incentivized to hit key value-enhancing targets over a very long time period. But for now, Ullman is proving to be exactly what the company needs. What we don’t know is whether he’ll wear out his welcome with a stock at $10, 12.50, or $15. It’s highly unlikely that it will be $20 – just as it won’t be $8.
The only other semi-negative factor we could pull from the print is the fact that JCP is now back to its former capacity of private label – which is 50% of total sales. That’s important because of the 500bp GM premium this product carries relative to National Brands (some was up to 800bp). There are two primary drivers to Gross Margin 1) improving the mix of Private Brands, and 2) sheer leverage of comp above fixed components of COGS. By a country mile, #2 is the more powerful driver, and that still has a long way to go. But it’s safe for us to assume that the GM improvement from mix and mix alone will be felt for the next 3-4 quarters and then level off. This is all represented in our above consensus estimates, so we’re not worried. But it’s an important flag.