I'm writing this as a follow-up to the webinar I presented to SAP Mentors on April 17. A lot of people wanted to understand "what happened" to JC Penney. How did something that seemed so right go so wrong? Here's my analysis (as published on www.rsrresearch.com).
As we bid a last farewell to Ron Johnson at JCP (or Penney, or whatever new name comes along) it’s worthy to take a look back at his sixteen month tenure. Most industry observers were excited to see him come on board. In my own case, it wasn’t because he’d ‘rocked it’ at the Apple stores. That phenomenon is a singularity, and I’m not sure it’s a replicable model – especially in the moderate-priced department store space. I was most excited about getting a fresh set of eyes looking at a model that has struck me as dated, tired and generally very hard to shop.
I don’t think of Kohl’s as a department store. That company seems more like a hybrid between a mass merchant and a category killer than a traditional full-line department store. I do include Sears in the category, and we know how well that chain is doing. In fact, let’s give Terry Lundgren his props here – he has found a way to keep Macy’s growing and relevant. I’m not his core customer anymore – I think he’s far more interested in Millennials than me – but the results do speak for themselves.
In any case I, like many of my peers, anticipated something new. Something different. Something interesting. And to be fair, I know several women who have shopped at the “new” JCP. They found great products at reasonable prices. I will say that the small sampling of men I’ve spoken to were not nearly as enthused, but I’m also not sure how much influence Mr. Johnson really had over the product in the store. After all, overall time-to-volume tends to be between 12-18 months in our industry. And the Martha Stewart home product, while ready, still sits in distribution centers awaiting judicial dispensation.
I think we’ve heard the obvious: Shifting a customer base is a delicate exercise. You don’t want to scare all the existing customers away before you’ve had time to attract the new ones. Last year’s precipitous revenue drop was far beyond anyone’s expectations. That’s an area where Lundgren’s leadership at Macy’s has been superb. He gradually alienates shoppers like me as he gradually attracts a new customer. Changing a pricing strategy is another delicate dance. The new strategy has to be very carefully spelled out. On this score, JCP gets an #Epicfail. I love Ellen Degeneres, but the scripts in her ads were funny, but otherwise completely unclear. Redesigning more than 1100 stores without closing them and keeping the store looking fresh at the same time is no easy feat. That never got too far, but in fact, it was underway before Mr. Johnson’s tenure began (the Sephora store-within-a-store and Mango).
So we had three delicate things going on, all handled somewhat…indelicately. As things started going downhill and mass layoffs and firings continued I started scratching my head. Whenever he made public statements about all his ongoing initiatives (including a decision to replace most of the company’s systems) he always talked about freeing up capital. The decision to replace the systems was not a bad one – certainly a better solution that what has been described to me as JCP’s current “hodge-podge of customized products and home-grown solutions.” The timing just seemed…off. A company can only manage so many initiatives at a time. This was getting whacky.
And so I started following the money and digging into the company’s 2011 financial statements. It turns out that the company wasn’t exactly cash-rich going in. It had $1.5 billion of cash in hand, but had only thrown off $23 million in 2011 to add to that number. Money had been used to buy the full rights to the Liz Claiborne line and also for share re-purchases. Inventory was valued at $2.9 billion to support sales of roughly $17 billion. In that context, the $1.5 billion in cash seems a bit tight. More alarming is this statement from the company’s 10K: “On January 27, 2012, we converted our existing credit facility into an asset-based revolving credit facility and to further enhance our liquidity, on February 10, 2012, we increased the size of our revolving credit facility to $1,500 million.”
Asset-based credit lines are a double-edged sword. Used properly, they help even out cash flows for companies that have to pay for product before it sells (like holiday goods, for example). A full explanation of these lines are both beyond the scope of this document and beyond my ability to articulate, in any case. In short strokes, you can borrow up to a given percent of your current inventory value. However, the lender creates all kinds of “carve-outs” that eliminate certain categories of inventory from the available borrowing pool and those carve-outs can be increased if the lender perceives that inventory is going to age as a result of diminished sales. Remember Circuit City? That’s how it was thrown into bankruptcy. Its lender decided its holiday sales were going to be less than anticipated and so it increased the anticipated aged inventory carve-out. Overnight, the company became insolvent and was thrown into Chapter 11. And who is going to buy durable goods from a company that’s in Chapter 11? Not too many. Goodbye Circuit City.
The other point of note here is that most companies use asset-based lines to buy product. That’s the sure ROI – you know it’s likely to sell. But early in 2013 Mr. Johnson announced that despite the precipitous drop in sales last year (I think the number is roughly -28%) the remodels would go forward funded by the asset-based line. Now THAT’s scary. It’s also a bad idea. It’s sort of like using your credit card to buy a car. The net? We know capital was an issue from the get-go, and only made worse by the far worse than expected sales drop in 2012.
No analysis of failure is complete without also following the egos. Mr. Johnson’s biggest backer was William Ackman of Pershing Capital, a large shareholder in JCP stock and a board member. Vanity Fair produced a pretty stunning article on Mr. Ackman at the end of February. Witness this quote from the article, attributed to Chapman Capital’s Robert Chapman: “If he jumped off a building in pursuit of super-human powered flight but then slammed to the ground, I’m pretty sure he’d blame the unanticipated and unfair force of gravity.” And Ron Johnson was Mr. Ackman’s guy. He may have given him far too much latitude for far too long. (A late note: When Mr. Ackman finally threw Mr. Johnson under the bus, he revealed that Mr. Johnson and his newly minted trusted advisors never moved to Dallas. They ran the company from Palo Alto, CA. Can you imagine laying off a third of the workforce, eliminating commissions, and changing almost everything about a business and not hanging around to re-shape the culture? I can't.)
And so Mr. Johnson exits and Mr. Myron (Mike) Ullman returns. When asked why I thought the company had picked him I replied (somewhat in jest), “Dinosaur riders are hard to find.” In other words, not too many people could really run a department store the size of JCP, and frankly, given its current situation, not too many who could, would. The cash position remains problematic. The customer remains confused. As one friend said to me “I expect they’ll be putting lovely house coats back in the women’s department now.” Mr. Ullman will have to act decisively and fast. He also has the luxury of being able to say “I told you so” – as from the beginning he counseled that this was Mr. Johnson’s first stint as CEO, and that’s a pretty tough job. He was right. I was wrong. #epicfail. There are those who don’t blame Mr. Johnson, or say that he just didn’t have enough time. Me, I think there was too much ego, not enough cash, and really, really bad execution.
And that’s my requiem for retail’s most recent heavyweight.
Postscript: On the evening of April 11, 2013 the Wall Street Journal announced that JCP was seeking a cash infusion of $1 billion. It is reaching out to Private Equity Firms. I suspect those carve-outs on that asset based line just got a LOT bigger. Requiem indeed.
