J. C. Penney CEO Jill Soltau. Source: Barron’s
The coronavirus has led to social distancing, which has led to millions of people being out of work. Most of their purchases are now being done online. J. C. Penney’s (JCP) revenue has fallen sharply amid the pandemic. Chatter suggests the company could consider filing bankruptcy:
J.C. Penney Co Inc is exploring filing for bankruptcy protection after the coronavirus pandemic forced the U.S. retailer to temporarily shut its 850 department stores, upending its turnaround plans, according to people familiar with the matter.
The Plano, Texas-based company has access to enough cash to survive in the months ahead, even as revenue dries up because of the store closures, the sources said. Still, the company is contemplating a bankruptcy filing as one way to rework its unsustainable finances and save money on looming debt payments, which include significant annual interest expenses, the sources added.
The retailer is reportedly talking to Alix Partners about ways to shore up its liquidity. J. C. Penney recently closed its stores to help stem the spread of the coronavirus. The company also drew down $1.25 billion on its revolver to help sustain itself until the pandemic subsides. J. C. Penney and other retailers must rely on digital sales while millions of Americans are shut in. The company’s nascent online platform could make it extremely difficult to generate any revenue while stores are closed.
J. C. Penney was facing headwinds prior to the pandemic. In its most-recent quarter, the company generated revenue of $3.5 billion, down 8% Y/Y. Comparable sales fell 7%, implying sales through brick and mortar were lagging. Gross profit was flat, while EBITDA was off by double-digits. Given closed stores, the company’s EBITDA and cash flow could free-fall.
At the end of its most-recent quarter, J. C. Penney had debt of $3.7 billion at 6.5x last 12 months EBITDA of $569 million. The draw-down on the revolver would put its debt load at around $5.0 billion or 8.8x LTM EBITDA. Its $386 million in cash seems like a lot. However, compared to its near-term contractual obligations, J. C. Penney’s cash looks paltry. The following chart estimates the company’s contractual obligations:
- J. C. Penney incurred $293 million in interest expense during its most-recent fiscal year. I assumed the company would pay a similar amount this fiscal year. The company recently entered into a 30-day grace period to make interest payments (about $12 million) due on senior notes. This suggests J. C. Penney is already struggling to service debt.
- Current maturities of long-term debt are $147 million.
- Merchandise accounts payable and other accounts payable total $1.8 billion. J. C. Penney also has a merchandise inventory of $2.2 billion. If sales are way off due to store closings, then this inventory could become stale or hard to move.
- A $2.2 billion investment in inventory with no end-buyer could cause liquidity strain. This likely explains why management reached out to Alix Partners for help.
I estimate the company has over $2.0 billion in contractual obligations due within a year or shortly thereafter.
The Bell Tolls
Management has to decide soon how it will address its cascading capital calls. Raising more debt could be untenable. To borrow against inventory would imply that these assets still have value and/or they can be sold in a reasonable amount of time. With J.C. Penny’s nascent digital platform, the company is likely struggling to compete online. Store closings could lead to a rapid erosion of the current revenue base.
It is uncertain when customers will return en masse to the company. It could make more debt – in addition to its current mountain of debt – untenable. J. C. Penney has an equity market capitalization of about $75 million; its equity is practically worthless. The most practical course of action appears to be a bankruptcy filing where the creditors control the lion’s share of the equity. This would practically wipe out existing shareholders.
The end appears near. Sell JCP.
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