Penney margins fall on discounting

By Phil Wahba

NEW YORK (BestGrowthStock) – Discounting boosted quarterly sales at J.C. Penney Co Inc’s (JCP.N: ) department stores, but ate into margins, raising concerns about the company’s approach to win market share from rivals.

Shares of Penney fell nearly 3 percent even though it posted a higher-than-expected profit on Friday as its exclusive lines drew shoppers to its stores.

Sales at stores open at least a year rose 1.9 percent, their third straight quarter of growth, but the improvement was fueled by discounting.

“Penney’s is being promotional to drive the top-line, and really, I’m not quite sure that that’s such a successful strategy,” said FBR Capital Markets analyst Liz Dunn.

The results contrasted with those of smaller rival Dillard’s Inc (DDS.N: ), which has struggled to compete with larger department store chains.

Dillard’s reported a 1.5 percentage point increase in gross margin, benefiting from cost controls and lower inventory levels, which help reduce discounting [ID:nASA012CM].

Shares of Dillard’s jumped 11.2 percent to $31.25 in afternoon trading.

PRESSURE FROM ACKMAN

J.C. Penney is under pressure to show it can grow after activist investor William Ackman took a 16.5 percent stake last month and said he would discuss how to improve the company’s performance. Penney adopted an anti-takeover “poison pill” soon after.

Gross profit margin fell by 1.6 percentage points to 39 percent in the quarter, compared with a decline of 0.2 point at Macy’s Inc (M.N: ) and a rise of 0.5 point at Kohl’s Corp(KSS.N: ).

Macy’s has outperformed Penney in same-store sales this year as it has been able to woo middle class shoppers, while Penney customers are more exposed to the economy’s stagnation.

Penney said much of the margin erosion was caused by its decision to wind down its “Big Book” catalogs, which also dented overall sales during the quarter.

The company reported net income of $44 million, or 19 cents per share, for the third quarter ended on October 30, compared with $27 million, or 11 cents per share, a year earlier.

Analysts on average were expecting a profit of 17 cents per share, according to Thomson Reuters I/B/E/S.

Net sales rose just 0.2 percent to $4.19 billion. The results missed the analysts’ average estimate of $4.25 billion.

Excluding the effects of a pension plan expense, operating income represented 4.3 percent of sales — flat with a year earlier.

Penney shares were down 88 cents, or 2.7 percent to $31.34. Macy’s shares were up 0.6 percent, while Kohl’s were down 2.6 percent.

MORE DISCOUNTING ON THE WAY?

Penney forecast same-store sales will rise 3 percent to 4 percent during the crucial holiday quarter, echoing forecasts given earlier this week by Macy’s and Kohl’s.

The forecast came the same day that a survey showed consumer sentiment rose more than expected in early November.

But Chief Executive Officer Myron Ullman warned that the business environment was likely to remain “highly promotional,” and the company expects gross margins to be “modestly lower” than a year earlier.

Merchandise inventories were up 6.2 percent at the end of the quarter compared to a year earlier, raising the specter of Penney having to slash prices if it ends up getting stuck with merchandise it has trouble selling, especially given how tentative the economy is.

Ullman said on a call with analysts that the company wanted to avoid a repeat of last year, when it missed out on sales because it ran out of some items over the holidays.

But in a note to clients, J.P. Morgan analyst Charles Grom called that build-up “worrisome” and said Penney’s same-store sales forecast was ambitious.

(Reporting by Phil Wahba, editing by Gerald E. McCormick, John Wallace, Dave Zimmerman)

Penney margins fall on discounting