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How to Make J.C. Penney Fashionable Again to Investors

NEW YORK (TheStreet) -- How did J.C. Penney (JPC) fall from riches to rags? It failed to adapt.

But there are ways for the company to turn itself around and become fashionable for investors again. Penney shares, at around $9, are down nearly 6% for the year to date. It has very high short interest, too.

First and foremost, Penney’s needs a niche. It already has the powerful brand and wide distribution channels. But it must differentiate itself from its competitors including Kohl's (KSS), Macy's (M), Target (T) and Wal-Mart (WMT). And for that it needs to do more data mining in order to attract shoppers on what they want rather than on what they need, all year round. It won't be easy.

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J.C. Penney should also find opportunities to decrease its cost of goods sold, or the cost of the materials used in creating the goods along with the direct labor costs used to produce them. Penney’s cost of goods sold has steadily increased over the years and now stands at 70%, noticeably higher than Macy's (59%) and Kohl's (63%).

The root cause of J.C. Penney's growing COGS is increased amounts of merchandise sold on clearance and its focus on non-value-added costs such as haircuts and photography. A high quantity of merchandise sold on clearance is a direct symptom of an inadequate demand planning process. When a company's cost of goods sold steadily increases year after year (4.6% in 2012 and 2.17% in 2013) because of clearance sales, something is obviously broken.

Another issue that J.C. Penney needs to address is its high SG&A costs relative to sales, encompassing 34% of total revenue compared to Macy's (30%) and Kohl's (21%). J.C. Penney's larger SG&A percentage of revenue is partially due to its declining sales coupled with the fact that SG&A is only a partially variable cost; it is more difficult to decrease SG&A than a fully variable cost such as the brand of shirts sold.

If Penney were able to increase its revenue by 32% to get back to its 2012 levels while only increasing SG&A by 2% then SG&A would run at 25% of current sales -- not an impossible scenario considering that Kohl's SG&A runs at 21% of sales.

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