J.C. Penney Crushed On Liquidity Concerns

NEW YORK (TheStreet) - J.C. Penney (JCP) shares plunged more than 11% on Wednesday, hitting a 12-year low on liquidity concerns for the struggling department store chain.

Shares were falling 11.7% to $10.50 with more than 55 million shares changing hands in mid-Wednesday trading.

In a note released late Tuesday, Goldman Sachs (GS) credit analysts Kristen McDuffy and Ryan Gallant initiated coverage with an "underperform" rating on the company's 7.95% unsecured bonds that are due in 2017, its 5.65% notes due in 2020 and its 6.375% notes due in 2036.

"We recommend that investors buy 5-year CDS and also recommend a steepener, whereby investors sell 1-year CDS and by 5-year CDS," the September 24 note said. "Additionally, although we are comfortable with the collateral value at the top part of the structure, in our view, the company's term loan could experience downside if the company were to tap the debt markets for incremental liquidity. ... As a result we are waiting for a better entry point on the term loan."

J.C. Penney's credit default swaps, essentially an insurance policy protecting investors against the riskiness of a company's credit profile, were soaring to almost 1,100 basis points, according to Bloomberg.

The company couldn't be immediately reached for comment regarding a potential offering.

The Plano, Texas-based retailer, struggling to jumpstart a turnaround under the direction of CEO Mike Ullman, is said to be in discussions with hedge funds and other investors under the advisement of Goldman about additional fundraising options. Included in the range of possibilities is the company borrowing against its real estate holdings, Bloomberg said Friday.

"In our view a combination or weak fundamentals, inventory rebuilding and an underperforming home department will likely challenge J.C. Penney's liquidity levels in [the third quarter]," the Goldman note said. "In order to safeguard against a potentially poor [fourth quarter] holiday season, it is likely that management will look to build a bigger liquidity buffer, as has been suggested by recent press reports. Although we believe this would be a prudent measure for the company, given our expectation for new capital to come in the form of debt (rather than equity), we believe this will be a negative catalyst for creditors."

A key risk to Goldman's "underperform" rating is if the company is able to raise a "significant amount" of new capital in the equity markets, the analysts wrote.

Last month, the department store reported a worse-than-expected net loss of $586 million, or $2.66 a share, in a second quarter chock full of extraordinary charges that pulled the number down. Net sales slumped 12% year over year and gross margin fell to 29.6% in the quarter. The company said it plans to end the year with $1.5 billion in excess liquidity.

The dismal earnings results followed a very public battle with Pershing Square's Bill Ackman who sought to shake things up at board and executive level to speed up J.C. Penney's turnaround. Ultimately, Ackman lost that battle and resigned his board seat. Ackman announced on Aug. 27 plans to sell his entire 18% stake in J.C. Penney.

In the wake of the activist investor headache, J.C. Penney recently adopted a stockholder rights plan in hopes to make it more difficult for anyone to acquire or own more than 10% of the company.

Separately, Vornado Realty Trust (VNO)said earlier this month in a Securities and Exchange Commission filing that it sold its remaining stake in J.C. Penney.

Prior to the sale, Vornado owned 13.4 million shares, or 6.1% of J.C. Penney's stock, worth about $185 million.

-- Written by Laurie Kulikowski in New York.

Disclosure: TheStreet's editorial policy prohibits staff editors, reporters and analysts from holding positions in any individual stocks.

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