J.C. Penney Company Co. saw its stock rise by over 3 percent to $9.96 after getting an upgrade from Fitch Ratings.
The midmarket department chain is in turnaround mode after the company reported a strong quarter of earnings last week. Fitch upgraded the Issuer Default Ratings (IDR’s) to ‘B’ from ‘B-.’ The rating outlook is positive.
One of the main reasons Fitch made the move was that it believes Penney’s is on its way to earning $1 billion. Fitch wrote in its upgrade statement, “J.C. Penney Company, Inc. (J.C. Penney) has demonstrated a meaningful turnaround in its business over the last two years and Fitch expects the company to generate [Earnings before interest, taxes, depreciation and amortization] of approximately $950 million in 2016 (which adds back approximately $45 million in noncash stock-based comp) versus a better than expected $750 million in 2015.”
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Fitch also expects J.C. Penney to sustain comparable-store sales growth in the 2 percent to 3 percent range during 2016 and 2017. This would be particularly notable if that beats the industry average of a 2 percent decline. Fitch noted that Penney’s investments in Sephora, home-related categories, private brands and omnichannel had helped business. Online is expected to contribute at least half of the comps growth, but store momentum is continuing.
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Fitch also praised Penney’s for its improvement in gross margin, which rose to 36 percent in 2015. The ratings company wrote, “Fitch expects gross margin to improve modestly and expects SG&A reduction in the $50 million to $100 million range in 2016 as the company continues to rightsize its cost structure to a $13 billion to $14 billion top-line, relative to $17 billion-plus in 2011.”
The retailer was free cash-flow positive by $120 million in 2015, better than Fitch’s break-even expectation. Fitch expects Penney’s to be free cash-flow positive by $200 million in 2016 and approach $300 million in 2017. If Penney’s can bring in this level of cash, it could address some of the unsecured debt and refinance its $2.2 billion term loan.
Penney’s could see additional positive ratings action if it accomplishes the comps growth, gets earnings up to $1 billion, pays down debt and refinances the term loan. Fitch warned that it could take the rating back down if the comps and margin trends stall.