Can a fading, old-line American retailer be rescued by the Internet?
Since the turn of the past century, when James Cash Penney opened his first department store in Kemmerer, Wyoming, J. C. Penney has been a fixture on small-town Main Street and in suburban shopping malls. For baby boomers growing up in the fifties and sixties, shopping for school clothes or holiday gifts at the local downtown Penney’s was an annual ritual. With a dominant position in the market and little competition, the Plano-based J. C. Penney Company prospered. But in recent years the company has fallen on hard times. Sales at its 1,100 locations (142 in Texas) have been flat for five years while more aggressive retailers like Wal-Mart, Target, and Kohl’s have been steadily growing. During last year’s fourth quarter, which saw the hottest holiday retail season in years, Penney’s retail and catalog profits fell 31 percent. Since 1998, the company has fired more than five thousand employees, closed or announced the closure of 120 stores, and watched its stock lose nearly three fourths of its value (from $50.65 on July 6, 1998, to $18.44 on July 3, 2000).But while the world looks bleaker and bleaker from the aging retailer’s sales counters, profits are now rolling in from a most unexpected place: the Internet. In spite of all of its other problems, so many customers are clicking down the virtual aisles of JCPenney.com that the company’s Internet sales hit $47 million in this year’s first quarter, up from $6 million a year ago. The company recently raised its forecast for this year’s Internet sales to $280 million from $260 million—more than double the $102 million in online sales in 1999. By 2003 the company expects its e-commerce business to hit the $1 billion mark. “Penney’s is doing it right on the Internet, which is a heck of a lot more than one can say about their department stores,” says Kurt Barnard of Barnard’s Retail Trend Report, which forecasts retail industry trends.
Ironically, the vast physical infrastructure that sometimes seems such a liability is suddenly a strength. Penney’s e-commerce has gotten a huge boost from its fourteen telemarketing centers, six giant distribution centers, and two thousand catalog desks in Penney’s stores and Eckerd drugstores (J. C. Penney acquired the chain in 1997), where customers can pick up or return merchandise purchased over the Internet.
Internet trade is just about the only thing that is going well for Vanessa Castagna, the former senior vice president of Wal-Mart Stores who was brought in last year as Penney’s chief operating officer as part of a massive effort to turn the aging company around. Though Castagna did not start the e-commerce unit, she has encouraged it and allowed it to stay independent, away from a culture often criticized as stodgy and stifling. “They got good people to run it, people who understand what the Internet is all about,” Barnard says. “The e-commerce operation was able to function independently and without any interference or influence from the brick-and-mortar fuddy-duddies.”
The Internet organization was formed in May 1998 and is run by 34-year-old Paul Pappajohn, who joined the company from WashingtonPost.Newsweek Interactive last November with a background not in retailing but in interactive technology. Late last year he set up shop in an office building in North Dallas miles away from Penney’s sprawling corporate campus in Plano. “It gives us some autonomy and a little bit more freedom to build and develop an Internet culture,” Pappajohn says.
Penney’s entrepreneurial approach has worked: According to Nielsen//NetRatings, during the holiday season last year, JCPenney.com ranked among the top ten e-commerce sites, with almost 5.9 million total visits. That puts it up in the e-tailing stratosphere with the likes of Amazon.com and eBay. Not only that, it was the only department store in the top ten. And while many retailers born on the Web still haven’t made any money there—trailblazer Amazon.com has racked up more than $1 billion in losses since it started six years ago—Pappajohn says the company’s Internet business is profitable (the company doesn’t break out those earnings). J. C. Penney is plowing much of that profit back into the business, investing $20 million to $25 million every quarter into e-shopping services such as Just4Me, its line of women’s large sizes, where shoppers can input their own measurements and create a virtual model to “try on” clothes and assemble entire outfits. Penney’s also has an auction page, which it set up to attract bargain hunters and unload overstocked items. There, merchandise sells for a fraction of the retail price. Open-toed sandals normally priced at $45 had high bids of $10 or $11. The most expensive item—a fourteen-karat gold necklace with a list price of $399.99—had a high bid of $110.
So is Penney’s future as a cataloger and online retailer rather than a brick-and-mortar merchant? It wants to be all three, actually, says Castagna. That’s because Penney’s sees synergies between the three retail channels: Customers who shop all three spend four times more than those who only shop in one channel. “The opportunity to be there for customers in all three channels is critical to the overall success of the company,” Pappajohn says.
Clearly, though, the company is having serious trouble revitalizing the other two. Since Castagna joined the company last August, Penney’s has closed underperforming stores, switched advertis- ing agencies, and instituted sweeping changes in the way it buys and displays merchandise. “This new vision and focus are nothing less than a fundamental shift in the way we do business and think about serving our customers,” Castagna said in a June speech to senior managers in the retail industry.
No one expects a quick fix. In the first quarter, J. C. Penney lost $118 million, in part because of the cost of closing JCPenney and Eckerd stores. (Penney’s has had to shut 289 Eckerd’s stores since its disastrous acquisition of that chain.) Though in May Penney’s same-store sales—a key indicator of a retailer’s business because they do not include sales from new or closed stores—improved by 1.1 percent, that was still well below much stronger gains posted by Wal-Mart, Sears, Federated Department Stores (which owns Macy’s), Kohl’s, and on the more expensive end, Neiman Marcus. In June, however, same-store sales fell 2.1 percent.
Penney’s must also swim upstream against prevailing retail trends, which are hammering retailers like Dillard’s, May Department Stores, and others that rely heavily on apparel sales. Barnard’s Retail Trend Report noted that in early 1998, a crucial change began taking place in the market: Consumers began spending more on their homes than on high-priced clothes. There are lots of reasons for that—changing demographics, the shift to casual workplace attire, the boom in home sales and construction, and the acceptability of buying off-price fashions (consider that today customers can buy Calvin Klein jeans at SAM’S Club wholesale warehouse stores).
What this means is that the retail pie for apparel sales isn’t getting bigger, it’s getting smaller. And that’s bad news for Penney’s. “The ownership of the slices is what’s changing,” Barnard says. “What we are dealing with is a shift in the destination locations where consumers flock to buy apparel.” And lots of those consumers are going online rather than making a trip to the mall. Even as its Internet business takes off, employees, investors, and Wall Street continue to wait to see who will lead J. C. Penney into the next century. Chairman and chief executive James E. Oesterreicher, who got much of the blame for Penney’s poor performance, announced in May that he would step down as soon as a replacement is hired. A search firm is still scouting for candidates, but the smart money is on Castagna to get the job. Even though other retailers and Wall Street praise her as an able leader, uncertainties loom. The huge drop in Penney’s market value in the past two years has left it vulnerable to a takeover attempt. Carl Icahn, who last made a run at Nabisco Group Holdings, indicated in a filing with federal regulators in May that he was buying Penney’s stock and that his stake could go as high as 15 percent. The New York financier will not disclose his plans, but his modus operandi in the past has been to wait until a company’s stock hits rock bottom, then buy in heavily.
Why would he want the fading giant? Perhaps just to break it into pieces, say analysts. J. C. Penney’s real estate holding alone would be worth a fortune. “It’s a company that is extremely asset-rich,” says Barnard. Which means that, in spite of their success with e-commerce, Penney’s managers are almost certainly running out of time.