J. C. Penney is the stuff of American business legend. Founded more than a century ago in a small Wyoming town by a man with a name tailor-made for retail—James Cash Penney—it built a reputation for quality and value, weathering the Great Depression and becoming one of the country’s preeminent department stores. The chain, which relocated to Plano in 1992, is the largest Texas-based retailer in the country. It has 1,100 stores nationwide, $13 billion in annual sales, and 116,000 employees. And it now teeters on the verge of financial ruin.

Rarely in the annals of American retail has there been such a swift and devastating collapse of a shopping icon. “Penney’s destroyed themselves,” says Howard Davidowitz, the chairman of Davidowitz & Associates, a national retail consulting and investment banking firm in New York. “You can’t recover from this.”

By “this,” Davidowitz is referring to four factors that have brought the company to the edge of bankruptcy: the collapse of the middle-market retail sector, the recent recession and anemic recovery, the ill-advised actions of an activist shareholder who was out of his element, and the cult of the celebrity chief executive. Penney likely could have survived one or two of these afflictions. But the combination of all four may prove to be more than the company can take; this holiday season is the most crucial in Penney’s 111-year history, and the outlook isn’t good.

The market for department stores has been eroding for two decades. Montgomery Ward is long gone, and so is Joske’s. Sears was bought by a private-equity guy who slapped it together with Kmart in what was seen as a retailing disaster until Penney redefined the term. Reflecting the hollowing out of America’s middle class and the increasing gap between the rich and the poor, the retail landscape is now dominated by high-end stores such as Bloomingdale’s and Nordstrom and discounters such as Target and Kohl’s. Discounters are the only ones showing much growth, especially Walmart, whose sales have grown by more than $20 billion a year since 2010. That’s like adding a company nearly the size of Macy’s annually. 

Penney doesn’t fit in either segment. It isn’t known for luxury goods, yet its image is too dignified for the company to slug it out among the discounters. The days of the big mall anchors are waning; younger shoppers favor smaller outlets with exotic, Europhile names like Aéropostale and Bebe. For many people, Penney is the place their mom took them for back-to-school clothes.

Despite such fierce competition, Penney was holding its own as recently as 2007. Under former Macy’s executive Myron Ullman, its share price reached a record high of $86.35. Sales were steady if not stellar, and while Penney still had the lowest sales per square foot of any department store chain, the company was gradually improving its merchandise by adding name brands such as Liz Claiborne to augment its private labels. “It was an underperformer, but it was taking the right steps,” Davidowitz says.

A year later, though, the financial crisis walloped the retail sector, and Penney’s shares plunged to $14.18 in early 2009. The depressed stock caught the attention of New York investor William Ackman, whose firm, Pershing Square Capital Management, snapped up an 18 percent stake and gained a board seat. Ackman is known for shaking up staid companies, but he had a spotty record in retail, having bet big on Borders in 2006 before the bookstore chain went bankrupt. At Penney he agitated for change, and it wasn’t long before Ullman was out, replaced amid much fanfare by Ron Johnson, the former head of Apple’s retail stores. Penney’s shares jumped $5 in a single day. 

Activist investors such as Ackman can force companies to engage in various tactics to boost shareholder value, but there’s a difference between calling for management changes and actually running the business, especially in an industry as fickle as retail. In Penney’s case, Ackman’s acumen failed him. 

Johnson took over in late 2011, and the company’s stock soon reached $43.13 as investors anticipated how he would Apple-ize Penney. The company’s board joined in the euphoria, showering him with a $53 million pay package for his first few months on the job. Penney’s directors weren’t the first to be dazzled by a celebrity CEO. Boards of struggling companies are quick to seek an outside savior, and some executives cater to their desperation, portraying themselves as turnaround wizards. Though they rarely do more than fatten their own wallets, the myth of the celebrity CEO persists. Home Depot, for example, hired General Electric superstar Robert Nardelli in 2000 and paid him $20 million to $30 million annually. Six years in, it handed him $210 million to leave after he failed to halt the company’s sagging stock price or its loss of market share to Lowe’s. 

Johnson was more than just a celebrity CEO. He was billed as a visionary who could offer Penney something it had never had: cool. He had rubbed shoulders with Steve Jobs, who turned Apple into the world’s most valuable company. To bring the same magic to Penney, Johnson quickly scaled back in-house brands like St. John’s Bay in favor of higher-priced, name-brand apparel. Apple had created a fanatical following by never discounting its products, and Johnson enacted a similar approach at Penney. He eliminated promotions of any kind—no more holiday bargains, no more white sales, no more coupons; employees weren’t even supposed to use the word “sale.” 

If Apple stores have their Genius Bar, then Penney would have its “Jean-ius Bar,” as one blog called it: Levi’s Denim Bar, where “fit specialists” helped jeans shoppers sort through 11 cuts and 88 finishes. To round out the hipster makeover, Penney began referring to itself by its stock symbol—jcp—with lowercase letters for added coolness, like the “i” in iPhone.   

It might have worked if J. C. Penney hadn’t been, well, J. C. Penney. Johnson’s vision fit in at Penney about as well as foie gras would fit in at a NASCAR concession stand. Jobs may have succeeded by assuming that computer buyers didn’t know what they wanted until he gave it to them, but the same wasn’t true for people buying underwear and dress shirts. Penney shoppers were put off by the inherent snootiness of fit specialists, and they were angered by the higher prices. 

Johnson had ignored the failures of Penney’s peers. The no-coupon tactic, for example, had been tried by Macy’s after it bought May Department Stores, in 2005. May, whose outlets were concentrated in the middle of the country, used frequent promotions, such as the Red Apple Sale at its Foley’s division. When those regular promotions disappeared, customers turned away. Macy’s quickly reinstated the sales and coupons. That outcome wasn’t a surprise. Over the years, mall shoppers have been conditioned to wait for frequent sales. Penney may have a reputation for value, but “value” in the mind of most shoppers is 20 percent off whatever the regular price may be. Johnson, though, was so convinced that customers would forsake sales and embrace exclusivity and hipness that he went all in on his strategy without bothering to test it in a few select markets, as most retailers would have done when rolling out such a major overhaul. 

Then there was Martha. In 2011, as Johnson sought to boost the exclusivity of Penney’s merchandising mix, he began wooing America’s homemaking felon, Martha Stewart. In a case of one celebrity CEO falling for another, Stewart accepted Johnson’s offer to sell some of her products in Penney stores, even though her company already had an exclusive agreement with Macy’s. All three companies were quickly drawn into a nasty and expensive legal battle, which Johnson must have known would happen. Yet he inexplicably pushed ahead with the deal anyway.

As Johnson’s strategy was turning off customers, his management style was angering employees. He brought in a cadre of loyal executives, some of whom disparaged longtime workers as “DOPEs”—“dumb old Penney employees.” And rather than relocate to Plano, Johnson commuted from California, while his president, Michael Francis, set up shop in Minneapolis. 

By the spring of 2012, Johnson’s strategy was failing miserably. Penney’s sales had tumbled by 20 percent, and the company began cutting jobs. On May 15 it reported a $163 million quarterly loss, and the next day the stock plunged below $27. Still, Johnson argued for patience, insisting it would take customers a while to appreciate the new strategy.

Many felt sure the appreciation would never come. As losses kept mounting, sales slumped another 27 percent, much worse than Wall Street had expected. Johnson agreed to email customers $10 coupons, but his belief in his own genius never wavered. By last March, with shares sliding below $15, big investors began dumping the stock at a loss.  

Something had to be done. In April Penney’s board finally saw through Johnson’s Apple sheen and fired him, bringing back Ullman to run the company once again. Ackman soon resigned from the board, selling his 39 million shares for about half what he paid for them. 

Ullman set about reassuring the market, but he had few choices. Typically a retailer facing such persistent sales declines would shutter poorly performing stores to reduce expenses, but Penney felt compelled to trade away that option. Just weeks after his return, Ullman used the company’s real estate as collateral to secure a $1.75 billion credit line from Goldman Sachs. The loan was anything but a vote of confidence. Five months later Goldman’s own credit analysts advised clients to buy Penney’s credit default swaps, essentially encouraging them to bet that the retailer would go bankrupt. 

Ullman has been reversing almost everything his predecessor did. He reinstated marketing promotions with a vengeance; this holiday season the company advertised “doorbuster” sales. He restored in-house brands, downplayed the denim bars, and tried to rejuvenate the notions of quality and value that James Cash Penney instilled a century ago. In the fall, Penney and Stewart scaled back their agreement in an attempt to appease Macy’s, which had the upper hand in the lawsuit. 

But the damage has been done. Penney has paid out some $236 million in executive pay, bonuses, stock awards, and severance packages for the Johnson era, with nothing to show for it—except $5 billion in lost market value and 43,000 employees tossed on the unemployment line. Those employees who remain are desperately working to save the company. Store managers have been given authority to do what they must in local markets to win back customers, and company-wide pep rallies—a Penney mainstay that disappeared under Johnson—have returned. Positive attitudes, though, may not be enough. The ranks of experienced executives have been depleted, customers have been alienated, and suppliers have grown nervous. And in November—just after the company reported a staggering loss of $489 million over the previous three months—Penney was delisted from the S&P 500, where it has been since the index was founded, in 1957. This will hurt the company’s stock even more, as many index funds will now have to sell their holdings. A Penney bankruptcy could leave millions of square feet vacant in shopping malls across the country, and a company that has clothed generations of Americans could disappear.

“They destroyed an American icon in a short period of time for no rational reason,” Davidowitz says. “It is a very bad story. I think the worst is yet to come.” 

Loren Steffy, a former business columnist for the Houston Chronicle, is a senior writer for the communications firm 30 Point Strategies and a contributor to Forbes.