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Lessons to be learned from J.C. Penney's bounce back

Itis hard to imagine what the retail landscape will look like 20 years from now,but it is likely J.C. Penney will still be in the picture.

Thereare at least a couple of lessons from the department store chain's remarkable comebackover the last several quarters. First, the old-school value-oriented,coupon-driven retail model is a viable long-term business. And second, it ispossible to satisfy the desires of an older generation of shoppers whilecourting the millennial class.

J.C.Penney's renaissance is still a work in progress, and B-mall players of allstripes will continue to struggle to keep up with the quicksilver pace ofchange in the omnichannel paradigm. Nevertheless, the company has come a longway since its identity crisis in 2012.

"Iview J.C. Penney as a survivor in the long run," Mary Ross Gilbert,managing director with Imperial Capital, said in an interview. "We reallylike the company. We like what the management team has done ... and now we'restarting to see some good results."

Thedepartment store lost an estimated $5 billion in revenue and 20 millioncustomers when the company, under new leadership by former executive Ron Johnson, setin motion a plan of radical change that wound up alienating a significant chunkof its customer base.

"We'renot here to improve, we're here to transform," Johnson promised investorsat the outset of 2012. "We've got to change it all, and that's what we'regoing to do."

Thecompany, it later became apparent, needed a makeover, not a new identity. Inhis efforts to update J.C. Penney's product offerings and modernize itsoperations, Johnson lost sight of the department store's core strengths. Hesidelined private-label brands like St. John's Bay, Arizona Jean Co. and otherscustomers had come to love, and even altered popular fits, as he went aboutdismantling the store's coupon-oriented shopping architecture.

Themerchandise Johnson brought in didn't resonate, and many longtime customerswalked.

"Theywere designing for the weird New York crowd when that just didn't makesense," Cowen & Co. analyst Oliver Chen said in an interview."The sizes were too small and they actually put too many features in theproduct. ... This can happen in retail concepts. The customer is captive butunhappy, so they won't spend. And it's your job to fix it."

Notall of Johnson's efforts were for naught. Johnson improved the overall qualityof the stores' appearance, implemented new handheld technology on the salesfloor, and initiated a partnership with the cosmetics chain Sephora that now ishelping J.C. Penney rejuvenate itself in the right way.

"Whatthey've done is improve their assortments, and that's a constant process,"Imperial Capital's Ross Gilbert said. "They've also been offeringmerchandise that does appeal to a younger consumer — but they're doing it verymethodically. They're not making any sharp and aggressive moves."

Beautyis hot in retail at the moment. Product innovation is ongoing, and beautyproducts not only have shelf life, they attract a wide range of consumers,including the vaunted millennial generation. In J.C. Penney's case, Sephoraadds a level of prestige and has enabled the department store to reach anassortment of brands it otherwise would not be able to access.

Sephora,finally, has brought new customers to replenish the numbers J.C. Penney lost inthe flux, creating an opportunity to push comp-store sales.

"Wedon't expect them to recover the $5 billion of revenues that they lost, but wecertainly expect them to see a more significant recovery in the cash flows ofthe business," Ross Gilbert said.

"Everyyear we've been looking for a huge improvement, and we've been getting it."

Cowen'sChen figures J.C. Penney's customer base is about back to where it was prior to2012. The goal now is to push the 30% of Sephora customers that presently"convert" to broader J.C. customers to a higher plateau.

Chenin the interview gave high marks to management's reinvestment in J.C. Penney'sprivate-label brands, as well as its endeavor to curate a product assortmentappropriate for its customer base, improve in-stock levels and marketeffectively. J.C. Penney is a brand that inspires a level of trust, andmanagement should take advantage of that, Chen said.

"They'vedone a better job defining their core customer, which is the modern Americanmom. She earns about $60k, she shops for the whole family, she's multicultural,millennial and uses social media. The marketing has really worked in tandemwith that," he said.

Outsideof apparel, J.C. Penney has improved its appliance offerings and lowered theirprice points. In the children segment, where there had been too many brands attoo high a price, the company is streamlining operations. The company is alsoresetting its footwear offerings and updating its handbag presentation.

Insum, it is a back-to-basics strategy that Chen says allows J.C. Penney to be"true to itself" but in a fresh way. J.C. Penney's case is both acautionary tale and a potential blueprint for other value-oriented retailerslooking to update operations without alienating their core customer.

"Theirjob now is to increase revenue per customer," he said, "but at leastthey have these customers."