Soon after both Macy’s (M) and Kohl’s (KSS) reported negative holiday sales comparisons of greater than 2%, J.C. Penney (JCP) became the next retail name to disappoint investors and analysts alike.

J.C. Penney Company, Inc. announced that its comparable store sales for the combined nine-week November and December period resulted in a (0.8) percent decline over the same period last year, which equates to a 3.1 percent positive two-year stack of comparable store sales for the same time period. The Company also reaffirmed its full-year EBITDA1 target of $1 billion for fiscal 2016.

J.C. Penney blamed a reasonable portion of its underwhelming sales performance on its women’s apparel sales. This makes it the second consecutive quarter whereby women’s apparel sales either fell or were below the total comp sales performance. 

Earlier in 2016 I had went long shares of JCP at roughly $8.90 a share in the Q2 period. As shares dropped in price to $8.50 I hedged with a short position and rode the short down to $7.80 a share before covering. Fortunately, shares of JCP rallied back to $8.90 where I closed out my long position at a “wash”, while capturing a nice profit on my hedge. I’ve continued to trade JCP since then and recently got out of a long position above $10 a share. A little bit of luck I must admit. But more importantly, my reasoning for discontinuing a long position in JCP was due to their underperforming results with respect to the company’s issued guidance. 

After J.C. Penney missed its Q1 2016 sales forecast, I realized the company had greater issues than was being recognized by the CEO or his executive team. In my article J.C. Penney Shares Fall Back Into 'Show Me' Status, I outlined a cautious view of J.C. Penney and shares of JCP for investors to consider. My commentary below, served to raise caution on the retailer with great concern surrounding their varied initiatives to combat waning sales.

In this recap of J.C. Penney's Q1 2016 results, I would like to suggest to readers and investors that J. C. Penney initiatives are just that, initiatives. These ongoing changes come with risks and as such should be considered with greater thought and/or analysis. Be it an expansion of appliances to 500 stores or the inclusion of Empire flooring products, the Home department is generally thought of as the department where consumption "dies".

Unfortunately, over the next couple of quarters J.C. Penney continued to disappoint with its sales performance. In Q2, the company met analysts’ expectations while missing sales expectations in the Q3 2016 period.One of the very main reasons the company missed its sales guidance in the Q3 period was related to the exact initiatives offered in my prior analytical reporting, the expansion of appliances to some 500 stores.On the Q3 conference call with investors and analysts, management noted the space and time accommodations necessary to complete this project did impact sales. Management noted the departments surrounding the appliance build-out also suffered.  After the retailer maintained its sales comp expectations during its Q2 earnings release and missing its Q3 sales guidance, the executive team finally realized they needed to trim the comp sales forecast for 2016 from 3-4% growth to a meager 1-2% comp sales growth.With the company achieving roughly 4% comp sales growth for several quarters, the laws of large numbers have caught up with the department store retailer.But it’s not just the law of large numbers that will likely create a headwind for the retailer going forward. 

Quite clearly, the retail environment and consumer spending habits continue to evolve and lend themselves more favorably to digital sales growth.While most retailers are combatting this trend with heavy investments dedicated to their digital sales platform, it’s simply not enough to offset the declines from where the greatest amount of sales are found waning, brick and mortar store fronts.When we review the latest monthly retail sales data we come to find that department store retailers like J.C. Penney, Target (TGT), Macy’s Kohl’s and the like are continuing to experience weakness while e-commerce sales continue to outperform. 

The table above displays very clearly that MoM, department store retail sales fell .2%, but it gets much worse. The YOY data shows that department store retail sales fell 6.4 percent. This has largely been the trend throughout 2016 whereby as a collective group, department store retailers are finding negative sales growth. Nonstore retail sales/e-commerce, however, grew .1% MoM while growing 11.9% YOY in the latest reported period. The positive trend reported for Nonstore retail sales has been the trend for many years.

The issues displayed in J.C. Penney holiday sales’ update beg for greater reported results that will come in February as companies report Q4 2016 results and issue 2017 guidance. J.C. Penney’s CEO has offered a great many excuses throughout 2016 for missing sales forecasts and while maintaining its EBITDA forecast of $1bn.It’s often easier to achieve a profit forecast, even while exhibiting slower sales performance due to continued cost cutting measures and asset sales.It was announced shortly after the New Year that J.C. Penney had sold its home offices and surrounding land in Plano, Texas. While the company noted the monies from the sale would go to pay down debt, the omission of taking some of these monies to include in profit performance should be understood. 

While I can appreciate the numerous initiatives J.C. Penney has put forth to combat and offset some of its underwhelming sales performance that proliferated in 2016, the vast majority still rely on getting consumers into the store. With a previous forecast for Q4 sales comps to increase 2-5% and displaying negative November through December comps as reported, lower foot traffic YOY will have likely been a problem during the Q4 period. 

As we pivot our retail strategy towards these and other non-weather sensitive categories, we expect the strength in performance from these initiatives will help drive our fourth quarter comp store sales performance to be in the range of approximately 2% to 5%.  

The reason I highlight the sales issue using the company’s forecast and metric performance is to juxtapose it with the initiatives in place, especially those related to the inclusion of Empire Flooring and the appliance business build-out. Secondly, look how extremely poorly the CEO and his team misjudged the potential for holiday sales and likely sales for the totality of the quarter. It borders on gross negligence.  

The appliance business is a terrible business, one littered with examples of bankrupt and struggling retailers like Sears Holding Corp. (SHLD), hhgregg (HGG), Best Buy (BBY) and others.With apparel gross margins garnering upwards of 75%, to dedicate retail selling space to high dollar products like appliances, but at margins that might achieve 25% has always been a losing retail strategy long-term. In fact, that is why there are very few examples of a long-term appliance specialty retailer. As a jumping off point, the dollar value from the sales of small appliances can move the needle for J.C. Penney sales, but only with respect to where the greater portion of its sales is performing well.In other words, if apparel sales fall, appliance sales have no ability whatsoever to fill the gap.The example is a mirror image of why growth in e-commerce sales for many retailers can’t fill the gap from their brick and mortar shortcomings. 

J.C. Penney’s CEO has been misunderstanding the retail environment and consumer spending habits for much of his short tenure at J.C. Penney when we review the sales results to date.After purchasing shares of JCP earlier in 2016, the CEO had recently been a seller of shares at higher prices than where shares closed last week. Like CEO’s for J.C. Penney over the last 4 years, Mr. Ellison is making a number of changes to the retailer’s operation, assortment, balance sheet and all with the hope for a better outcome.What Mr. Ellison may have to compete with in 2017 is the realization of peak J.C. Penney performance.There is nothing on the horizon that suggests consumption habits will change.With J.C. Penney pulling so many levers in previous years to turn the retailer around and now finding themselves with a disappointing sales trend of slowing sales growth, outright sales declines may ensue in the coming quarters.The history for retailers exhibiting the same trend in sales growth deceleration as J.C. Penney has always found imminent sales declines. 

The situation gets worse when an investor reviews J. C. Penney’s balance sheet. The debt load the company is carrying when juxtaposed to current profit forecasts is quite concerning.With 21% of the share float held with short interest, a good many investors believe that JCP will find a lower valuation, which is definitively being represented in the current trading price.Shares of JCP, since briefly rallying after releasing disappointing Q3 2016 results, have been in steady decline.At the close of trading on January 6, 2017, shares of JCP closed at their lowest level since May of 2016.It will be interesting to see what J.C. Penney’s CEO has to offer for investors regarding 2017 when the company releases its FY16 results next month.