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The Science of Hitting
The Science of Hitting
Articles (456) 

J.C. Penney & Mickey Drexler

July 11, 2012 | About:

While the J.C. Penney (JCP) story continues to play out, I thought it would be interesting to take a look back on another retailer that underwent a drastic transformation to revive a dying brand: the Gap (GPS). In the early 1980s, the company was struggling after a decade of selling Levi’s; here’s how author Meryl Gordon described it in a 2005 New York Magazine article:

“Founded in 1969 and named for the generation gap, the company had gone public and expanded to 550 stores with sales of $480 million, but there were problems. Lots of other stores sold Levi’s [and were cutting prices to boot], and the Gap’s other merchandise was perceived as subpar. The company also had image problems…”

At the time, Gap’s founder Donald Fisher decided to handpick a young executive who had recently proven his retail prowess during a three-year transformation of Ann Taylor: his name was Millard "Mickey" Drexler. Upon his arrival as the president of Gap in December 1983, Mickey looked around him and got rid of anybody that he felt wasn’t up to the task at hand: “When you’re a CEO, you can’t wait. You’ve got to run a business to win, not just to lose; so I did the surgery.”

As noted in Ms. Gordon’s article, Mickey made drastic changes to completely reinvent the Gap brand from scratch [based upon the model of Brooks Brothers, which was less vulnerable to price wars than the department stores]: “He threw out everything and started fresh, giving all stores a top-to-bottom makeover and stocking them with simple, affordable, quality basics… Just as he would later do at J.Crew, Drexler set out to change everything. The first week on the job, he sent signs to the staff with one word printed on them: simplify.”

The first year was difficult: Net income fell 43%, likely drawing serious heat from investors (based on Google Finance, the stock fell roughly 60% from peak to trough in 1983-1984). Drexler later told Business Week, "We were all scared, and I was more scared than anyone the first year and a half." Despite his fears, Drexler’s explanation for such a change is simple: “You have to pay the big price.”

In the end, it all proved to be worth the short-term pain; as noted in New York Magazine, “Gap sales eventually exploded, the stock soared, and the board was delighted. 'Mickey got into everything', says Bowes [board member of the Gap for 21 years before retiring in 1997]. 'He pulled the merchandise together, the stores, he got into the advertising. He had that knack—he seemed to know what the public would want way before the public would know it.”

To say the stock soared is a bit of an understatement: In Drexler’s first full year at the company, earnings came in at 37 cents per share, with the stock trading between $4 and $6; two years later, the Gap earned $1.93 per share, with the stock registering as a ten bagger ($56 per share in May of 1987). By the time Drexler left the company, the shares had increased nearly 60 times, meaning that a $10,000 investment at the arrival of the already well-known successful retailer would have been worth $600,000 by the time he left the c-suite less than two decades later (that’s a compounded annual growth rate north of 24%).

The parallels between Gap in the early '80s and J.C. Penney in 2012 are striking, at least from my perspective. With August 1 just a few weeks away, the transformation at JCP is set to begin in a big way; I feel like I'm suffering from a case of deja vu.

About the author:

The Science of Hitting
I'm a value investor with a long-term focus. As it relates to portfolio construction, my goal is to make a small number of meaningful decisions a year. In the words of Charlie Munger, my preferred approach to investing is "patience followed by pretty aggressive conduct". I run a concentrated portfolio, with a handful of equities accounting for the majority of its value. In the eyes of a businessman, I believe this is sufficient diversification.

Rating: 3.9/5 (21 votes)


Wescileppi - 5 years ago    Report SPAM
Is Ackman going to lose another 90% of his investor's money????

Ramands123 - 5 years ago    Report SPAM

The good part about JC Penny Story is that price reflects a failure on strategy.

They don't need to do any thing spectular to achieve a very solid gain on stock price.

All they need to do is match Kohl's efficiency level and interior design's.

They already have very similar brands like Kohl's.

It trades at half the valuation of Kohls.

When you have one of the best investor with huge stake and a marketting guru at helm, i think they can atleast match Kohl on efficienies. Seems resonable to me.

The Science of Hitting
The Science of Hitting - 5 years ago    Report SPAM

Through Q1, the net return to Pershing Square investors has been 412% since inception (2004), compared to 50% for the S&P 500. Not sure what you mean by your comment, but a look at the fundamentals for JCP would result in a resounding NO; by the way, if you think that track record says something about Ackman's ability, remember that you can now buy JCP at 25% below his cost.


Agreed; the valuation is flat out idiotic at the current levels. I can't wait to see where this thing is trading at once the strategy is actually in place...

Becomingbuffett - 5 years ago    Report SPAM
Interesting commentary, Science. According to Capital IQ, JCP's tangible book value is $18.02 per share (as of 4/28). At Friday's close of $20.02, it would certainly seem the downside is limited. Ackman owns 17% of the company, and I would argue that Ron Johnson's reputation is now on the line. It will take time to turn things around, no doubt, but I like the odds here.
The Science of Hitting
The Science of Hitting - 5 years ago    Report SPAM

Why is Johnson's reputation on the line? More importantly, why does his reputation matter, particularly when his success or failure, as defined by people like the commentators on CNBC, is based upon the stock price on any given day? I'm not trying to be smug, I'm just interested in hearing why you think that is so and why it's relevant; thanks!
Becomingbuffett - 5 years ago    Report SPAM
I just meant that Ron Johnson's had tremendous success at Target and, of course, Apple. The turnaround at JCP, however, is off to a rocky start. I don't think he's going to rest until JCP is performing at a much higher level. (Ackman might have made things more difficult by setting expectations so high before Ron Johnson had even started.)

I don't care what the talking heads say. They're snickering and second guessing management. When the "street" writes a company off for lost, it doesn't take much to surprise to the upside.

Anyway, my point was just that I believe Johnson is highly motivated to keep at it until things have improved dramatically. If JCP implodes, many will question how much of Apple's retailing success was due to him after all. ("Look at the products he had to work with!") What's great, though, is that he doesn't have to be the "world's greatest retailer" for an investment in JCP to be profitable. At these levels, if they can just catch up with their peers the share price should climb.

The Science of Hitting
The Science of Hitting - 5 years ago    Report SPAM

Okay, now I understand what you're saying, and I agree with everything you just said 100%. Thanks for the great commentary!
Cogitator99 - 5 years ago    Report SPAM
Wescilepi meant the Target investment, which didn't pan out well for Ackman. I've sometimes wondered if this is a redemption play against that particular misstep.
The Science of Hitting
The Science of Hitting - 5 years ago    Report SPAM

This investment is nothing like Target, plain and simple...
Cogitator99 - 5 years ago    Report SPAM
I don't disagree with you there. This time he actually has control over what the company does. He has a handpicked CEO and a reliable partner in Roth. At the same time, this is a currently much weaker business than Target, so I think the risks are fairly high.

Reading through Ackman's comments in the latest Pershing letter, I get the sense that he doesn't think it will take much time for the market to revalue JCP...it sounded like he was counting on this year actually, when the results of the first new stores become clearer. On this point I probably disagree...it can conceivably take years to earn the respect.

I think JCP is a decent bet, but this is somewhat tempered by the observation that two sectors have "killed" value investors in recent memory: financials and retail.

The Science of Hitting
The Science of Hitting - 5 years ago    Report SPAM

Agreed on the timing; I think this Q will show that things got worse, not better - this will take some time to play out, particularly in a market that has watched this thing fall 50% from it's peak (most people equate that with risk).

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