Initiate on JCP with a U: Looking for cash in the nameSeptember 24, 2013 J.C. Penney Company Goldman...

September 24, 2013

COMPANY UPDATE J.C. Penney Company

Underperform Credit Research

Initiate on JCP with a U: Looking for cash in the name

Recommendation

We initiate on JCP’s 7.95% unsecured bonds due 2017, its 5.65% notes due

2020, and its 6.375% notes due 2036 with an Underperform rating. We

recommend that investors buy 5-year CDS, and also recommend a

steepener, whereby investors sell 1-yr CDS and buy 5-yr CDS. Additionally,

although we are comfortable with the collateral value at the top part of the

structure, in our view, the company’s term loan could experience downside

if the company were to tap the debt markets for incremental liquidity as

discussed below. As a result, we are waiting for a better entry point on the

term loan. JCP is now in our HY coverage.

Recent developments

In our view, a combination of weak fundamentals, inventory rebuilding,

and an underperforming home department will likely challenge J.C.

Penney’s liquidity levels in 3Q. In order to safeguard against a potentially

poor 4Q holiday season, it is likely that management will look to build a

bigger liquidity buffer, as has been suggested by recent press reports.

Although we believe this would be a prudent measure for the company,

given our expectation for new capital to come in the form of additional

debt (rather than equity), we believe this will be a negative catalyst for

creditors.

Key risks to our view

The key risk to our Underperform rating is if the company raises a

significant amount of new capital in the equity markets. Additionally, if J.C.

Penney is able to demonstrate any notable traction in its turnaround story

we think bonds and CDS would tighten.

RETAIL - HY

COVERAGE VIEW: ATTRACTIVE

Benchmark Security

Kristen McDuffy (212) 357-6157 [email protected] Goldman, Sachs & Co. Investors should consider this report as only a single factor in

making their investment decision. For Reg AC certification and other important disclosures, see the Disclosure Appendix, or go to www.gs.com/research/hedge.html.

Ryan Gallant, CFA (212) 357-7875 [email protected] Goldman, Sachs & Co.

The Goldman Sachs Group, Inc. Global Investment Research

Ticker GS Rating Rating Coupon Ranking Maturity Size Mid‐price YTW OAS

JCP U Caa2/CCC‐ 7.950 Unsecured 4/1/2017 285 91.75 10.84% 1,001

JCP U Caa2/CCC‐ 5.650 Unsecured 6/1/2020 400 78.250 10.22% 835

JCP U Caa2/CCC‐ 6.375 Unsecured 10/15/2036 400 71.250 9.46% 649

1‐year 4.125 pt

2‐year 8.25 pt

3‐year 11.75 pt

4‐year 14.625 pt

5‐year 17.75 pt

7‐year 21.625 pt

CDS

September 24, 2013 J.C. Penney Company

Goldman Sachs Global Investment Research 2

Initiate with Underperform; recommend investors buy 5-year CDS

We initiate on JCP’s 7.95% unsecured bonds due 2017, its 5.65% notes due 2020, and its

6.375% notes due 2036 with an Underperform rating. Although we are comfortable with

the collateral value at the top part of the structure, in our view, the term loan could

experience downside if the company were to tap the debt markets for incremental liquidity

as discussed below. We recommend that investors buy 5-year CDS, and also recommend a

steepener, whereby investors sell 1-yr CDS and buy 5-yr CDS. In regard to the term loan,

we are waiting for a better entry point.

In our view, a combination of weak fundamentals, inventory rebuilding, and an

underperforming home department will likely challenge J.C. Penney’s liquidity levels in 3Q.

In order to safeguard against a potentially poor 4Q holiday season, it is likely that

management will look to build a bigger liquidity buffer, as has been suggested by recent

press reports. Although we believe this would be a prudent measure for the company,

given our expectation for new capital to come in the form of additional debt (rather than

equity), we believe this will be a negative catalyst for creditors. We expect 3Q and 4Q to be

difficult, with comp store sales likely showing a slower-than-expected improvement, and

for the general retail environment to remain challenging, increasing the risk of a poor

holiday season that the company can ill afford. As a result, we think that the next step for

the company’s debt is more likely to be wider than tighter.

Exhibit 1: We think that 5-year CDS will push out to its wides again

Source: Goldman Sachs Global Investment Research

With this as a backdrop, we recommend investors put on a steepener (sell 1-year CDS and

buy 5-year CDS), based on the view that the company has some liquidity triggers available

that should enable it to extend its life, but that it will continue to encounter a difficult

fundamental backdrop within which to effect a turnaround. Liquidity triggers (discussed in

more detail in the next section) include:

Sell fringe land (est. value: $100mn)

Sell tire, battery, and automotive locations (est. value $115-135mn)

Sell mall partnership interests (est. value $100-150mn)

Tap debt markets for $500mn of incremental second lien bank loan or bonds (est.

value $500mn)

Raise equity (up to $1bn)

600

700

800

900

1000

1100

1200

1300



Monetize portion of its below-market leases (up to $400mn)

As shown in Exhibit 2, JCP’s curve is the flattest of the distressed retailers that have CDS.

In our opinion a steepener is best expressed by selling 1y protection at 3.75pts upfront and

buying 5y protection at 18.5pts.

Exhibit 2: We think that JCP’s curve should be steeper because of its liquidity triggers bp


Finally, although we believe handicapping a bankruptcy filing for JCP is premature, we do

believe that understanding likely recovery values in the event of a bankruptcy is an

important exercise. To that end, we view the term loan as the safest liquid instrument in

the capital structure given our base case of a par recovery. We expect recovery on the

unsecured bonds to range from 47-65%. However, under the scenario where the company

issues $500mn of incremental secured debt, the recovery range would fall to 35-54%. We

provide a full recovery waterfall later in this report.

Relative value is in-line for term loan; expect bonds to be event-

driven

In Exhibit 3, we compare JCP’s secured term loan to other term loans in the space that are

secured by real estate. As discussed in a later section of this report, we think that JCP’s real

estate collateral offers ample coverage for the loan. However, we are looking for a better

entry point. We think that JCP’s term loan could see near-term weakness if the company

were to issue a 2nd lien bond with a pledge on the ABL collateral. At a price (ask) of $98.5,

the JCP term loan yields 6.4%. This compares to the Toy Delaware term loan, which trades

at $96.5 and yields 6.1% and Toy’s Propco I unsecured term loan, which trades at par and

yields 6%. We think it is appropriate for JCP to trade wide to Toy Delaware and Propco, and

think this relationship could widen slightly. Although we acknowledge that JCP has some

liquidity triggers at its disposal we think that JCP would likely encounter liquidity

difficulties prior to TOY (Toy still generates positive free cash flow).

400

500

600

700

800

900

1000

1100

1200

1300

1400

1y 2y 3y 4y 5y 7y 10y

JCP RSH SRAC



Exhibit 3: Looking for better entry point on JCP term loan; but we think collateral value

should provide firm foundation $, mn

(1)The term loan allows $500mn of incremental ABL facility; this would have a lien on ABL collateral, not term loan collateral. (2) The Propco I term loan is unsecured. The term loan benefits from a negative pledge on all PropCo I real estate assets. We include the value of Propco I’s real estate values as collateral because in our view, this value would first go to the Propco I term loan. The valuation is based on market rent, as opposed to Master Lease rent (master lease rent is above market value). (3) Incremental is the amount by which 65% of the appraised value exceeds the initial term loans made on closing. (4) Toys Delaware contains 100 owned/ground-leased properties that we estimate are valued at about $500mn. We then assign the incremental value of Toys Propco II (our valuation of $925mn minus $718mn of debt). The remainder of the Toy Delaware valuation would be based on the equity value of the business. (5) Includes pledge of Save-a-lot stock. Source: Goldman Sachs Global Investment Research

Exhibit 4 shows JCP bonds relative to other troubled retail peers. Given that JCP has had

negative EBITDA, and significantly negative comp store sales trends, we believe relative

value to be of limited use in forming an investment decision. In our view, trading levels will

continue to be volatile and we believe near-term upside/downside is best analyzed on an

event-driven basis.

JCP TOY Propco I TOY Delaware SVU

Description

Coupon L+500bp L+500bp L+375bp L+400bp

LIBOR Floor 100 floor 100 floor 150 floor 100 floor

Face value 2,250$ 985$ 388$ 1,496$

Maturity 5/22/2018 8/21/2019 5/25/2018 3/21/2019

Call protection 2‐yr 2‐yr None 6‐mos

Call protection px 102,101 102,101 NA 101

Credit ratings B2/B‐ B3/B+ B2/B+ B1/B+

Credit Statistics

Gross lev through layer NM 4.3x 3.5x 2.7x

Amount of pari debt 2,250$ 985$ 1,646$ 1,500$

Collateral Value 3,249$ 1,509$ (2) 707$ 2,250$

LTV 69% 65% 233% (4) 67% (5)

Description of Collateral

Collateral property count 327 331 100 NA

Sq. Footage (mn) 59.3 16.0 NA NA

$/square foot valuation 54.8$ 94.1$ NA NA

Covenant assessment

Maintenance covs None None None None

Ability to layer at 1st lien ‐ (1) $50 mn plus (3) ‐ Up to $250mn

incremental if below 2.5x net

1st lien leverage

Trading levels

Price(ask) 98.5 99.9 96.5 100.4

YTM(ask) 6.38% 6.02% 6.12% 4.92%

Term Loans



Exhibit 4: JCP trades wide to most of its troubled retail peers

Source: Bloomberg

Company has liquidity levers left; expect 2nd lien issuance

Liquidity likely to be tight at end of 3Q

We expect the company to burn in excess of $300mn of cash from inventory investment in

3Q as it rebuilds its private label inventories, which would bring the company closer to

what we view as a minimum threshold for cash for JCP: $500mn. Management indicated at

the end of 2Q that they were approximately halfway through the process of rebuilding their

inventory. For 3Q, we estimate comparable store sales of -3% and gross margins of 30%.

This, combined with capital expenditures of $200mn, would cause cash to fall to $755 from

$1.535bn at the end of 2Q, as shown in Exhibit 5. Looking ahead, we forecast gradual

improvement in comparable store sales. Even in this scenario, liquidity again becomes

challenged in 3Q2014. As a result, we expect the company to raise incremental capital

through a number of potential liquidity levers to keep liquidity at acceptable levels over the

next twelve months.

Exhibit 5: We expect cash levels to drop to ~$750mn at end of 3Q

$ mn


Amt

Security Moody's S&P $, mn Maturity Px Mid YTW OAS

Radioshack 6.75% Unsecured Notes Caa2 CCC 325 5/15/2019 76.8 12.64 1,110

JCPenney 7.95% Unsecured Notes Caa2 CCC- 285 4/1/2017 91.8 10.84 1,001

Toy's 10.375% Unsecured Notes Caa1 CCC+ 450 8/15/2017 97.4 11.22 1,028

Toy's 7.375% Unsecured Notes Caa1 CCC+ 400 10/15/2018 87.0 10.78 940

Gymboree 9.125% Unsecured Notes Caa2 CCC 371 12/1/2018 99.1 9.34 790

JCPenney 5.65% Unsecured Notes Caa2 CCC- 400 6/1/2020 78.3 10.22 835

JCPenney 6.375% Unsecured Notes Caa2 CCC- 400 10/15/2036 71.3 9.46 649

Rating

10/26/13 2/1/14 2/1/14 5/3/14 8/2/14 11/1/14 1/31/15 1/31/15

Projections 3Q:13E 4Q:13E FY:13E 1Q:14E 2Q:14E 3Q:14E 4Q:14E FY:14E

Sales 2,702 3,928 11,928 2,747 2,751 2,810 4,045 12,354

Comp store sales -7% 2% -8% 5% 4% 4% 3% 4%

EBITDA (212) (77) (785) (20) (6) (6) 168 136

Gross Margin 30.5% 30.0% 30.2% 35.0% 35.0% 35.0% 35.0% 35.0%

Interest (91) (91) (338) (91) (91) (91) (91) (363)

Cash taxes 49 27 164 13 10 11 (11) 23

Working Capital (326) 740 (429) (13) (85) (117) 542 326

Capex (200) (150) (1,003) (75) (75) (75) (75) (300)

Free cash flow (780) 449 (2,391) (186) (247) (278) 533 (178)

Cash 755 1,204 1,204 1,018 771 492 1,025 1,025

ABL availability 312 312 312 312 312 312 312 312

Liquidity 1,067 1,516 1,516 1,330 1,083 804 1,337 1,337



A number of levers to pull

While J.C. Penney pledged the vast majority of its real estate assets to its term loan, it still

has some liquidity levers left. Additionally, in fiscal 2012, the company incurred a federal

net operating loss (NOL) of $1.5 billion of which approximately $284mn was carried back.

The remaining $1.2 billion carry-forward (expiring between 2013 and 2032) is available to

offset future taxable income. As a result, the tax implications of any asset sales should not

be onerous. Below we provide a list of potential triggers divided between “simple” levers

and those that would likely prove more complicated.

“Simple” liquidity triggers

1. Sell fringe land (est. value: $100mn): JCP owns 240 acres of vacant land

surrounding its headquarters in Plano Texas. This fringe land is not part of the

term loan’s collateral package. In 2011, when JCP began marketing the land,

the Collins County Appraisal District appraised it at $150 million. Given that

JCP has not yet sold the land, it is possible that its actual market value may be

below appraisal value. We assume a 30% haircut and estimate potential

proceeds of $100mn. We note that the credit agreement allows JCP to

contribute fringe land to a joint venture for the purpose of developing it. As a

result, JCP may choose to develop the land to garner a higher value; therefore

it is not clear that monetization of fringe land is a near-term liquidity lever.

2. Tire, Battery, and automotive locations (est. value: $115-135mn); J.C.

Penney owns 30 tire, battery, and automotive locations that are not pledged as

collateral. Assuming an average store size consistent with history, the square

footage of these locations would total 2.5-3.0mn. Assuming a valuation of

$45/square foot (JCP’s assets have a lit appraisal value of $55-60/square foot)

translates to $115-135mn valuation.

3. Regional mall partnership units (est. value: $100-150mn); J.C. Penney

owns 8 regional mall partnerships that they could monetize. Last year, they

sold one for $65 million. The company has not provided information about

where the mall partnerships are located.

4. Issuing an additional $500mn of bank loan or bonds ($500mn); The

company’s ABL has a $400mn accordion. Its bank loan has a carve-out for

$500mn of “debt issued under the ABL credit agreement”. The company

would have the ability to issue new debt with a second lien on the inventory

that comes ahead of the term loan but behind the ABL. We think that it would

be difficult for the company to issue incremental ABL because its current ABL

has a clause that could require the company to reprice its existing ABL,

making it a costly option.

“More complicated” liquidity triggers

5. Monetizing under-market leases (est. value: $400mn): One of JCP’s key

assets is its under-market value leases. It leases a total of 673 stores, a

significant percentage of which have below-market rents. On average, its

leased properties have a remaining lease term, including all extension options,

of 22 years. Cushman & Wakefield value the company’s below-market leases

at $417mn for the top leased stores (331 properties with 41mn square feet).

This equates to a valuation of $10.29/square foot. If the company were to see

that comp store sales are not improving at the rate that it expects, it could exit

some of these leases to raise cash proceeds.

6. Equity raise (est. value: up to $1 bn); According to Bloomberg, JCP’s top

five equity holders own almost 50% of its equity. If equity holders are

confident that JCP can re-attract its customer base, they may be willing to



commit more capital in the form of backstopping a rights offering, a

convertible, or an outright incremental equity offering. We’ve listed these in

order of our view of probability.

Debt issuance secured by ABL collateral appears most probable

From the list above, the most impactful options for the company would be to issue

additional debt, monetize under-market leases, or raise equity. We believe JCP’s under-

market leases are a significant competitive advantage for the company and as a result, we

would expect management to save this for a “last resort” scenario. With respect to an

equity raise, we believe this is a viable option given the consolidated nature of JCP’s equity

ownership. However, with equity trading near 10-year lows, management likely views this

as an expensive option and would prefer to pull this lever on the back of positive

operational traction.

As a result, we conclude that secured debt is the most likely near-term liquidity lever for

the company. Although unsecured issuance is possible, with outstanding debt trading at

double-digit yields, it is unlikely that the company would be able to issue at palatable levels.

This leaves us with secured debt as the most likely liquidity lever for the company near-

term. Here the company’s options are limited by the term loan credit agreement. Our

reading of the credit agreement suggests that the only available carve-out for secured debt

that is raised for the purpose of putting cash on the balance sheet is a carve-out for

indebtedness under the ABL credit agreement up to $2.35bn. This provides the company

with room for an additional $500mn of ABL debt. Although the ABL credit agreement

provides for a $400mn accordion, our understanding of the covenants suggests that the

company would need to re-price the entire ABL to take advantage of this. As a result, we

believe it is most likely that the company would issue a 2nd-lien instrument backed by ABL

collateral.

Additionally, we believe the company could issue this paper with a guarantee (junior to the

guarantee that these subsidiaries provide to the term loan and ABL) from JCPenney

Properties (where $2.225bn of real estate value sits). This would provide the new debt with

a more senior claim on residual real estate value vs. the unsecured bonds, which do not

have subsidiary guarantees.

We see risks to unsecured recovery; bank loans likely recover par

Based on our recovery analysis, JCP’s bank loan and ABL would recover par (plus post-

petition interest) under each scenario and its unsecured bonds would recover 47-65%

under two of three scenarios, and 15% under a full scale liquidation, which we view as

unlikely. The scenarios are discussed on page 9.



Exhibit 6: Our analysis yields recovery of 47-65% for senior notes and par for bank loans


However if the company were to issue bonds that have a 2nd lien on inventory, our waterfall

suggests that this would reduce unsecured recovery by 11-12pts, leading to an estimated

recovery of 35-54% under Scenario 1 and 2. If the JCP were also to grant new debt an

unsecured guarantee on its guarantor subs, it could reduce the recovery potentially more.

Because the real estate collateral is sufficient to cover the bank loans in most cases (except

dark value appraisal), the pledge of second lien on inventory is less onerous to the bank

loan than to the unsecured bonds. In terms of the bank loan, $3.2 billion of assets are

pledged to cover $2.25bn of term loan. The collateral value would have to fall by $950mn,

or approximately 30% before the term loan recovery even relied upon inventory value.

As shown in Exhibit 7, the bank loans are issued by J.C. Penney Corporation Inc., and are

guaranteed on a senior secured basis by J.C. Penney Purchasing Corporation, JCP Real

Estate Holdings, Inc., and J.C. Penney Properties, Inc. The company’s unsecured bonds are

co-issued by J.C. Penney Corporation, Inc. (OpCo), and J.C. Penny Company Inc. (Holdings)

and have no subsidiary guarantees.

A few key notes about the collateral that formed the basis of our recovery analysis:

JCP has a total of 439 owned and ground-leased properties. Of these, 379

properties are part of the collateral package for the term loans. The remaining 60

properties are not included in the collateral package because of the limitation on

liens language contained in the bond indenture (the 1994 indenture governs all of

JCP’s bonds now that the 2023 bonds were tendered for). Of the 379 properties

contained in the term loan collateral package, only 327 stores are mortgaged

because the stores have a fair market value of less than $2mn and are not required

to be mortgaged. In our recovery analysis we considered 112 properties (439-327)

to be unpledged assets.

The term loan and ABL have secured guarantees from subsidiaries of OpCo and

the unsecured bondholders do not have guarantees. Therefore, the collateral value

of properties at JCP’s subsidiaries would first go to the secured term loan and ABL

and second to the unsecured claims. Approximately 19% of the unpledged assets

reside at JCPenney Properties.

Term loan and ABL have an unsecured claim on unpledged assets at JCPenney

Corporation, Inc. Approximately 81% of unpledged assets are located at this OpCo.

We do not think that JCPenney could transfer properties out of JCPenney

Corporation, Inc., down to the subsidiaries that guarantee the term loan as a

workaround to the negative pledge clause of the unsecured bonds. First, the

limitations on sale and lease-back transactions state that the company may not

enter into a sale and leaseback transaction for Principal Property except for

transactions between the OpCo and a Restricted Subsidiary, unless it is entitled to

Summary Recovery % Scenario 1 Scenario 2 Scenario 3

Probability High Medium Low

ABL 100% 100% 100%

Term Loan 100% 100% 100%

Unsecured 65% 47% 13%

Scenario 1: Going concern with no DIP

Scenario 2: Going concern with DIP

Scenario 3: Liquidation and no capacity for DIP



under the limitations on liens provision, or unless it uses proceeds to pay down

the debt securities. The subsidiaries of OpCo are not restricted subsidiaries

pursuant to the unsecured indenture, and therefore would not benefit from the

exception. Second, we think it likely that a simple asset sale of the properties from

OpCo to a guarantor subsidiary would trigger the “all or substantially all”

provision in the asset sale covenant contained in the 1994 indenture.

Exhibit 7: J.C. Penney Corporate Structure

(1)J.C. Penney’s term loan collateral consists of 379 sites. Of these, only 327 are mortgaged because the remaining 52 owned and ground-leased stores have a fair market value of less than $2 mn and are not required to be mortgaged. Source: Company filings

No independent assets or operations

Issuer of all JCP unsecured bonds (co‐obligor with Opco)

OwnershipCount

(#)

Appraised

Value (mn) Issuer of ABL

Owned 72 $708 $1.75 billion senior secured term loan due 2018

Ground‐Leased 31 $266 Issuer of all JCP unsecured bonds (co‐obligor with Holdings)

Total 103 $974

Mortgaged(1) 37 $322

*Also owns home office

Immaterial

Subsidiaries

Guarantees & stock

pledges for $2.25 bn

Ownership Count (#)Appraised

Value (mn)term loan due 2018

Owned 234 $1,929

Ground‐Leased 89 $395

Total 323 $2,324

Mortgaged(1) 280 $2,225

Ownership Count (#)Appraised

Value (mn)

Owned 10 $762

Mortgaged(1) 10 $698

* Home office owned by JCP Corp., Inc

Distribution Centers & Home Office*

JCPenney Company, Inc.

(Holdings)

JCPenney Corporation, Inc.

(OpCo)

Issuer of Term Loan, ABL

Guarantor of Term Loan and ABL

Term Loan Guarantor

ABL Guarantor

Bond Issuer

JCPenney Properties,

Inc.

ABL Guarantor

Stores at J.C. Penney Corporation, Inc.*

Stores at J.C. Penney Properties, Inc.

Term Loan Guarantor

Term Loan Guarantor

ABL Guarantor

JCPenney Purchasing

Corporation

JCP Real Estate

Holdings, Inc.

Bond Issuer



We considered three scenarios in estimating the recovery values for JCP debt:

Scenario #1: Going concern with no DIP loan. In this hypothetical scenario, we postulate

that CEO Ullman could choose to file the company earlier than absolutely necessary given

a higher level objectivity (he was brought in to fix an existing problem). However, under a

scenario where traffic, conversion, and margins do not improve, and cash levels fall below

what we view as a $500mn minimum threshold, if he has already pulled the “simple”

liquidity triggers, it is possible he may file it and restructure it as a going concern. This

scenario assumes that he files the company with $450 million of cash on its balance sheet

and a fully drawn ABL (minus $125mn because if ABL availability falls below this level JCP

becomes subject to a 1.0x fixed charge covenant requirement). Because of the cash on its

balance sheet, we assume that the company files without a DIP loan. We think it is most

likely that JCP would operate as a going concern if it were to restructure. Generally, the

most important factor in identifying retailers who have reorganized as a going concern has

been their ability to access new capital (rights offerings, new debt put in place at

emergence). Many of the retailers that liquidated did so in the tight credit years of 2008-

2009, which are not representative of current market conditions. Our recovery waterfall for

Scenario 1 is detailed in Exhibit 8 below.

Scenario #2: Going concern with DIP loan. In this hypothetical scenario, we examine

the scenario where CEO Ullman runs cash down to minimal levels in hopes that he can

save the company with a longer liquidity runway. Because of these minimum cash levels, a

DIP would be needed to fund working capital needs and other expenses. We postulated

that the company would need an $800mn DIP. In this scenario, the term loan is still not

garnering any of its par recovery value from its 2nd lien on inventory. Please see Exhibit 9

for our recovery waterfall for Scenario 2.

Scenario #3: Liquidation and no capacity for DIP: In this hypothetical scenario we

assume that the company files when cash levels fall to $500 million but that it is a

liquidation scenario. Because we are using dark store appraisal values, the company does

not have capacity for a DIP (any DIP would result in the impairment of the term loan and

ABL). Given our view that JCP would continue as a going concern, we think this scenario is

the least likely of the three scenarios, and give it little weight in our ultimate assessment of

unsecured recovery values. Please see Exhibit 10 for our recovery waterfall for Scenario 3.



Exhibit 8: Scenario 1: Going concern with no DIP Hypothetical scenario: CEO faces little reputational risk from filing earlier than absolutely necessary. His first goal is to rescue

JCP but if fundamentals do not improve in the intermediate term, he may file it when cash is above minimum levels.

Source: Goldman Sachs Global Investment Research, Company filings

$, millionLit Appraised

ValueComments

Estimated cash at time of filing 450 ABL and term loan do not have pledges of cash

DIP - Admin claims 214

Pro forma cash 236

Mortgaged Collateral (327 properties, 59.3 mn sq ft) 3,249 Based on Cushman & Wakefield appraisal (works out to $55/sq ft)Unpledged Assets (112 properties, 13.4 mn sq ft)) 836 Based on Cushman & Wakefield appraisal (works out to $62/sq ft)Liquidation value of inventory (LTM inventory is $2.798 bn) 2,366 75% of $3 billionTop leased stores (331 properties, 40.6 million sq feet) 417 $10.29/square foot Remaining leased stores (342 properties, 14.8 mn sq feet) 57 These are properties that either had market rents or low value b/c of location. We assumed $4/sq. footValue of trademarks (Arizona, St. John's Bay etc.) 250 St. John's Bay and Arizona have historically generated $2.5bn of revenue; private label margin is 40%

Total valuation 7,117 If we had assigned $5/square foot it would have been worth ~$74 mn.

Collateral value of unpledged assets segmented by subsidiaryJCPenney Properties Inc. 163 ~19% of unpledged assets at JCPenney Properties Inc., which bank loan will have first claim on.JCPenney Corporation 673 ~81% of unpledged assets at JCPenney Corporation where bank loan has unsecured claim

Total 836

Collateral value of leased assets segmented by subsidiary Apply haircut to the leased store valuation (50%) 237 In some cases, a lease will allow the tenant to sub-let when they file for bankruptcy. JCPenney Properties Inc. 45 We do not know specific terms of JCP leases.JCPenney Corporation 192 Assumes same split as the unpledged assets

Total 192 Lease analysisLTM annual rent payments 296 Annual rent payment 300 % leases rejected 50% Assume they reject 50% of their leasesOne year's rent on rejected leases 150 Estimate 15% of amounts remaining due under lease 216 Estimate based on information in 10-K on "Contractual Obligations and Commitments"

Landlord's claim (unsecured) 216 Landlord's claim is greater of 1 year's rent or 15% of amounts remaining due under the lease (this amount not to exceed 3 years)

Accounts payable analysisAP as of 8/3/13 1,276 Days payable outstanding 54 This indicates that on average, JCP is taking 50 days to pay supplier, suggesting fewer AP <20 days% of AP with admin claims 5% Assume 5% of AP were delivered in 20 day-period prior to filing Est. admin claims from trade creditors 64 Est. unsecured claims from trade creditors 1,212 ClaimsAdmin claimsTrade claims 64 Admin expense status allowed for value of any goods received by the debtor within 20 days of a filing.Other expenses 150

Total 214

Secured claimsABL 1,725 Assumes fully draw revolver (but leave $125 mn to avoid the 1.0x fixed charge requirement)Term Loan 2,250

Total 3,975

Unsecured claimsLandlord's claim 216 Bonds 2,623 Trade claims that didn't meet criteria for admin claim status 1,212 Other AP and Accrued 542 gift cards, taxes, occupance and rent-related, interest, curent portion of retirement plan liabilitiesSecured claims in excess of collateral - Pension - We assume that neither JCP nor the PBGC will seek to terminate the pension plan

Total 4,593 As of 2012, its primary & post-retirement plans were underfunded by $7mn and $18mn, respectivelyRecovery calculationsRecovery $ ABL (assumes $1.725 bn claim)Inventory 1,725 First claim on inventoryPledged collateral - ABL does not have lien on collateralUnpledged collateral at Guarantor subs - ABL has subsidiary guaranteesValue from leased assets at Guarantor subs - ABL has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claim

Recovery % ABL 100%Leftover inventory value 641

Recovery $ term loan ($2.250 bn claim)Pledged collateral 2,250 Trademarks - No recovery necessary from trademarksInventory (leftover after ABL) - No recovery necessary from inventory (TL has 2nd lien on inventory/receivables) Unpledged collateral at guarantor subs - TL has subsidiary guaranteesValue from leased assets at Guarantor subs - TL has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claimTotal 2,250 Recovery % of term loan 100%Leftover collateral 999

Recovery % of Unsecured claimsAvailable collateral

Inventory value 641 Pledged collateral value 999 Trademarks 250 Unpledged collateral value at guarantor subs 163 Unpledged collateral value at JCP Corp 673 Value from leased assets at Guarantor Subs 45 Value from leased assets at JCP Corp. 192

Total Available Collateral 2,963 Recovery % of Unsecured claims 65%

Collateral value (JCP has 439 owned/ground-leased properties. 52 are in collateral package but do not have perfected liens. 60 properties are not included in the collateral package because of the limitation on liens constraints in the indenture governing the senior unsecured bonds.



Exhibit 9: Scenario 2: Going concern with DIP

Hypothetical scenario: CEO thinks he can turn the company with more time. He runs cash down to minimum, but company

remains a going concern.


$, millionLit Appraised

ValueComments


DIP 800 DIP allowed so long as secured holders have adequate protection. Sized DIP based on this, plus historical working capital swings in 1st three quarters of year

Admin claims 212

Pro forma cash (12)

Mortgaged Collateral (327 properties, 59.3 mn sq ft) 3,249 Based on Cushman & Wakefield appraisal (works out to $55/sq ft)Unpledged Assets (112 properties, 13.4 mn sq ft)) 836 Based on Cushman & Wakefield appraisal (works out to $62/sq ft)Liquidation value of inventory (LTM inventory is $2.798 bn) 2,100 75% of $3 billionTop leased stores (331 properties, 40.6 million square feet) 417 Works out to $10.29/square foot (Cushman & Wakefield appraisal)Remaining leased stores (342 properties, 14.8 mn square feet) 57 These are properties that either had market rents or low value b/c of location. We assumed $4/sq. footValue of brands (Arizona, St. John's Bay etc.) 250 St. John's Bay and Arizona have historically generated $2.5bn of revenue; private label margin is 40%


Collateral value of unpledged assets segmented by subsidiaryJCPenney Properties Inc. 163 ~19% of unpledged assets at JCPenney Properties Inc., which bank loan will have first claim on.JCPenney Corporation 673 ~81% of unpledged collateral is at JCPenney Corporation where bank loan has unsecured claim

Total 836

Collateral value of leased assets segmented by subsidiary Apply haircut to the leased store valuation (50%) 237 In some cases, a lease will allow the tenant to sub-let when they file for bankruptcy. JCPenney Properties Inc. 45 We do not know specific terms of JCP leases.JCPenney Corporation 192 Assumes same split as the unpledged assets; cross checked it with section 4.13 disclosure (70%/30%)

Total 192 Lease analysisLTM annual rent payments 296 Annual rent payment 300 % leases rejected 50%One year's rent on rejected leases 150 Estimate 15% of amounts remaining due under lease 216 Estimate based on information in 10-K on "Contractual Obligations and Commitments"


Accounts payable analysisAP as of 5/4/13 1,248 Days payable outstanding 50 This indicates that on average, JCP is taking 50 days to pay supplier, suggesting some of AP >20 days% of AP with admin claims 5% Assume 5% of AP were delivered in 20 day-period prior to filing Est. admin claims from trade creditors 62 Est. unsecured claims from trade creditors 1,186 ClaimsAdmin claimsTrade claims 62 Admin expense status allowed for value of any goods received by the debtor within 20 days of a filing.Other expenses 150

Total 212


Total 3,975

Unsecured claimsLandlord's claim 216 Bonds 2,623 Trade claims that didn't meet criteria for admin claim status 1,186

Secured claims in excess of collateral - Pension - We assume that neither JCP nor the PBGC will seek to terminate the pension plan

Total 4,024 As of 2012, its primary & post-retirement plans were underfunded by $7mn and $18mn, respectivelyRecovery calculationsRecovery $ ABL (assumes $1.725 bn claim)Inventory 1,300 First claim on inventoryPledged collateral 425 ABL has 2nd lien on collateralUnpledged collateral at Guarantor subs - ABL has subsidiary guaranteesValue from leased assets at Guarantor subs - ABL has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claim


Recovery $ term loan ($2.250 bn claim)Pledged collateral 2,250 Trademarks - No recovery necessary from trademarksInventory (leftover after ABL) - Term loan has 2nd lien on inventory and receivablesUnpledged collateral at guarantor subs - Term loan has subsidiary guaranteesValue from leased assets at Guarantor subs - Term loan has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claimTotal 2,250 Recovery % of term loan 100%Leftover collateral 999


Inventory value - Pledged collateral value 574 Trademarks 250 Unpledged collateral value at guarantor subs 163 Unpledged collateral value at JCP Corp 673 Value from leased assets at Guarantor Subs 45 Value from leased assets at JCP Corp. 192

Total Available Collateral 1,897 Recovery % of Unsecured claims 47%




Exhibit 10: Scenario 3: Liquidation and no capacity for DIP Hypothetical scenario: CEO files the company with minimum cash and JCP liquidates


$, millionDark Appraised

ValueComments


DIP -

Admin claims 212

Pro forma cash 288

Mortgaged Collateral (327 properties, 59.3 mn sq ft) 1,729 Based on Cushman & Wakefield appraisal (works out to $29/sq ft)Unpledged Assets (112 properties, 13.4 mn sq ft)) 474 Based on Cushman & Wakefield appraisal (works out to $35/sq ft)Liquidation value of inventory (LTM inventory is $2.798 bn) 2,100 75% of $3 billionTop leased stores (331 properties, 40.6 million square feet) - Assumes that in a liquidation company does not sub-let properties for incomeRemaining leased stores (342 properties, 14.8 mn square feet) - Assumes that in a liquidation company does not sub-let properties for incomeValue of brands (Arizona, St. John's Bay etc.) 250 St. John's Bay and Arizona have historically generated $2.5bn of revenue; private label margin is 40%


Collateral value of unpledged assets segmented by subsidiaryJCPenney Properties Inc. 90 ~19% of unpledged assets at JCPenney Properties Inc., which bank loan will have first claim on.JCPenney Corporation 384 ~81% of unpledged collateral is at JCPenney Corporation where bank loan has unsecured claim

Total 474

Collateral value of leased assets segmented by subsidiary Apply haircut to the leased store valuation (50%) - JCPenney Properties Inc. - JCPenney Corporation -

Total - Lease analysisLTM annual rent payments 296 Annual rent payment 300 % leases rejected 100%One year's rent on rejected leases 300 Estimate 15% of amounts remaining due under lease 431 Estimate based on information in 10-K on "Contractual Obligations and Commitments"


Accounts payable analysisAP as of 5/4/13 1,248 Days payable outstanding 50 This indicates that on average, JCP is taking 50 days to pay supplier, suggesting some of AP >20 days% of AP with admin claims 5% Assume 5% of AP were delivered in 20 day-period prior to filing (to stress unsecured recovery)Est. admin claims from trade creditors 62 Est. unsecured claims from trade creditors 1,186 ClaimsAdmin claimsTrade claims 62 Admin expense status allowed for value of any goods received by the debtor within 20 days of a filing.Other expenses 150

Total 212


Total 3,975

Unsecured claimsLandlord's claim 431 Bonds 2,623 Trade claims that didn't meet criteria for admin claim status 1,186

Secured claims in excess of collateral 56 Pension - We assume that neither JCP nor the PBGC will seek to terminate the pension plan

Total 4,296 As of 2012, its primary & post-retirement plans were underfunded by $7mn and $18mn, respectivelyRecovery calculationsRecovery $ ABL (assumes $1.725 bn claim)Inventory 1,725 First claim on inventoryPledged collateral - ABL has 2nd lien on collateralUnpledged collateral at Guarantor subs - ABL has subsidiary guaranteesValue from leased assets at Guarantor subs - ABL has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claim


Recovery $ term loan ($2.250 bn claim)Pledged collateral 1,729 Trademarks 55 No recovery necessary from trademarksInventory (leftover after ABL) 375 Term loan has 2nd lien on inventory and receivablesUnpledged collateral at guarantor subs 90 Term loan has subsidiary guaranteesValue from leased assets at Guarantor subs - Term loan has subsidiary guaranteesValue from collateral at JCP Corp. - This would be an unsecured claimTotal 2,249 Recovery % of term loan 100.0%Leftover collateral -


Inventory value - Pledged collateral value - Trademarks 195 Unpledged collateral value at guarantor subs - Unpledged collateral value at JCP Corp 384 Value from leased assets at Guarantor Subs - Value from leased assets at JCP Corp. -

Total Available Collateral 579 Recovery % of Unsecured claims 13%




Company overview

In 2011, Ron Johnson was hired as CEO of J.C. Penney on the promise of revitalizing a 110-

year old promotional department store whose sales had been stagnating. Mr. Johnson

embarked on a transformative strategy that included switching from deep discounts to an

everyday low price, dividing square footage into a number of “shops”, and re-

merchandising toward a more modern assortment of branded products at the expense of

the company’s private brands. The result was a precipitous decline in same store sales and

EBITDA (illustrated in Exhibits 11 and 12) as the new strategy alienated current shoppers

and proved unsuccessful in attracting new customers.

Exhibit 11: Quarterly comp store sales plummeted in

2012 % chg yoy

Exhibit 12: 2Q was 4th consecutive quarter of neg. EBITDA

$, mn

Source: Company data

Source: Company data

By the end of 2012, JCP’s board and investors had lost faith in Mr. Johnson’s vision and

brought back his predecessor, Mike Ullman, to stabilize the company. Mr. Ullman has

focused on pivoting back toward the company’s legacy of promotions and coupons as well

as rebuilding inventory in basics and private label products. Although the company has

demonstrated a sequential improvement in comparable store sales, the company burned

approximately $2bn of cash over the first two quarters of 2013. This has led to concern

among investors who have begun to question the company’s ability to bring back its

former customers and whether enough of a liquidity runway exists to provide a path

toward stability.

Strengths

Emphasis on private label helps to drive traffic and customer loyalty

J.C. Penney’s private brands and attractions are a key differentiator given the similarity in

national brand offerings among competitors. CEO Mike Ullman has described private

product development as a “core competency” and key gross profit driver for J.C. Penney,

which uses its private labels as a promotional driver and a tool to increase store traffic.

JCP’s private brands include The Original Arizona Jean Co., St. John’s Bay, Liz Claiborne,

Worthington, Stafford, a.n.a, and Xersion. In the past, both St. John’s Bay and Arizona

generated over $1 billion of revenue. Current management attributes much of the lost sales

in 2012 to the de-emphasis of private label offerings as core customers were unable to find

what they were looking for.

‐35%

‐30%

‐25%

‐20%

‐15%

‐10%

‐5%

0%

5%

10%

15%

1Q:10 1Q:11 1Q:12 1Q:13

Comparable Store Sales

$(400)

$(200)

$‐

$200

$400

$600

$800

1Q:10 1Q:11 1Q:12 1Q:13

Adjusted EBITDA



As shown in Exhibit 13, JCP emphasizes its private label business more than most of its

competitors. In 2012, private labels and exclusive products accounted for 53% of the

company’s total sales, which was closely trailed by Kohl’s at 52%, but well above Macy’s

and Dillard’s at ~20%. Despite the higher promotional frequency for private label items,

JCP’s private label margins are generally 100-200bp above national brands, and have the

highest sales productivity.

Exhibit 13: JCP emphasizes private label more than competitors

Source: Company filings

Beyond private labels, the company currently has several partnerships in place that allow

them to offer unique and/or exclusive products (attractions). Sephora has been one of

Penney’s great success stories and is now in over 450 stores. The fact that this largely non-

promotional, higher price point concept was able to post an increase in sales last year

despite a 17% drop in store traffic speaks to the strength of the brand. MNG by Mango

provides JCP with the unique opportunity to offer fast fashion within its stores. More

recently the company introduced the Canadian brand Joe Fresh, and Happy Chic by

Jonathan Adler. These attractions are meant to bring an aspirational element to the

customer’s shopping experience, and to potentially draw a younger demographic into

JCP’s stores. The company plans to introduce products by Disney, Carter’s, and Giggle in

coming months.

Slimmed down cost structure provides operational leverage

Ron Johnson and his team identified $900 million of run-rate cost savings opportunities at

JCP, citing wasted advertising spend, and a bloated/bureaucratic operating structure. Of

this amount, $400mn came out of its stores (mostly in non-customer facing activities);

$350mn came out of its home office; and $150mn related to a more efficient use of its

marketing spend. In 2012, SG&A costs declined by approximately $600mn. As shown in

Exhibit 14, this reduction did not keep pace with declining sales and the SG&A expense

ratio climbed from 29.6% of sales in 2011 to 34.7% in 2012.

A large portion of the $400 million in store-level cost saves mentioned above was related to

the elimination of employee hours that were dedicated to continually re-ticketing items. As

JCP transitions back to a more promotional strategy, SG&A costs will likely creep up.

However, should the company achieve positive comps we anticipate a strong tailwind from

increased operating leverage.

JCP 53%

Kohl's 52%

Target 33%

Dillard's 22%

Macy's 20%

Bon‐Ton 20%

Belk 17%

CompanyPrivate Label

(% of sales)



Exhibit 14: SG&A cuts offer prospect of operational leverage

Source: Company filings, Goldman Sachs Global Investment Research

Broad physical and brand presence in the consumer landscape

J.C. Penney has been around for over 110 years; very few retailers can lay claim to even

half of this longevity. Generally speaking, the company’s target consumer has been

familiar with J.C. Penney their entire lives and according to the company, nearly half of the

families in the United States shop at their stores each year. As a result, customers have

very ingrained expectations from the company. This is a big reason why 2012’s reinvention

failed, but we’d argue that this familiarity should also make it easier to win back lost

customers.

Weaknesses

Macy’s litigation

On August 16, 2012, Macy’s filed sued J.C. Penney alleging that JCP tortuously interfered

with and engaged in unfair competition relating to a 2006 agreement between Macy’s and

Martha Stewart Living Omnimedia, Inc. Macy’s is seeking to prevent JCP’s partnership with

Martha Stewart Living for products in the bedding, bath, kitchen and cookware categories.

The case is being tried in the Supreme Court of the State of New York, and closing

arguments were held on August 1, 2013. The court has not yet issued a final decision in the

case. In our view there are 4 potential outcomes:

1. The court rules that JCP may not sell Martha Stewart living products in the above-

mentioned categories and mandates that JCP liquidate its inventory of Martha

Stewart Living home goods in short order. These goods are currently being sold as

JCPenney Everyday merchandise.

2. The court rules that JCP may not sell the disputed Martha Stewart products but

allows the company time to piece out of its current inventory.

3. The court rules that JCP is allowed to proceed with its Martha Stewart contract.

4. Any derivation of #1 and #2 plus punitive damages.

0%

5%

10%

15%

20%

25%

30%

35%

40%

‐

5,000

10,000

15,000

20,000

25,000

FY:06 FY:07 FY:08 FY:09 FY:10 FY:11 FY:12

$, m

illions

SG&A as % of sales Net Sales SG&A Expenses

Sales ‐25%

SG&A ‐12%



We can’t predict the outcome of litigation in our view option 2 appears the most likely. We

are less inclined to believe the company would be subjected to punitive damages because

(1) they were not enriched by the contract and (2) Ron Johnson, the principal negotiator of

the agreement is no longer with JCP. Net, net we do not expect the outcome of these

proceedings to have a significant effect on bond trading levels.

The department store business model is under fire

Since the early 90’s there has been a major shift in how consumers prefer to shop. Not only

have shopping malls fallen out of favor, but specialty stores have risen in prominence as

shoppers have gravitated toward curated selections or category killers with an expertise in

a particular product. As a result we’ve seen department stores consistently losing market

share over the past twenty years (see Exhibit 15).

Exhibit 15: Department stores have been in secular decline

GAFO represents sales of general merchandise, apparel and accessories, furniture, and other (i.e. merchandise normally sold in department stores). Source: US Census Bureau

This happened despite the significant competitive advantages of department stores. During

its 2012 analyst day, J.C. Penney noted that department stores generally pay about $4 per

square foot in rent while specialty stores pay upwards of $40. Furthermore the average

department store spends $1bn in marketing, compared to roughly $30mn for specialty

stores, yet department stores must still rely upon markdowns to drive traffic.

Beyond shifting consumer preferences, the retail industry is also seeing pricing pressure

from a number of angles. The rise of discount stores such as Target and Walmart has

increased competition on basics while fast fashion retailers such as Uniqlo and H&M have

provided a compelling draw for the stylish, but cost-conscious consumer. Meanwhile e-

commerce, a notoriously price-competitive channel, is making up an increasing portion of

retail sales, from less than 1% in the first quarter of 2000 to 5.5% in the first quarter of this

year according to US Census Bureau data.

It appears these trends will only intensify in the coming years and a company like J.C.

Penney will need to have a meaningful response to return to growth. Being the lowest-

price anchor in the mall is unlikely to be enough.

10%

15%

20%

25%

30%

35%

150

160

170

180

190

200

210

220

230

240

250

1992 2002 2012

$, billion

Dept store sales ($bn)

Dept store sales as % of GAFO



Revised home department is not working

At the beginning of June, JCP unveiled its new home departments, bringing back square

footage that had been dark in over 500 stores since mid-February of 2013. The performance

of these home departments has been an overwhelming disappointment. The product

assortment emphasizes more modern styles and skews to a higher price point, which

seems out of line with the core JCP customer who tends to prefer lower price points and

more traditional furnishings.

For context, the home department accounted for 12% of 2012 sales (down from 15% in

2011 and 18% in 2010) and makes up over 50% of online sales. It’s a segment that has been

challenged for years after taking a hit during the housing slump. As purchases of homes

declined, so did spending on big-ticket items like furniture and window treatments.

According to color provided in earnings calls, it is the least productive department in terms

of sales per square foot and is also the most promotional. We believe the company will

continue to see difficult results in this department as it works sell through inventory that

doesn’t match customer preferences and build a more appropriate product assortment.

Difficult and diminishing customer base

J.C. Penney targets middle income customers across the United States; a segment that

CEO Mike Ullman believes is underserved; in his words “the core of America is up for

grabs”. The company describes its core customer as a woman in her mid-forties with a

household income of $60-65k. However a recent survey conducted by Prosper Business

Development and cited by Business Week, suggests that customers tend to skew older and

less affluent. According to the survey, nearly half of the store’s customers are older than 55

(compared to 36% for Kohl’s and Macy’s) and 29% have annual incomes below $35k

(compared to ~20% at Kohl’s and Macy’s). Aside from the obvious, this demographic

presents a particularly difficult set of challenges for the retailer.

For example, press reports have pointed to a “discount addiction” among Penney’s

shoppers following the weak reception of Ron Johnson’s “fair and square” pricing strategy.

During the company’s 2012 analyst day, Johnson pointed out that over the prior year fewer

than 1 in 500 units were purchased from J.C. Penney at full price and nearly three-quarters

of everything sold was at a discount of 50% or more. In his words “the customer doesn’t

even pay attention until 40% off”. This doesn’t bode well for future margins especially in

light of increasing competition from discount stores and online-only players with far

cheaper cost structures.

Additionally, long-term demographic trends are cause for concern. Middle income earners

were hit hard by the last recession and have seen less of a benefit from the recent recovery.

Growing income disparities have led economists to speculate about the development of an

“hourglass economy” in which the middle-income earners dwindle as gains accrue to the

higher and lower ends of the spectrum. While speculating on this potential trend is beyond

the scope of this report, we do believe that the environment for a middle-market

promotional department store will continue to be challenging.



Exhibit 16: Historical and forecasted financial statements $, mn


1/30/10 1/29/11 1/28/12 10/27/12 2/2/13 2/2/13 5/4/13 8/3/13 10/26/13 2/1/14 8/3/13 2/1/14 5/3/14 8/2/14 11/1/14 1/31/15 1/31/15

FY:09 FY:10 FY:11 3Q:12 4Q:12 FY:12 1Q:13 2Q:13 3Q:13E 4Q:13E LTM FY:13E 1Q:14E 2Q:14E 3Q:14E 4Q:14E FY:14E

Income statement

Net Sales 17,709 17,759 17,260 2,927 3,884 12,985 2,635 2,663 2,702 3,928 12,109 11,928 2,747 2,751 2,810 4,045 12,354

Cost of Goods Sold (10,799) (10,799) (11,042) (1,975) (2,960) (8,919) (1,823) (1,876) (1,878) (2,749) (8,634) (8,326) (1,785) (1,788) (1,827) (2,630) (8,030)

Gross Profit 6,910 6,960 6,218 951 923 4,064 812 787 824 1,178 3,473 3,601 961 963 984 1,416 4,324

Gross profit as % of sales 39.0% 39.2% 36.0% 32.5% 23.8% 31.3% 30.8% 29.5% 30.5% 30.0% 28.7% 30.2% 35.0% 35.0% 35.0% 35.0% 35.0%

SG&A Expenses (5,382) (5,357) (5,109) (1,087) (1,209) (4,506) (1,078) (1,026) (1,003) (1,221) (4,400) (4,328) (948) (935) (956) (1,214) (4,052)

SG&A as % of sales 30.4% 30.2% 29.6% 37.1% 31.1% 34.7% 40.9% 38.5% 37.1% 31.1% 36.3% 36.3% 34.5% 34.0% 34.0% 30.0% 32.8%

Pension expense (337) (255) (121) (51) (186) (353) (34) (34) (34) (34) (305) (136) (34) (34) (34) (34) (238)

Depreciation and amortization (495) (511) (518) (133) (157) (543) (136) (143) (135) (157) (569) (571) (137) (138) (141) (202) (618)

Real estate and other, net (33) (5) (21) 197 (88) 324 22 68 - - 199 90 - - - - -

Restructuring and management transition - - (451) (34) (29) (298) (72) (47) - - (182) (119) - - - - -

Operating income 663 832 (2) (157) (746) (1,312) (486) (395) (347) (234) (1,784) (1,463) (158) (144) (146) (34) (482)

Adjustments

Restructuring and management transition - - 451 34 29 298 72 47 - - 182 119 - - - - -

Primary pension plan expense 298 221 87 42 176 315 25 25 - - 268 50 - - - - -

Inventory transition markdow ns - - - - - 155 - - - - - - - - - - -

Net gain on sale of non-operating assets - - - (197) - 298 - (62) - - (259) (62) - - - - -

Adjusted EBITDA 1,456 1,564 1,054 (145) (384) 297 (253) (242) (212) (77) (1,024) (785) (20) (6) (6) 168 136

Rent Expense 325 321 323 78 78 310 63 63 63 63 281 252 55 55 55 55 221

EBITDAR 1,781 1,885 1,377 (67) (306) 607 (190) (179) (149) (14) (743) (533) 35 49 49 224 357

Net interest expense (260) (231) (227) (55) (57) (226) (61) (95) (91) (91) (268) (338) (91) (91) (91) (91) (363)

Bond premiums and unamortized costs - (20) - - - - - (114) - - (114) (114) - - - - -

Income tax expense/(benefit) (154) (203) 77 88 250 551 199 18 97 55 555 369 25 20 21 (22) 45

Net income (loss) 249 378 (152) (124) (553) (987) (348) (586) (341) (270) (1,611) (1,546) (223) (215) (216) (146) (800)

Cash Flow Items

Adjusted EBITDA 1,456 1,564 1,054 (145) (384) 297 (253) (242) (212) (77) (1,024) (785) (20) (6) (6) 168 136

Interest (260) (231) (227) (55) (57) (226) (61) (95) (91) (91) (268) (338) (91) (91) (91) (91) (363)

Cash Taxes (132) (44) (91) 135 16 201 90 (2) 49 27 239 164 13 10 11 (11) 23

Funds from Operations 1,064 1,289 736 (65) (425) 272 (224) (339) (255) (141) (1,053) (959) (98) (87) (86) 67 (205)

Change in Working Capital 445 (336) 156 25 969 631 (476) (368) (326) 740 150 (429) (13) (85) (117) 542 326

Cash from Operating Activities 1,509 953 892 (40) 544 903 (700) (707) (580) 599 (903) (1,388) (112) (172) (204) 608 121

Capital Expenditures (600) (499) (634) (341) (230) (810) (214) (439) (200) (150) (1,224) (1,003) (75) (75) (75) (75) (300)

Dividends Paid (183) (189) (178) - - (86) - - - - - - - - - - -

Free Cash Flow 726 265 80 (381) 314 7 (914) (1,146) (780) 449 (2,127) (2,391) (187) (247) (279) 533 (179)

Other Increase (Decrease) in Cash:

Asset sales 13 14 15 279 1 528 18 56 - - 354 74 - - - - 74

Acquisitions - - (268) - - (9) - - - - - - - - - - -

Debt raised/(repaid) (113) (301) - (243) (7) (250) 845 1,921 - - 2,516 2,766 - - - - 2,766

Debt issuance costs (32) (14) (20) - - (4) (8) (114) - - (122) (122) - - - - (122)

Stock issuance/buyback - 8 (867) (10) (4) 66 2 (2) - - (14) - - - - - -

Cash restructuring expense - (35) (16) - - (51) (51) - - - - (51)

Voluntary pension contribution - (392) - - - - - - - - - - - - - - -

Other cash inflow (outf low ) 65 31 (55) (8) 101 (420) (17) 15 - - 91 (1) - - - - (1)

Change in Cash 659 (389) (1,115) (363) 405 (577) (109) 714 (780) 449 647 274 (187) (247) (279) 533 (438)

Balance Sheet Items

Cash Equivalents 3,011 2,622 1,507 525 930 930 821 1,535 755 1,204 1,535 1,204 1,018 771 492 1,025 1,025

Total Inventories 3,024 3,213 2,916 3,362 2,341 2,341 2,798 3,155 3,564 2,926 3,155 2,926 2,938 3,313 3,742 3,073 3,073

Working Capital 390 767 636 977 33 33 225 742 416 1,157 742 1,157 1,143 1,058 941 1,482 1,482

Short-Term Debt 393 - 231 22 26 26 26 50 50 50 50 50 50 50 50 50 50

Long-Term Debt (inc. Capital Leases) 2,999 3,099 2,871 2,943 2,956 2,956 3,800 5,842 5,799 5,776 5,842 5,776 5,776 5,776 5,776 5,776 5,776

Total Debt 3,392 3,099 3,102 2,965 2,982 2,982 3,826 5,892 5,849 5,826 5,892 5,826 5,826 5,826 5,826 5,826 5,826

Net Debt 381 477 1,595 2,440 2,052 2,052 3,005 4,357 5,094 4,622 4,357 4,622 4,808 5,055 5,334 4,801 4,801

Rent-Adjusted Debt 2,981 3,045 4,179 3,060 2,672 4,532 3,509 4,861 5,598 5,126 4,861 5,126 5,250 5,497 5,776 5,243 5,776

Shareholders Equity 4,778 5,460 4,010 3,502 3,171 3,171 2,866 2,320 1,979 1,708 2,320 1,708 1,485 1,271 1,055 909 909

Total Book Capitalization 8,170 8,559 7,112 6,467 6,153 6,153 6,692 8,212 7,827 7,534 8,212 7,534 7,311 7,097 6,881 6,735 6,735

Market capitalization 5,892 7,717 8,851 5,586 4,364 4,364 3,795 3,147 2,889 2,889 3,147 2,889 2,889 2,889 2,889 2,889 2,889



Exhibit 17: Historical and forecasted financial statements $, mn


Exhibit 18: J.C. Penney capitalization

$, mn


1/30/10 1/29/11 1/28/12 10/27/12 2/2/13 2/2/13 5/4/13 8/3/13 10/26/13 2/1/14 8/3/13 2/1/14 5/3/14 8/2/14 11/1/14 1/31/15 1/31/15

FY:09 FY:10 FY:11 3Q:12 4Q:12 FY:12 1Q:13 2Q:13 3Q:13E 4Q:13E LTM FY:13E 1Q:14E 2Q:14E 3Q:14E 4Q:14E FY:14E

Credit Ratios

Key Metrics

Sales growth (quarterly vs. prior year) (4.2%) 0.3% (2.8%) (26.6%) (28.4%) (24.8%) (16.4%) (11.9%) (7.7%) 1.1% (11.9%) (8.7%) 4.2% 3.3% 4.0% 3.0% 3.6%

Comparable Store Sales (6.3%) 2.5% 0.2% (26.1%) (31.7%) (25.2%) (16.6%) (11.9%) (7.0%) 2.0% (21.6%) (8.4%) 5.0% 4.0% 4.0% 3.0% 4.0%

Gross Margin 39.0% 39.2% 36.0% 32.5% 23.8% 31.3% 30.8% 29.5% 30.5% 30.0% 29.5% 30.2% 35.0% 35.0% 35.0% 35.0% 35.0%

∆ in Gross Margin (YoY, bp) 161 bp 17 bp -317 bp -485 bp -640 bp -473 bp -681 bp -366 bp -201 bp 623 bp -366 bp -111 bp 420 bp 546 bp 450 bp 500 bp 481 bp

SG&A Expense Ratio 30.4% 30.2% 29.6% 37.1% 31.1% 34.7% 40.9% 38.5% 37.1% 31.1% 38.5% 36.3% 34.5% 34.0% 34.0% 30.0% 32.8%

Debt/Capitalization 42% 36% 44% 46% 48% 48% 57% 72% 75% 77% 72% 77% 80% 82% 85% 87% 87%

EV/LTM EBITDA 4.3x 5.2x 9.9x 18.9x NM NM NM NM NM NM NM NM NM NM NM 56.7x NM

Operating Performance Metrics

Sales per square foot (LTM) 159 159 155 130 116 116 112 109 107 107 109 109 108 109 110 111 111

Sales per store 16.09 16.04 15.63 2.65 3.52 11.77 2.39 2.42 2.47 3.59 11.02 10.89 2.51 2.51 2.57 3.69 11.28

Traffic (YoY) NA NA NA (12.0%) (17.0%) (13.0%) (6.0%) (5.5%) NA NA NA (5.8%) NA NA NA NA NA

Conversion (YoY) NA NA NA (10.0%) (10.0%) (9.0%) (1.0%) (4.9%) NA NA NA (3.0%) NA NA NA NA NA

Avg transaction value NA NA NA (10.0%) NA NA NA NA (10.0%) NA NA NA NA NA

Clearance sales as % of total 23.0% 24.0% 20.0% 21.0% 18.0% NA NA NA NA NA NA NA NA NA

Leverage and Coverage Statistics:

LTM Adjusted EBITDA 1,456 1,564 1,054 424 (198) (198) (528) (1,024) (1,092) (785) (1,024) (3,428) (552) (316) (110) 136 (843)

LTM EBITDAR 1,781 1,885 1,377 737 112 112 (232) (743) (825) (533) (743) (2,333) (308) (80) 119 357 88

Debt/LTM EBITDA 2.3x 2.0x 2.9x 7.0x NM NM NM NM NM NM NM NM NM NM NM 43.0x NM

Net Debt/LTM EBITDA 0.3x 0.3x 1.5x 5.8x NM NM NM NM NM NM NM NM NM NM NM 35.4x NM

Lease-adjusted Debt/LTM EBITDAR 3.4x 3.0x 4.1x 4.9x 32.1x 48.8x NM NM NM NM NM NM NM NM 52.7x 17.6x 77.4x

Net Lease-adjusted Debt/LTM EBITDAR 1.7x 1.6x 3.0x 4.2x 23.8x 40.5x NM NM NM NM NM NM NM NM 48.6x 14.7x 65.7x

EBITDA/LTM Interest 5.6x 6.8x 4.6x 1.9x NM NM NM NM NM NM NM NM NM NM NM 0.4x NM

Growth & Margins

Quarterly

EBITDA Growth (YoY) (1.0%) 7.4% (32.6%) (159.5%) (261.2%) (71.8%) (430.7%) (195.5%) 46.9% (79.9%) (195.5%) (364.3%) (92.0%) (97.3%) (97.2%) (318.0%) (117.3%)

EBITDA Margin 8.2% 8.8% 6.1% NM NM 2.3% NM NM NM NM NM NM NM NM NM 4.2% 1.1%

∆ in EBITDA Margin (YoY, bp) 26bp 59bp -270bp NM NM -382bp NM NM NM NM NM NM NM NM NM NM NM

Private & exclusive 54% 55% 55% 52% NA 53% 49% 49% NA NA NA NA NA NA NA NA NA

National brands 46% 45% 45% 48% NA 47% 51% 51% NA NA NA NA NA NA NA NA NA

Total 100% 100% 100% 100% 100% 100% 100% 100% NA NA NA NA NA NA NA NA NA

As of 8/3/13 Maturity Coupon Amount Leverage Net Lev. 2013 2014 2015 2016 2017 2018 2020 2021+ As of 8/3/13

ABL Revolver 4/29/2016 L+600 w/100 fl 850 850 ABL Revolver(2) 1,850

Term Loan(1) 5/22/2018 L+500 w/100 fl 2,250 11 23 23 23 23 2,149 Borrowing base 1,850

Capital leases 98 Letters of Credit 503

Total Secured Debt 3,198 NM Borrowings 850

6.875% Medium‐Term Notes due 2015 10/15/2015 6.88% 200 200 Availability 497

7.65% Debentures due 2016 8/15/2016 7.65% 200 200 Availability threshold(2) 185

7.95% due 2017 4/1/2017 7.95% 285 285 Availability after threshold 312

5.75% Senior notes due 2018 2/15/2018 5.75% 300 300 Cash 1,535

5.65% Senior Notes due 2020 6/1/2020 5.65% 400 400 Total Liquidity 1,847

7.125% Debentures due 2023 11/15/2023 7.13% 10 10

6.9% Senior Notes due 2026 8/15/2026 6.90% 2 2

6.375% Senior Notes due 2036 10/15/2036 6.38% 400 400

7.4% Debentures due 2037 4/1/2037 7.40% 326 326

7.625% Notes due 2097 3/1/2097 7.63% 500 ‐ ‐ ‐ ‐ ‐ ‐ ‐ 500

Total Debt 5,821 NM 11.3 23 223 1,073 308 2,449 400 1,238

Total Equity (book value) 6,153

Total Capitalization 11,974

Cash 1,535

Shares outstanding 220

Share price 15.38$

Market Capitalization 3,381 Book EV/ LTM EBITDA

Enterprise value 7,667 NM

(1) Secured by $4.2 billion of hard collateral; structurally senior to $2.6 bn of unsecured debt and $3.9bn of equity value.

(2) In the event that availability under the 2012 Credit Facility is less than the greater of (1) $125 million or (2) 10% of the lesser of the total facility or the borrowing base then in effect, for a period of at least 30 days, the Company will be subject to a

fixed charge coverage ratio covenant of 1.0 to 1.0 which is calculated as of the last day of the quarter and measured on a trailing four‐quarter basis

Pension plan Primary Supplemental Post‐retirement Total

PBO 5,042 303 18 5,363

Fair value of plan assets (5,035) (303) ‐ (5,338)

Funded status of the plan 7 ‐ 18 25

Capitalization LiquidityAmortization/Maturity Schedule



Disclosure Appendix

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