April 9, 2013 / 9:09 PM / 4 years ago

COMMENT: More questions as JC Penney's CDS widens 5%

JCP on Monday ousted Ron Johnson, the CEO who had been brought in to turn the company's ship around, and said he would be replaced by his own predecessor Mike Ullman.

As JC Penney shares plummeted on the news, its widening Tuesday in CDS - the cost of insuring its bonds against default - underscored the market's evident unhappiness.

On Monday the retailer's CDS had gone in the other direction, narrowing sharply on talk that JCP was looking at a possible private-equity buyout.

But the return of Ullman underwhelmed markets that have looked on for months as Johnson embarked on a new "store-within-a-store" strategy vastly different from JCP's long history.

Spreads capitulated wider across all maturities, as the realization dawned that JCP is now short of the capital needed if Ullman wanted to reverse Johnson's strategy - which is still being rolled out in stores.

JCP is "stuck between a rock and a hard place", Hedgeye Risk Management said in a note to clients, saying that the likelihood of a JCP capital raise had now increased "materially".

Ratings agencies say JCP's liquidity is less than adequate. The company is expected to burn through USD1bn in cash in 2013 - and have negative free cash flow through 2014.

JCP is also hobbled by vendor payments, revealing in its 10K filing that it deferred USD85m in vendor payments. CIT Group has added a 1% surcharge on loans made to finance JCP's deliveries of merchandise.

The sentiment-driven widening in CDS supports the idea JCP could see some sort of sale - whether a buyout or an offloading of non-core or real-estate assets.

But with a high level of debt around USD3bn, though, JCP does not seem like a natural candidate for a traditional LBO. Given the debt, cash burn and likely need to borrow to finance the transaction, Barclays said, an LBO is unlikely.

It said the high costs associated with an LBO would require refinancing the credit facility and change of control notes.

So the storied company, a fixture at malls across the United States, is now truly at a crossroads. And many will be looking to JCP's largest shareholder - Johnson backer Bill Ackman - to see what he and Pershing Square Capital Management will do now.

Vornado Realty is looking to shop its 40% stake in JCP. Will Ackman be next?

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