Penney's Rediscovers Its Calling

Penney's had a turtleneck problem. When the retailer's quality inspectors compared J.C. Penney Co.'s girls' cotton turtlenecks with similar tops from The Gap, Lands' End, and L.L. Bean, tests showed that Penney's turtlenecks shrank too much and puckered in the seams. So Penney's designers went back to the drawing board and improved the specifications for fabric, fit, and construction and added Spandex to the collar and cuffs. Satisfied, the chain priced its new, improved turtleneck at 38% less than The Gap's--and saw the product's sales more than triple last year.

Lower prices and higher quality are pumping up sales for a lot more than turtlenecks at the nation's fourth-largest retailer. After an ill-considered push into higher-priced goods coincided with the recession of 1990-91, the worst retailers had seen in decades (chart), Penney's hit upon its new "value" formula. The result is a kind of hybrid. While Penney's has stuck with an overhaul started in the early 1980s that includes brighter fashions and respected brand names such as Oshkosh B'Gosh and Levi's, it has returned to its roots as a moderately priced merchant. Penney's approach has even inspired an imitator in Sears, Roebuck & Co., which wants to shift its focus to the kind of fashionable apparel that attracts more women shoppers.

That combination of lower prices and higher quality may not be so easy to emulate. "We're not selling dumb stuff at a low price," says W. Barger Tygart, senior executive vice-president. The Plano (Tex.) retailer has redoubled efforts to hone its marketing message--and slash operating expenses to make its value strategy pay off. Earnings before extraordinary items last year climbed 47%, to $777 million, on a sales gain of 11%, to $18 billion. Earnings could hit $871 million this year, says Mabon Securities Corp. analyst Harry A. Ikenson. Penney's 9.7% growth in same-store sales outstripped that of such rivals as Dayton Hudson, Federated Department Stores, and May Department Stores.

WRONG WAY. Less than two years ago, Penney's prospects were looking pretty dim. During the 1980s, the chain had wisely labored to differentiate itself from rival Sears by dumping such lines as tires and hardware. Penney's started offering trendier looks and courting makers of the well-known brands found in better department stores. Then, in its bid to become Middle America's favorite department store, Penney's almost undid its own handiwork. It expanded its selection of pricier lines--just when the recession and the gulf war were stifling consumer spending. In 1991, Penney's earnings before extraordinary items fell 36%, from 1989's record $822 million.

It was time to cut prices--not in the ordinary way, through big end-of-season markdowns, but systematically and permanently. Under the direction of Stores & Catalog President James E. Oesterreicher, the chain rolled out nationwide price cuts of 10% or more on many items and offered special deals on others. Visit a store near Penney's headquarters, for instance, and you can get a private-label men's cotton polo shirt for $16, or two for $25. Such prices enticed Carol Anne Braswell, a 27-year-old Dallas mother of one, to buy a Penney's linen jacket recently, even though as a child, she recalls, "we would never darken [Penney's] doors because we thought their stuff was cheap." The jacket reminded her of one she had seen at a much higher price at Neiman Marcus.

Penney's has stepped up efforts to improve the quality of such moderately priced, private-label goods, which account for two-thirds of sales. Margins on such apparel typically run higher than the average for national brands. So Penney's has had more room to lower prices and still expand its team of quality inspectors from 20 in 1990 to some 200 today. These inspectors audit the factories that make Penney's merchandise, rank all suppliers for quality, and stage comparison tests such as the one that altered the girls' turtleneck design.

To drive home the changes to customers, Penney's hired ad agency Temerlin McClain in late 1991. With a nearly $100 million budget for television and radio ads--up 82% from the year before--Temerlin introduced new TV commercials last year that take shoppers inside Penney's stores for a firsthand look. In some spots, famous labels, such as Nike, Dockers, and Bali flash by, along with Penney's own brands. Closeups of tags boasting "pure silk" and "100% cotton" stress quality. The TV commercials show "sale" signs everywhere and end by emphasizing values.

Now, the chain is testing its first-ever TV ads for the $3.1 billion catalog business. Penney's has a rare opportunity to expand in mail order now that Sears is shutting down its $3.3 billion catalog business. Analyst Peter J. Siris of UBS Securities sees Penney's getting $200 million in extra 1994 revenue thanks to Sears' decision. Unlike Sears, Penney's catalog carries far fewer "hard" items such as appliances and tools, but the company figures it has a good shot at winning the Sears customers who want apparel and home furnishings. And Penney's highly automated distribution centers and phone system can easily handle the extra business.

MORE NUTS TO CRACK. For all of its progress, there's still plenty of room to improve. In part because of a higher proportion of lower-priced goods in the mix, Penney's sales per square foot--estimated by Ikenson at $118--are among the lowest in the industry. Another factor is the lack of key brands needed to lure more shoppers to such critical departments as cosmetics and women's apparel. While the chain has landed such upscale cosmetics names as Ultima II and Charles of the Ritz, it longs for Elizabeth Arden and Estee Lauder. In apparel, Penney's is still snubbed by Liz Claiborne, whose designs grace mannequins at such chains as Dillard Department Stores Inc. and R.H. Macy & Co. "It's hard for us to understand why somebody would not want Penney's when we would be their largest account," sighs Oesterreicher.

Even without such prestigious names, Oesterreicher insists that the retailer can squeeze far more sales out of its 1,300 stores. It will have to if Penney's hopes to grow faster than the department-store industry's estimated 6% annual rate. That's an optimistic scenario, but offering more for less may be just the way to make it happen.