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JC Penney: The Next Front in the Icahn Vs. Ackman Spat?

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The struggling retailer received a nasty surprise from a group of its bondholders last week.

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Enter the Hedge Fund Honchos

Adding to the intrigue is the fact that activist investor Bill Ackman's Pershing Square Capital Management is Penney's largest shareholder, with a 17.8% stake.

Ackman has made headlines lately by very publicly duking it out on CNBC with fellow hedge fund manager Carl Icahn after Ackman recently revealed his 20-million-share short position in nutritional supplement maker Herbalife (NYSE:HLF). Ackman had previously called Herbalife a "pyramid scheme" whose stock price was headed to zero, to which Herbalife CEO Michael Johnson responded by calling Ackman's comments a "bogus accusation" and "blatant market manipulation."

The CNBC debate between Ackman and Icahn was a colorful affair that will not be soon forgotten. In it, Icahn repeatedly referred to Ackman as "this Ackman guy," and called him a "crybaby in the schoolyard." Ackman responded by laying out in detail his past dealings with Icahn and calling him a "bully" and "a guy who takes advantage of little people."

The Herbalife affair is at the heart of the soap opera: Icahn and other wealthy investors have bet against Ackman by going long on the stock. That could put Ackman in a "short squeeze" if the share price moves higher, forcing the short sellers, including Ackman, to cover their positions.

The episode goes well beyond Ackman and Icahn: On January 9, Daniel Loeb of Third Point Investments revealed that his hedge fund held 8.2% of Herbalife-a stake worth $350 million, according to the Wall Street Journal. There has also been speculation that Third Point once shorted JC Penney.

All this history, along with a number of other factors, caught the attention of the Zerohedge.com website, which published a February 4 article pointing out that the timing of the bondholders' letter (January 29) came just after the CNBC dust-up between Ackman and Icahn. That's particularly suspicious, argues Zerohedge, in light of the fact that JC Penney took out the line of credit in question over a year earlier. In addition, the Zerohedge article pointed to a sharp jump in trading volume for JC Penney 2037 debentures on January 25, the very day of the CNBC confrontation. There are other connections, too. For example, Icahn is also a Brown Rudnick client.

"All of the above is, for now, conjecture," writes the site. "But it just fits too perfectly: the timing, the approach (so typical of the old school Icahn), and the target: because nothing would crush 'retail expert' Ackman, who is openly feuding with Icahn over Herbalife, as a JC Penney bankruptcy. And nothing would bring greater validation to Icahn's claim that he 'does not respect Ackman as an investor,' uttered during the infamous January 25 debate."

New Concept Has Legs-But Current Troubles Could Trump It

None of this does much to inspire confidence in the stock. Despite its troubles, however, there are some signs of life in the company.

For example, Johnson's plan to convert JC Penney into a collection of "stores within stores" is gaining traction. The plan started with Sephora beauty boutiques in 2007, and the company is also setting up outlets for Levi's, Martha Stewart, and the Canadian Joe Fresh fashion brand.

The concept is performing well so far: Johnson has said the Sephora boutiques have produced 5% same-store sales increases "independent of the JC Penney performance."

The problem? Johnson may be running out of time: the company plans to complete the rollout in 2015. That may be just too late for both Penney and its bondholders.

This article by Chad Fraser originally appeared on Investing Daily.

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No positions in stocks mentioned.
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