JCP Valens Credit Analysis – CDS 3,500bps, Base Case iCDS 487bps, Negative Case iCDS 880bps, 2023 7.125% Bond YTW of 22.940%, iYTW of 7.740%, Caa2 Rating from Moody’s, HY2 (equivalent to B2) Rating from Valens, High Refinancing Need

• Credit markets are grossly overstating credit risk, with a CDS of 3500bps relative to an Intrinsic CDS of 487bps, and a cash bond YTW of 22.940% relative to an Intrinsic YTW of 7.740%. Furthermore, Moody’s is also overstating JCP’s fundamental credit risk, viewing the firm as having substantial default risk, with its Caa2 rating three notches lower than Valens’ HY2 (B2) rating
• Incentives Dictate Behavior™ analysis highlights that JCP’s management compensation framework should incentivize them to improve margins and expand revenue over time, which may lead to greater cash flows available for servicing debt. Also, with low change-in-control compensation, management is not incentivized to pursue a sale or accept a buyout of the business, limiting event risk
• Earnings Call Forensics™ of the firm’s Q2 2018 earnings call (8/16) highlights that management is confident that there are opportunities for them to improve their gross margin, and in their ability to meet their SG&A cost targets. Additionally, they are confident in their ability to drive sustainable growth in their digital channel
• JCP is trading at a 0.8x UAFRS-based P/B, which is low relative to historical valuations. However, even at these levels, equity markets appear to be pricing in a near-best-case scenario for operational turnaround, likely limiting equity upside from operational improvement. That said, because JCP trades at a discount relative to its asset values, potential credit driven equity upside may be warranted