##### 



Exhibit 99 Managements Discussion and Analysis of Financial Condition and Results of Operations MANAGEMENTS DISCUSSION AND ANALYSIS OF FINANCIAL
CONDITION AND RESULTS OF OPERATIONS The following discussion, which presents the
results of J. C. Penney Company, Inc. and its
subsidiaries (the Company or JCPenney), should be read in
conjunction with the accompanying consolidated financial
statements and notes thereto beginning on page 25, along
with the unaudited Five-Year Financial and Operations
Summary on page 49. Certain debt securities were issued by J. C. Penney
Corporation, Inc. (JCP), the wholly owned operating
subsidiary of the Company. The Company is a co-obligor
(or guarantor, as appropriate) regarding the payment of
principal and interest on JCPs outstanding debt
securities. The guarantee by the Company of certain of
JCPs outstanding debt securities is full and
unconditional. CORPORATE GOVERNANCE AND FINANCIAL REPORTING The Company remains committed to both
maintaining the highest level of corporate governance and
continuously increasing the transparency of its financial
reporting, providing stockholders with informative
financial disclosures and presenting an accurate view of
the Companys financial position and operating results. While the Company has always focused on excellence
in corporate governance, management has continued to
strengthen its well-established programs and policies,
including the implementation of a reporting matrix that
requires written certifications from a cross-discipline
team of more than 20 key members of management who have
responsibility for verifying and reporting corporate
results. For its 2004 Annual Report, the Company continued
the trend of providing transparent financial reporting,
with enhanced disclosures related to the Companys
financial condition and cash flows, its credit rating
outlook and the ongoing repositioning of its capital
structure, as well as a detailed discussion of the impact
of the Eckerd disposition and related contingencies.
Additionally, for the first time in 2004, the Company was
required to report on the effectiveness of its internal
control over financial reporting under the requirements
of Section 404 of the Sarbanes-Oxley Act of 2002
(Sarbanes-Oxley Act). In relation to these requirements,
the Companys external auditors expressed an unqualified
opinion on managements assessment of, and the effective
operation of, the Companys internal control over
financial reporting. EXECUTIVE OVERVIEW 2004 Accomplishments Sustained Sales Growth Comparable department store
sales increased 5.0%, representing the fourth consecutive
year of improvement. Catalog/Internet sales increased
1.5% in 2004 (3.3% excluding $46 million of sales for the
53rd week of 2003),
the second year in a row of sales gains. Internet,
the fastest growing sales channel, increased
approximately 32% (34% excluding the 53rd week of 2003).
Internet sales now represent almost 30% of total
Catalog/Internet sales. Improved Profitability Operating profit for 2004
increased 270 basis points to 7.1% of sales. With this
improvement, the Company achieved its turnaround
objective of 6% to 8% operating profit one year ahead of
schedule. Strong sales growth, continued improvements in
gross margin and expense leverage contributed to this
significant accomplishment. Income from continuing operations for 2004 increased
83% to $667 million, when compared to 2003. Diluted
earnings per share (EPS) from continuing operations of
$2.23 for 2004 improved 84% compared to $1.21 in 2003. Operating Results from Continuing Operations ( $ in millions, except EPS )
    
    2004
    
    
    2003
    
    
    2002Gross margin
    
    $
    7,139
    
    
    $
    6,620
    
    
    $
    6,334SG&A expenses
    
    
    5,827
    
    
    
    5,830
    
    
    
    5,634Operating profit(1)
    
    
    1,312
    
    
    
    790
    
    
    
    700Net interest expense
    
    
    233
    
    
    
    261
    
    
    
    226Bond premiums and
unamortized costs
    
    
    47
    
    
    
    
    
    
    
    Real estate and other
expense/(income)
    
    
    12
    
    
    
    (17
    )
    
    
    59Income from continuing
operations before income taxes
    
    
    1,020
    
    
    
    546
    
    
    
    415Income tax expense
    
    
    353
    
    
    
    182
    
    
    
    130Income from
continuing operations
    
    $
    667
    
    
    $
    364
    
    
    $
    285Diluted earnings per share
from continuing operations
    
    $
    2.23
    
    
    $
    1.21
    
    
    $
    0.95Comparable department
store sales(2)increase
    
    
    5.0
    %
    
    
    0.9
    %
    
    
    2.7
    %Catalog/Internet sales
increase/(decrease)
    
    
    3.3
    %(3)
    
    
    1.5
    %(3)
    
    
    (22.0
    )%
   (1)
    
    Operating profit and its components (sales, gross
margin and SG&A) are key measurements on which management
evaluates the financial performance of the retail
operations. Real estate activities, gains and losses on
the sale of real estate properties, asset impairments,
other charges associated with closing store and catalog
facilities and senior management transition costs are
evaluated separately from operations and are recorded in
Real Estate and Other in the Consolidated Statements of
Operations.(2)
    
    Comparable store sales include the sales of stores
after having been open for 12 full consecutive fiscal
months. New and relocated stores become comparable on the
first day of the 13th full fiscal month. Comparable store
sales are presented on a 52-week basis. In 2003,
Department Store sales for the 53rd week were $152
million.(3)
    
    Excludes the effect of the 53rd week in 2003.
Internet sales increased 34.0% and 47.8% for those
periods. Including sales of $46 million for the 53rd week
in 2003, total Catalog/Internet sales increased 1.5% and
3.3% for 2004 and 2003, respectively. Generated Positive Free Cash Flow The Company
generated $599 million of free cash flow from continuing
operations in 2004. Free cash flow from continuing
operations
is defined as cash provided by operating activities
less dividends and capital expenditures, net of proceeds
from the sale of assets. Free cash flow is an important
financial measure, which is widely focused upon by
investors. Although it is not a generally accepted
accounting principle (GAAP) measure, it is derived from
components of the Companys consolidated GAAP cash flow
statement. The Companys calculation of free cash flow may
differ from that used by other companies and therefore
comparability may be limited. While free cash flow is a
non-GAAP financial measure, management believes it is
important in evaluating the Companys financial
performance and measuring the ability to generate cash
without incurring additional external financing. Free
cash flow should be considered in addition to, rather
than as a substitute for, cash provided by operating
activities. The following table reconciles cash provided
by operating activities (GAAP) to free cash flow from
continuing operations (non-GAAP measure): Free Cash Flow from Continuing Operations ( $ in millions)
    
    2004
    
    
    2003
    
    
    2002Net cash provided by
operating activities (GAAP)(1)
    
    $
    1,127
    
    
    $
    812
    
    
    $
    522Less:Capital expenditures
    
    
    (412
    )
    
    
    (373
    )
    
    
    (315
    )Dividends paid
    
    
    (150
    )
    
    
    (160
    )
    
    
    (161
    )Plus:Proceeds from sale of assets
    
    
    34
    
    
    
    100
    
    
    
    38Free cash flow from
continuing operations
    
    $
    599
    
    
    $
    379
    
    
    $
    84
   (1)
    
    Includes $300 million ($190 million after tax) discretionary
cash contributions to the Companys qualified pension plan in
2004, 2003 and 2002.  2004 ANNUAL REPORT
    
    6
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Closed on the Sale of Eckerd On July 31, 2004,
the Company closed on the sale of its Eckerd drugstore
operations and received approximately $4.7 billion in
gross cash proceeds. Net cash proceeds after income
taxes, fees and transaction costs and estimated
post-closing adjustments are expected to total
approximately $3.5 billion. Implemented a Capital Structure Repositioning Program Using the net cash proceeds from the
sale of Eckerd and approximately $1.1 billion of existing cash, the Company implemented a major
repositioning of its capital structure. This program, which is expected to be completed in the
first half of 2005, included $3.0 billion of common stock repurchases, $2.3 billion reduction
of outstanding debt and the redemption of convertible preferred stock to JCPenney common stock.
During 2004, common stock repurchases under this program were $2.0 billion, and total debt
reductions were $1.7 billion. Strengthened Liquidity The Company ended 2004 with approximately $4.7 billion of Cash and
Short-Term Investments, which will allow continued execution of planned common stock repurchases
and debt retirements, along with satisfying operational needs, planned capital expenditures and
dividends. DISCONTINUED OPERATIONS Eckerd Drugstores During the fourth quarter of 2003, the Companys
Board of Directors authorized management to sell the
Eckerd Drugstore operations. Having met the criteria of
Statement of Financial Accounting Standards (SFAS) No.
144, Accounting for the Impairment or Disposal of
Long-Lived Assets, Eckerds net assets were classified
as held for sale and its results of operations and
financial position presented as a discontinued operation
as of year-end 2003, with prior periods reclassified
accordingly. On July 31, 2004, the Company closed on the sale of
Eckerd for a total of approximately $4.7 billion in gross
cash proceeds that included a $209 million adjustment for
the estimated increase in Eckerds working capital from
January 31, 2004 to July 31, 2004. After deducting
taxes, fees and other transaction costs, and estimated
post-closing adjustments, the ultimate net cash proceeds
from the sale are expected to total approximately $3.5
billion. The Jean Coutu Group (PJC) Inc. (Coutu) acquired
Eckerd drugstores and support facilities located in 13
Northeast and Mid-Atlantic states, as well as the Eckerd
Home Office located in Florida. CVS Corporation and CVS
Pharmacy, Inc. (collectively, CVS) acquired Eckerd
drugstores and support facilities located in the
remaining Southern states, principally Florida and Texas,
as well as Eckerds pharmacy benefits management, mail
order and specialty pharmacy businesses. Proceeds from
the sale are being used for debt reduction and common
stock repurchases, as announced in August 2004 and more
fully discussed on page 12. The loss on the sale was $713 million pre-tax, or
$1,433 million on an after-tax basis. The relatively high
tax cost is a result of the tax basis of Eckerd being
lower than its book basis because the Companys previous
drugstore acquisitions were largely tax-free
transactions. Of the total after-tax loss on the sale,
$1,325 million was recorded in 2003 to reflect Eckerd at
its estimated fair value less costs to sell, and during
2004 the
remaining $108 million was recorded to reflect
revised estimates of certain post-closing adjustments and
resulting sales proceeds. Additionally, $3.4 billion of the present value of
operating lease obligations (PVOL), which was an
off-balance sheet obligation under GAAP, was eliminated
with the transfer of these leases to Coutu and CVS upon
the closing of the sale. The Company established reserves at July 31, 2004
for estimated transaction costs and post-closing
adjustments. Certain of these reserves involved
significant judgment and actual costs incurred over time
could vary from these estimates. The more significant
estimates relate to the estimated working capital
adjustment, the costs to exit the Colorado and New Mexico
markets, severance payments to former Eckerd associates,
assumption of the Eckerd Pension Plan and various
post-employment benefit obligations and environmental
indemnifications. Management reviewed and updated the
reserves in the fourth quarter of 2004. While adjustments
were made to individual reserves, management believes
that, in total, the reserves remain adequate at year-end
2004. Cash payments for the Eckerd related reserves are
included in the Companys Consolidated Statements of Cash
Flows as Cash Paid to Discontinued Operations. Management is currently negotiating with both CVS
and Coutu regarding the working capital adjustment as
required in the sale agreements, which could take several
months to finalize. The two sale agreements provide for
an arbitration process between the respective parties in
the event that agreement cannot be reached regarding the
proper amount of adjustments. At the closing of the sale of Eckerd on July 31,
2004, the Company assumed sponsorship of the Eckerd
Pension Plan, the Eckerd Contingent Separation Pay
Programs and various other terminated non-qualified
retirement plans and programs. The Company further
assumed all severance and post-employment health and
welfare benefit obligations under various Eckerd plans,
employment and other specific agreements. The Company is
evaluating its options with respect to these assumed
liabilities, including, but not limited to, termination
of the agreements, plans or programs and/or settlement of
the underlying benefit obligations. The Company is providing to the purchasers certain
information systems, accounting, banking, vendor
contracting, tax and other transition services as set
forth in the Companys Transition Services Agreements
(Transition Agreements) with CVS and Coutu for a period
of 12 months from the closing date, unless terminated
earlier by the purchasers. One Transition Agreement with
Pharmacare Management Services, Inc., a subsidiary of
CVS, involves the provision of information and data
management services for a period of up to 15 months from
the closing date. Under the Transition Agreements, the
Company receives monthly service fees, which are designed
to recover the estimated costs of providing the specified
services. To the extent actual costs to provide such
services exceed the estimates, any additional costs
incurred are reflected in discontinued operations. Mexico Department Stores In November 2003, the Company closed on the sale of
its six Mexico department stores to Grupo Sanborns S.A.
de C.V. of Mexico City and recorded a loss of $14
million, net of a $27 million tax benefit. In 2004, the
Company recognized a gain of $4 million related to
additional tax benefits realized. Direct Marketing Services In 2001, JCP closed on the sale of its J. C. Penney
Direct Marketing Services, Inc. (DMS) assets, including
its J. C. Penney Life Insurance subsidiaries and related
businesses, to a U.S. subsidiary of AEGON, N.V. The DMS
sale generated net cash proceeds of $1.1 billion and a
recorded loss of $273 million. In 2000, a $296 million
loss was  2004 ANNUAL REPORT
    
    7
    
    J.C. PENNEY COMPANY,INC.




---



##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations recognized when DMS assets were reflected as a
discontinued operation and in 2001, a $16 million loss
was recognized upon completion of the sale. These losses
were offset by gains of $34 million, $4 million and $1
million recognized in 2002, 2003 and 2004, respectively,
due to tax regulation changes and a tax audit. The Companys financial statements, accompanying
notes and other information provided in this Annual
Report reflect these businesses as discontinued
operations for all periods presented. RESULTS OF OPERATIONS The following discussion and analysis,
consistent with all other financial data throughout this
Annual Report, focuses on the results of operations and
financial condition from the Companys continuing
operations. All references to EPS are on a diluted basis,
unless otherwise indicated. Income from Continuing Operations (BAR CHART) 2004 represented the fourth consecutive year of
substantial earnings improvement. Income from continuing
operations was $667 million, $364 million and $285
million in 2004, 2003 and 2002, respectively. Earnings
increased as a result of continued strong sales growth,
further gross margin improvement and leveraging of
selling, general and administrative (SG&A) expenses. EPS
from continuing operations increased 84% in 2004 to $2.23
compared to $1.21 in 2003 and $0.95 in 2002, driven by
improved operating profit. Retail Sales, Net ( $ in millions)
    
    2004
    
    
    2003
    
    
    2002Retail sales, net
    
    $
    18,424
    
    
    $
    17,786
    
    
    $
    17,633Sales percent increase/(decrease):Total department stores
    
    
    5.0
    %(1)
    
    
    (0.6
    )%(1)
    
    
    1.9
    %Comparable stores(2)
    
    
    5.0
    %
    
    
    0.9
    %
    
    
    2.7
    %Catalog/Internet
    
    
    3.3
    %(3)
    
    
    1.5
    %(3)
    
    
    (22.0
    )%
   (1)
    
    Excludes the effect of the 53rd week in 2003.
Including sales of $152 million for the 53rd week in
2003, total department store sales increased 4.0% and
0.5% for 2004 and 2003, respectively.(2)
    
    Comparable store sales include the sales of stores
after having been open for 12 full consecutive fiscal
months. New and relocated stores become comparable on the
first day of the 13th full fiscal month. Comparable store
sales are presented on a 52-week basis.(3)
    
    Excludes the effect of the 53rd week in 2003.
Internet sales increased 34.0% and 47.8% for those
periods. Including sales of $46 million for the 53rd week
in 2003, total Catalog/Internet sales increased 1.5% and
3.3% for 2004 and 2003, respectively. Comparable department store sales increased for
the fourth consecutive year. Department Store sales,
which were strong across the country and in all
merchandise divisions in 2004, have continued to benefit
from positive customer response to the Companys
merchandise assortments, compelling marketing programs
and continued improvement in the store shopping
experience. The focus on maintaining fresh, stylish
seasonal assortments contributed to the improvement in
sales. Total department store sales include sales from
the Renner Department Stores in Brazil of $329 million,
$273 million and $249 million in 2004, 2003 and 2002,
respectively. Catalog/Internet sales on a 52-week basis increased
3.3% for 2004, compared to a 1.5% increase in 2003 and a
22.0% decline in 2002. Sales continue to reflect a focus
on targeted specialty media and the expanded assortments
and convenience of the Internet. Total Internet sales,
which are an integral part of the Companys multi-channel
retailing strategy, increased approximately 32% in 2004,
to $812 million, compared to $617 million for 2003 and
$409 million for 2002. The 2003 increase in
Catalog/Internet sales over the 2002 amount also
reflected favorable customer response to better
merchandise assortments, sharper pricing and certain
marketing events, including free shipping. The Company continues to edit its merchandise
assortments to help ensure it is meeting the needs and
wants of its targeted moderate customer. In May 2004, the
Company launched the Chris Madden home furnishings
collection, reflecting the Companys continuing strategy
to provide its customers with style and quality at a
competitive price. The Chris Madden for JCPenney Home
Collection, Turning Home into Haven, is JCPenneys
largest home furnishings launch ever and was introduced
with a comprehensive national advertising campaign. Sales
results from the collection were strong throughout the
remainder of 2004, particularly in bedding and furniture.
This line is being expanded in 2005 with new furniture,
bedding and window coverings collections. In early 2005,
the Company launched nicole by Nicole Miller, and W-work
to weekend, an expansion of the Companys Worthington
private brand, a dressy casual collection for women. Gross Margin (BAR CHART) ($ in millions )
    
    2004
    
    
    2003
    
    
    2002FIFO gross margin
    
    $
    7,121
    
    
    $
    6,614
    
    
    $
    6,340LIFO credit/(charge)
    
    
    18
    
    
    
    6
    
    
    
    (6
    )LIFO gross margin
    
    $
    7,139
    
    
    $
    6,620
    
    
    $
    6,334As a percent of sales
    
    
    38.7
    %
    
    
    37.2
    %
    
    
    35.9
    %
 Gross margin improved for the fourth consecutive
year and was $7,139 million compared to $6,620 million in
2003 and $6,334 million in 2002. As a percent of sales,
gross margin improved 150 basis points over last year and
represents a 690 basis-point increase over the past four
years, which restores the Companys gross margin to
competitive levels and was part of the turnaround plan.
The continued improvement reflects better inventory
management, good seasonal transition, better timing of
clearance markdowns, more consistent execution and
continuing benefits from the centralized merchandising
model. Benefits of the centralized model, which was
substantially in place by the end of 2004, have included
enhanced merchandise offerings, an integrated marketing
plan, leverage in the buying and merchandising process
and more efficient selection and allocation of
merchandise to individual department stores. Gross
margin also reflects initial benefits from the Companys
new planning, allocation and replenishment systems, which
were rolled out in the latter part of the year.  2004 ANNUAL REPORT
    
    8
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Selling, General and Administrative (SG&A) Expenses (BAR CHART) ($ in millions)
    
    2004
    
    
    2003
    
    
    2002SG&A expenses
    
    $
    5,827
    
    
    $
    5,830
    
    
    $
    5,634As a percent of sales
    
    
    31.6
    %
    
    
    32.8
    %
    
    
    32.0
    %
 Expenses were well leveraged in 2004, improving 120
basis points as a percent of sales. The Company
experienced savings in labor costs, centralized store
expense management and a decline in non-cash pension
costs. SG&A leverage reflects initial savings from the
Companys previously announced cost savings initiative
that focuses on supply chain efficiencies, store workload
and expense management, more productive marketing events
and other operating efficiencies. This initiative is on
target and delivered more than twice the $50 million
savings planned for 2004. Further incremental savings are
expected in 2005 as the initiatives become fully
implemented. 2004 expense included a fourth quarter
pre-tax charge of $8 million, or about $0.02 per share,
related to lease accounting adjustments made primarily to
synchronize depreciation and amortization periods with
related lease terms. SG&A expenses for 2003 were higher than 2002 due to
planned increases in advertising and non-cash pension
expense, costs related to the Companys new store
distribution center network and $65 million attributable
to the 53rd week in 2003. The new store distribution
center network for department stores is a key component
of the Companys centralization initiative, and the
Company expects to experience continued benefits through
operational efficiencies and improved flow of merchandise
as the distribution process matures. Also included in
SG&A expenses in 2003 was a $21 million charge for costs
related to the implementation of the cost savings
initiative discussed above. Operating Profit (BAR CHART) ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Operating profit(1)
    
    $
    1,312
    
    
    $
    790
    
    
    $
    700As a percent of sales
    
    
    7.1
    %
    
    
    4.4
    %
    
    
    3.9
    %
   (1)
    
    Excludes Net Interest Expense, Bond Premiums and Unamortized Costs, and
Real Estate and Other. Operating profit improved for the fourth
straight year, increasing 66% in 2004, driven by sales
gains, continued improvement in gross margin and expense
leverage. Operating profit and its components (sales, gross
margin and SG&A) are the key measurements on which
management evaluates the financial performance of the
retail operations. Real estate activities, gains and
losses on the sale of real estate properties, asset
impairments, other charges associated with closing store
and catalog facilities and senior management
transition costs are evaluated separately from
operations and are recorded in Real Estate and Other in
the Consolidated Statements of Operations. The Company has focused on consistent execution and
sustained operating performance in a centralized
environment, with improved merchandise offerings, a more
integrated and powerful marketing message and better
leveraging of expenses. The Companys previously stated
financial goal was to generate operating profit of 6% to
8% of sales in 2005. With 2004 operating profit reaching
7.1% of sales, the Company has met this goal one year
earlier than planned. Progress toward further improvement
in profitability is impacted by customers response to
the Companys merchandise offerings, competitive
conditions, the effects of current economic conditions,
continued improvement in gross margin and expense
leverage. Net Interest Expense Net interest expense totaled $233 million, $261
million and $226 million in 2004, 2003 and 2002,
respectively. The decrease in 2004 is attributable to the
Companys execution of its debt reduction program,
resulting in $1.7 billion of long-term debt retirements.
The increase in net interest expense in 2003 was
primarily attributable to the increased debt level in
2003, particularly the $600 million of debt issued early
in the year, as well as lower returns on short-term
investments. Long-term debt of approximately $442 million
matured and was paid in 2003. See Note 2 for an
explanation of interest expense allocated to Eckerd. Bond Premiums and Unamortized Costs During 2004, the Company incurred $47 million of
call premiums and unamortized costs to redeem the
securities included in the capital structure
repositioning, which is discussed on page 12. These costs
are reflected in Bond Premiums and Unamortized Costs in
the Consolidated Statements of Operations. Real Estate and Other Expense/(Income) ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Real estate activities
    
    $
    (30
    )
    
    $
    (28
    )
    
    $
    (25
    )Net gains from sale
of real estate
    
    
    (8
    )
    
    
    (51
    )
    
    
    (16
    )Asset impairments, PVOL(1)
and other unit closing costs
    
    
    19
    
    
    
    57
    
    
    
    75Management transition costs
    
    
    29
    
    
    
    
    
    
    
    Other
    
    
    2
    
    
    
    5
    
    
    
    25Total
    
    $
    12
    
    
    $
    (17
    )
    
    $
    59
   (1)
    
    Represents the present value of operating leases. Real estate activities consist of operating
income for the Companys real estate subsidiaries. The
Company recognized net  2004 ANNUAL REPORT
    
    9
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations gains on the sale of facilities that were no longer
being used in Company operations and investments in real
estate partnerships. In 2004, the Company recorded charges of $19 million
for asset impairments, the present value of operating
lease obligations (PVOL) and other unit closing costs.
These costs consisted of $12 million of asset impairments
and $7 million of expenses related to PVOL and other
costs for closed units. Impairments relate primarily to
department stores and are the result of the Companys
ongoing process of evaluating the productivity of its
asset base, as described under Valuation of Long-Lived
Assets on page 19. In the fourth quarter of 2004, the Company recorded
a $29 million charge related to the previously announced
senior management transition. The Company recorded charges of $57 million in 2003
related primarily to asset impairments, accelerated
depreciation for closed catalog facilities and PVOL
related to closed department stores. The Company recorded charges of $75 million in 2002
related primarily to asset impairments and PVOL for
certain closed department stores, catalog and other
facilities. Other expenses in 2002 included operating losses of
$10 million related to third-party fulfillment operations
that were discontinued in 2002. Income Taxes The overall effective tax rates for continuing
operations were 34.7%, 33.2% and 31.5% for 2004, 2003 and
2002, respectively. The 2004 rate increase is primarily
due to improved earnings, which decreased the favorable
impact of permanent adjustments, principally the
deduction of dividends paid to the Companys savings
plan. The income tax rate was lower in 2002 than what it
otherwise would have been due to the tax law change
allowing the deductibility of all dividends paid to the
Companys savings plan, with a one-time provision to
include certain of the prior years dividends. Due to current income levels, certain state tax
planning benefits have not been utilized, resulting in a
lower tax benefit. Valuation allowances have been
established for tax benefits the Company does not expect
to realize due to short carryforward periods in certain
states. These allowances were $102 million and $108
million at year-end 2004 and 2003, respectively. FINANCIAL CONDITION Liquidity and Capital Resources The Companys financing strategy has been successful
in providing time and resources to support the business
turnaround during the last four years. The Company has
continued to strengthen its financial position through
improved operating performance, free cash flow and the
2004 sale of Eckerd. At year-end 2004, the Company had approximately $4.7
billion of Cash and Short-Term Investments, which
exceeded the $3.9 billion of outstanding long-term debt,
including current maturities. During 2005, the Company
plans to use approximately $2.2 billion of cash to
complete the 2004 and 2005 capital structure
repositioning plans, which include $1.75 billion of
common stock repurchases and approximately $450 million
of debt retirements. In addition to its cash position,
the Company expects to obtain a new $1.2 billion
revolving credit facility in April 2005. It is expected
that the proposed new bank line of credit will have a
five-year term and no pledge of collateral. It is
expected to replace the current $1.5 billion bank line
that includes a pledge of inventory as collateral and is
scheduled to mature in May 2005. The dollar amount of the
credit facility is being decreased due to the sale of
Eckerd. Going forward, the Company will continue to maintain
a strong liquidity position and financial flexibility to
provide the necessary resources for the operational and
strategic needs of the business. Credit Ratings As of March 18, 2005, the Companys credit ratings
and outlook were as follows: Senior
    
    
    Long-TermImplied
    
    
    Debt
    
    
    OutlookMoodys Investors Service, Inc.
    
    Ba1
    
    Ba2
    
    StableStandard & Poors Ratings Services
    
    BB+
    
    BB+
    
    PositiveFitch Ratings
    
    N/A
    
    BB+
    
    Positive
 During 2004, Moodys raised its senior implied credit
rating for the Company from Ba2 to Ba1, the highest
non-investment grade rating, and its senior unsecured
debt rating from Ba3 to Ba2. The Company has maintained
Moodys Investors Services highest liquidity rating
(SGL-1) as a result of its strong liquidity position. On
March 8, 2005, Standard & Poors raised its outlook to
Positive. During 2004, Fitch Ratings upgraded its
credit ratings on the Companys $1.5 billion secured bank
facility from BB+ to BBB- and its senior unsecured notes
from BB to BB+. Cash Flows The following is a summary of the Companys cash
flows from operating, financing and investing activities: ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Net cash provided by/(used in):Operating activities(1)
    
    $
    1,127
    
    
    $
    812
    
    
    $
    522Investing activities
    
    
    4,288
    
    
    
    (253
    )
    
    
    (277
    )Financing activities
    
    
    (2,656
    )
    
    
    25
    
    
    
    (1,062
    )Cash (paid to)/received from
discontinued operations
    
    
    (1,066
    )(2)
    
    
    (64
    )
    
    
    451Net increase/(decrease) in cash
and short-term investments
    
    $
    1,693
    
    
    $
    520
    
    
    $
    (366
    )
   (1)
    
    Includes $300 million ($190 million after tax)
discretionary cash contributions to the Companys
qualified pension plan in 2004, 2003 and 2002.(2)
    
    Includes $822 million of income taxes paid related to the sale of Eckerd. Cash Flow from Operating Activities The continued improvement in operating cash flow was
primarily attributable to improved operating performance
and better inventory management. In each of the three
years presented, the Company made a $300 million ($190
million after tax) discretionary contribution to its
qualified pension plan. Cash Flow from Investing Activities Gross cash proceeds of $4.7 billion were received
from the Eckerd sale, which closed on July 31, 2004.
After deducting taxes, fees, other transaction costs and
estimated post-closing adjustments, the net cash proceeds
from the Eckerd sale are expected to total approximately
$3.5 billion. In 2003, the Company received gross
proceeds of $20 million related to the sale of its six
Mexico department stores. Capital expenditures, including capitalized software
costs, were $412 million, $373 million and $315 million
in 2004, 2003 and 2002, respectively, and related
primarily to investments in new/relocated stores,
renewals of existing space and technology improvements. During 2004, the Company opened 14 new or relocated
stores. Management expects 2005 capital expenditures to
be approximately $700 million, with spending primarily
related to about 20 planned new and relocated stores, 12
of which will be off-mall, upgrading of existing space
and new point-of-sale technology. Proceeds from the sale of closed units were $34
million for 2004, compared to $100 million and $38
million in 2003 and 2002, respectively. Cash Flow from Financing Activities Debt As a part of the Companys $2.3 billion debt
reduction program announced in August 2004, approximately
$1.7 billion of  2004 ANNUAL REPORT
    
    10
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations on- and off-balance sheet obligations were retired
during 2004 as follows:  
    JCPs 7.375% Notes in the amount of $208 million
matured and were paid.
    JCP retired its 9.75% Debentures Due 2021. Of
the total balance of $117.2 million, $25 million
was retired at par, and the remaining $92.2 million
was redeemed at a price of 103.2% plus accrued
interest.
    JCP retired the entire $195.7 million balance of
its 8.25% Debentures Due 2022. $37.5 million of the
balance was retired at par, with the remaining
$158.2 million being redeemed at a price of
103.096% plus accrued interest.
    JCP redeemed its $200 million face amount 6.0%
Original Issue Discount Debentures Due 2006. At
the date of redemption, these debentures had a
recorded balance of $175 million, due to the
unamortized discount of $25 million.
    The Company purchased approximately $100 million
of JCPs 7.6% Notes Due 2007 in the open market.
    The Company called all of JCPs outstanding $650
million 5.0% Convertible Subordinated Notes Due
2008. Holders of the Notes had the option to
convert the Notes into shares of the Companys
common stock at a conversion price of $28.50. All
but $0.7 million of the Notes were converted into
approximately 22.8 million shares, and the
remaining Notes were redeemed at a price of 102.5%
plus accrued interest.
    As reflected in Cash (Paid to)/Received from
Discontinued Operations on the Consolidated
Statements of Cash Flows, Eckerds managed care
receivables securitization program was paid off for
a total of $221 million and the program was
terminated. During 2003:  
    The Company issued $600 million principal amount
of unsecured 8.0% Notes Due 2010 at an effective
interest rate of 8.125%.  
    The Company retired $442 million of long-term
debt, principally debt issues that matured during
2003. During 2002:  
    The Company completed a debt exchange in which
certain bondholders tendered approximately $227
million principal amount of three existing debt
issues in exchange for new 9.0% Notes Due 2012 with
a principal amount of approximately $230 million.
Bondholders exchanged $79 million principal amount
of the Companys 6.125% Notes Due 2003, $67 million
principal amount of its 7.375% Notes Due 2004 and
$81 million principal amount of its 6.9% Debentures
Due 2026. This transaction effectively extended
the maturity on amounts represented by the
exchanged notes and strengthened the Companys
liquidity.  
    Approximately $920 million of long-term debt
matured and was paid. Equity During 2004, the Company returned
approximately $2.1 billion to stockholders through common
stock repurchases and dividend payments. The Company
repurchased 50.1 million shares of common stock for
approximately $2.0 billion, including approximately $51
million of cash paid after January 29, 2005 for
settlement of repurchases. Common stock is retired on the
same day it is repurchased and the related cash
settlements are completed on the third business day
following the repurchase. No common stock repurchases
were made during 2003 or 2002. JCPenney paid quarterly dividends on its common
stock of $0.125 per share in 2004, 2003 and 2002. The
Companys Board of
Directors reviews the dividend policy and rate on a
quarterly basis, taking into consideration the overall
financial and strategic outlook for the Company,
earnings, liquidity and cash flow projections, as well as
competitive factors. The Company also paid semi-annual
dividends on its Series B ESOP Convertible Preferred
Stock at an annual rate of $2.37 per common share
equivalent, until all outstanding shares were converted
to common shares on August 26, 2004. Net proceeds from the exercise of stock options were
approximately $248 million in 2004, compared to $31
million in 2003 and $9 million in 2002. Free Cash Flow from Continuing Operations ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Net cash provided by
operating activities (GAAP)
    
    $
    1,127
    
    
    $
    812
    
    
    $
    522Less:Capital expenditures
    
    
    (412
    )
    
    
    (373
    )
    
    
    (315
    )Dividends paid
    
    
    (150
    )
    
    
    (160
    )
    
    
    (161
    )Plus:Proceeds from sale of assets
    
    
    34
    
    
    
    100
    
    
    
    38Free cash flow from
continuing operations
    
    $
    599
    
    
    $
    379
    
    
    $
    84
 Free cash flow is an important financial measure,
which is widely focused upon by investors, the rating
agencies and banks. Although it is not a GAAP measure, it
is derived from components of the Companys consolidated
GAAP cash flow statement. Positive free cash flow
generated by a company indicates the amount of cash
available for reinvestment in the business, or cash that
can be returned to investors through increased dividends,
stock repurchase programs, debt retirements, or a
combination of these. Conversely, negative free cash flow
indicates the amount of cash that must be raised from
investors through new debt or equity issues, reduction in
available cash balances or a combination of these. The Company generated $599 million of free cash flow
in 2004, which represented the fifth consecutive year of
positive free cash flow. The improvement from 2003 to
2004 was primarily the result of higher income from
continuing operations. Cash Flow and Financing Outlook The Companys financial position strengthened
significantly during 2004 as a result of improved
operating performance, positive free cash flow, the sale
of Eckerd and the capital structure repositioning
program. As of year-end 2004, Cash and Short-Term
Investments were approximately $4.7 billion, of which,
approximately $2.2 billion is planned to be used during
2005 to complete the 2004 and 2005 capital structure
repositioning programs. In accordance with its financing strategy, the
Company expects to maintain a strong liquidity position.
Until the Companys credit ratings improve to
investment-grade levels, access to the capital markets
for cash needs will retain an element of uncertainty. As
such, management intends to maintain sufficient cash
investment levels to ensure support for strategic and
operational business needs, long-term debt maturities,
dividends and contingency items, such as the cash
contributions made to the Companys qualified pension
plan during the 2002-2004 period. For 2005, free cash flow is expected to be
approximately $100 million, reflecting an increase in
capital expenditures to $700 million in support of the
Companys investment in both new and existing stores, as
well as new point-of-sale technology. In accordance with its long-term financing strategy, the  2004 ANNUAL REPORT
    
    11
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Company manages its financial position on a
multi-year basis and may access the capital markets
opportunistically. As a result of its strong liquidity
position, the Company does not anticipate that additional
external financing will be required in 2005 to fund its
operating or strategic initiatives. Additionally, the
Company does not expect to borrow under its credit
facility except to support ongoing letters of credit. A
new $1.2 billion facility is expected to close in April
2005, and will replace the Companys existing $1.5
billion credit facility. Financial Position 2004 Capital Structure Repositioning Plan In August 2004, the Company initiated a major equity
and debt reduction program focused on enhancing
stockholder value, strengthening the capital structure
and improving the credit rating profile. The Company is
using the $3.5 billion in expected net cash proceeds from
the sale of the Eckerd drugstore operations and $1.1
billion of existing cash balances to fund the program,
which is expected to be completed by the end of the
second quarter of 2005. This program consists of the
following: Debt Reduction Program The Companys debt
reduction program consisted of planned debt retirements
totaling $2.3 billion, including the now completed
conversion of $650 million of convertible debt and JCPs
$400 million 7.4% Debentures Due 2037, which were subject
to redemption at the option of the holders. Upon
expiration of the put option on March 1, 2005, virtually
all of the holders extended their debentures to the
stated 2037 maturity date. During 2004, the Company reduced debt by
approximately $1.7 billion, with the $650 million debt
conversion mentioned above, $822 million of cash
payments, and the termination of the $221 million Eckerd
securitized receivables program. The 2004 debt reduction program will be completed
upon the payment of $193 million of long-term debt
scheduled to mature in May 2005. Series B Convertible Preferred Stock RedemptionOn
August 26, 2004, the Company redeemed, through conversion
to common stock, all of its outstanding shares of Series
B ESOP Convertible Preferred Stock (Preferred Stock), all
of which were held by the Companys Savings, Profit
Sharing and Stock Ownership Plan, a 401(k) savings plan.
Each preferred stockholder received 20 equivalent shares
of JCPenney common stock for each one share of Preferred
Stock in their Savings Plan account in accordance with
the original terms of the Preferred Stock. Preferred
Stock shares, which are included in the diluted earnings
per share calculation as appropriate, were converted into
approximately nine million common stock shares. Annual
dividend savings will approximate $11 million after tax. Common Stock Repurchases The Company currently is
executing a common stock repurchase program of up to $3.0
billion, including the repurchase of up to $650
million of common stock that had been contingent upon the
now-completed conversion of JCPs 5.0% Convertible
Subordinated Notes Due 2008. Share repurchases have been and will continue to be made
in open-market transactions, subject to market
conditions, legal requirements and other factors. The
Company repurchased and retired 50.1 million shares of
common stock during 2004 at a cost of approximately
$1,952 million. This represents approximately two-thirds
of the total planned common stock repurchases under the
2004 program. As of January 29, 2005, approximately $1.0
billion remained authorized for share repurchases. From
January 30, 2005 through March 18, 2005, the Company
repurchased an additional 1.7 million shares of common
stock at a cost of approximately $82 million, bringing
the total repurchases to date up to 51.8 million shares
at a cost of approximately $2,034 million. Common Stock OutstandingDuring 2004, the number
of outstanding shares of common stock changed as follows,
primarily as a result of the ongoing capital structure
repositioning program: Outstanding(in millions)
    
    Common SharesBalance as of January 31, 2004
    
    
    274Repurchases of common stock
    
    
    (50
    )Conversion of $650 million of convertible
debt at $28.50 per share
    
    
    23Redemption of preferred stock
    
    
    9Exercise of stock options
    
    
    13Other
    
    
    2Balance as of January 29, 2005
    
    
    271
 2005 Capital Structure Repositioning Plan On March 18, 2005, the JCPenney Board of Directors
approved a new $1 billion capital structure repositioning
program, which consists of $750 million of additional
common stock repurchases and $250 million purchases of
debt in the open market. The 2005 program is expected to
be funded with existing cash and short-term investments. Common Stock Repurchases The Company will expand
its share repurchase plan to include an additional $750
million of common stock repurchases in fiscal 2005. Share
repurchases will continue to be made periodically in
open-market transactions, subject to market conditions,
legal requirements and other factors. Open-market Debt PurchasesThe Company expects to
purchase $250 million of debt in the open market during
2005. The Company expects to incur approximately $30
million in pre-tax charges for call premiums related to
the planned open-market purchases. Debt Percent to Total Capital The Company manages its capital structure to ensure
financial flexibility and access to capital, at a
competitive cost, necessary to accomplish its business
strategies. Management considers all on-and off-balance
sheet debt in evaluating the
Companys overall liquidity position and capital
structure. Off-balance sheet debt consists of the present
value of operating leases (PVOL), which are a  2004 ANNUAL REPORT
    
    12
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations fundamental part of the Companys store operations. While this ratio is not intended to be a substitute
for the comparable GAAP measure, management believes that
this provides a more comprehensive and realistic view of
financial leverage. Debt investors and the credit rating
agencies also consider off-balance sheet debt when
evaluating financial leverage. Debt percent to total capital, both including and
excluding the impact of PVOL, is as follows: ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Long-term debt(1)
    
    $
    3,923
    
    
    $
    5,356
    
    
    $
    5,173Short-term debt
    
    
    22
    
    
    
    18
    
    
    
    13Total debt
    
    
    3,945
    
    
    
    5,374
    
    
    
    5,186PVOL
    
    
    711
    
    
    
    657
    
    
    
    659Total debt, including PVOL
    
    
    4,656
    
    
    
    6,031
    
    
    
    5,845Consolidated equity
    
    
    4,856
    
    
    
    5,425
    
    
    
    6,370Total capital(2)
    
    $
    9,512
    
    
    $
    11,456
    
    
    $
    12,215Debt percent to total capital
    
    
    44.8%
    (3)
    
    
    49.8
    %
    
    
    44.9
    %Debt percent to total capital,
including PVOL
    
    
    48.9%
    (3)
    
    
    52.6
    %
    
    
    47.9
    %
   (1)
    
    Includes current maturities, capital leases and other.(2)
    
    Eckerd PVOL of $3.3 billion and $2.9 billion for 2003
and 2002, respectively, and securitization of receivables
of approximately $200 million for both 2003 and 2002 have
been excluded due to Eckerd being reported as a
discontinued operation.(3)
    
    Assuming the completion of $1 billion of common stock
repurchases in the 2004 Capital Structure Repositioning
Plan, debt percent to total capital would be 50.9% and
debt percent to total capital, including PVOL, would be
55.0%. The Companys capital structure in 2004 was
positively impacted by improved earnings and $599 million
of positive free cash flow generated from continuing
operations. The Eckerd sale and the subsequent capital
structure repositioning plan also served to strengthen
the Companys financial position. Going forward, the
financing strategy is well-positioned to support the
Companys business plans. In addition to preserving
strong liquidity and financial flexibility, management
will continue to evaluate opportunities to deliver value
to stockholders, strengthen the financial position and
improve the credit rating profile in support of its
objective to restore the Companys credit ratings to an
investment-grade level. Working Capital ($ in millions)
    
    2004
    
    
    2003Current assets
    
    $
    8,427
    
    
    $
    6,590Less: Current liabilities
    
    
    (3,447
    )
    
    
    (3,754
    )Working capital
    
    $
    4,980
    
    
    $
    2,836
 Working capital increased approximately $2.2 billion
at year-end 2004 to $5.0 billion compared to $2.8 billion
at year-end 2003. This is primarily the result of a net
increase in Cash and Short-Term Investments from better
operating performance that generated approximately $600
million of free cash flow, along with the proceeds from
the Eckerd sale. Total LIFO inventory was $3,169 million at the end
of 2004 compared with $3,156 million at the end of 2003.
FIFO
merchandise inventory was $3,194 million at the end
of 2004, basically flat with last years $3,199 million.
After an effective transition from fall and holiday
assortments, the Company was well positioned with fresh
merchandise for the Spring season. Inventory reflected a
good balance among seasonal, basics and key items. Using
new systems and the network of store distribution centers, the Company has continued to enhance its
ability to allocate and flow merchandise to stores
in-season by recognizing sales trends earlier and
accelerating receipts, replenishing individual stores
based on rates of sale and consistently providing high
in-stock levels in basics and advertised items. This
continued improvement of inventory management has helped
to drive more profitable sales. Credit Agreement The Company has a $1.5 billion revolving credit
agreement (credit facility) that is scheduled to expire
in May 2005. Indebtedness incurred under the credit
facility is collateralized by all eligible domestic
inventory, as defined in the credit facility agreement.
This credit facility provides the Company with an
additional source of liquidity for working capital needs
and letter of credit support. During 2004, the credit
facility was amended to permit the sale of Eckerd
Corporation and its affiliates and assets, allow a
broader range of cash investments and permit issuing
banks to extend maturities of certain letters of credit
past the expiration of the credit facility as long as
they are collateralized with cash at that time. No
borrowings have been made under this credit facility,
other than the issuance of import and standby letters of
credit, which totaled $153 million as of year-end 2004.
The Company was in compliance with all financial
covenants of the credit facility as of January 29, 2005.
See further discussion of these covenants below. As discussed previously, the Company is planning to
replace its $1.5 billion credit facility with a new $1.2
billion credit facility in April 2005. The dollar amount
of the credit facility is being decreased due to the
Eckerd sale. It is expected that the new credit facility
will have no collateral requirement and provide adequate
liquidity for the Companys peak seasonal working capital
needs. Debt Covenants and Other Under the $1.5 billion credit facility discussed
above, the Company is required to maintain an asset
coverage ratio, defined as eligible inventory to total
revolving credit exposure, of at least 1.75 to 1.0. Given
that there were no borrowings other than the issuance of
letters of credit, this ratio was 20.3 to 1.0 at year-end
2004, far exceeding the requirement. Additionally, the $1.5 billion credit facility
includes a leverage ratio covenant, which consists of a
maximum ratio of total debt to consolidated earnings
before interest, taxes, depreciation and amortization
(EBITDA, as defined in the credit agreement), as measured
on a trailing four-quarters basis, calculated at each
quarter end. As of year-end 2004, the actual leverage
ratio was 2.14 to 1.0, well within the prescribed limit
of 3.75 to 1.0. The Company also has indentures covering
approximately $275 million of long-term debt that contain
a financial covenant requiring the Company to have a
minimum of 200% net tangible assets to senior funded
indebtedness (as defined in the respective indentures).
These indentures permit the Company to issue additional
long-term debt if it is in compliance with the covenant.
At year-end 2004, the Companys percent of net tangible
assets to senior funded indebtedness was 302%. The Companys liquidity is enhanced by the fact that
the current debt portfolio and material lease agreements
contain no provisions that could trigger acceleration of
payments or collateral support in the event of adverse
changes in the Companys financial condition.  2004 ANNUAL REPORT
    
    13
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations FIFO EBITDA ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Income from continuing
operations before
income taxes (GAAP)
    
    $
    1,020
    
    
    $
    546
    
    
    $
    415Add back/(deduct):Net interest expense
    
    
    233
    
    
    
    261
    
    
    
    226Bond premiums and
unamortized costs
    
    
    47
    
    
    
    
    
    
    
    Real estate and other
expense/(income)
    
    
    12
    
    
    
    (17
    )
    
    
    59Depreciation and
amortization
    
    
    368
    
    
    
    372
    
    
    
    365LIFO (credit)/charge
    
    
    (18
    )
    
    
    (6
    )
    
    
    6FIFO EBITDA of continuing
operations (non-GAAP)
    
    $
    1,662
    
    
    $
    1,156
    
    
    $
    1,071
 Earnings before interest, taxes, depreciation and
amortization and LIFO (FIFO EBITDA) of continuing
operations was $1,662 million, $1,156 million and $1,071
million for 2004, 2003 and 2002, respectively. The
improvement over the past three years is due to
consistent execution of the Companys turnaround
strategies and resulting higher income from continuing
operations. FIFO EBITDA is included in the leverage ratio
covenant in the Companys credit agreement and is a key
measure of cash flow generated and is focused upon by
debt investors and the credit rating agencies. It is
provided as an alternative assessment of operating
performance. It is not intended to be a substitute for
GAAP measurements and may vary for other companies. Contractual Obligations and Commitments Aggregated information about the Companys contractual obligations and commitments as of
January 29, 2005 is presented in the following tables. Contractual Obligations ($ in millions)
    
    Total
    
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009
    
    
    After5 yearsLong-term debt, including current maturities
    
    $
    3,923
    
    
    $
    459
    
    
    $
    21
    
    
    $
    433
    
    
    $
    203
    
    
    $
    
    
    
    $
    2,807Short-term
debt - Renner
    
    
    22
    
    
    
    22
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Trade payables
    
    
    1,200
    
    
    
    1,200
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Operating leases(1)
    
    
    1,197
    
    
    
    226
    
    
    
    185
    
    
    
    149
    
    
    
    130
    
    
    
    110
    
    
    
    397Contributions to non-qualified supplemental retirement
and postretirement medical plans(2)
    
    
    504
    
    
    
    75
    
    
    
    76
    
    
    
    78
    
    
    
    81
    
    
    
    32
    
    
    
    162Contractual obligations(3)
    
    
    163
    
    
    
    107
    
    
    
    43
    
    
    
    10
    
    
    
    3
    
    
    
    
    
    
    
    Total
    
    $
    7,009
    
    
    $
    2,089
    
    
    $
    325
    
    
    $
    670
    
    
    $
    417
    
    
    $
    142
    
    
    $
    3,366
   (1)
    
    Represents future minimum lease payments for non-cancelable operating leases, including
operating lease obligations assumed when the Company terminated third-party service contracts for
certain store distribution centers.(2)
    
    Includes expected payments through 2014.(3)
    
    Consists primarily of (a) minimum purchase requirements for exclusive merchandise; (b) royalty
obligations; and (c) minimum obligations for energy services, software maintenance and network
services. The Company is predominantly engaged in the retailing business of buying and selling
merchandise. In the normal course of business, the Company issues purchase orders to
vendors/suppliers for merchandise inventory to meet customer demand for style, seasonal and basic
merchandise. The Companys purchase orders are not unconditional commitments but, rather, represent
executory contracts requiring performance by vendors/suppliers, including delivering the
merchandise prior to a specified cancellation date and meeting product specifications and other
requirements. Failure to meet agreed-upon terms and conditions may result
in the cancellation of the order. Accordingly, the table above excludes outstanding purchase
orders for merchandise inventory that has not been shipped. Under the terms of the purchase orders,
merchandise is purchased on a F.O.B. (Free on Board) shipping point basis. As a result, the cost of
merchandise shipped but not received by the Company as of year end (in-transit merchandise) is
recorded on the Consolidated Balance Sheets in Merchandise Inventory with a corresponding offset to
Trade Payables. As of January 29, 2005, the Company had approximately $364 million of domestic and
foreign in-transit merchandise, which together with trade payables for merchandise already
received, is reflected in the table above. Additionally, the Company issues letters of credit for
merchandise inventory sourced overseas, which are included in the Commitments table below. Commitments After($ in millions)
    
    Total
    
    
    2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009
    
    
    5 yearsStandby and import letters of credit(1)
    
    $
    153
    
    
    $
    153
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    
    
    
    $
    Surety bonds(2)
    
    
    80
    
    
    
    80
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    Guarantees(3)
    
    
    76
    
    
    
    
    
    
    
    8
    
    
    
    7
    
    
    
    
    
    
    
    3
    
    
    
    58Total
    
    $
    309
    
    
    $
    233
    
    
    $
    8
    
    
    $
    7
    
    
    $
    
    
    
    $
    3
    
    
    $
    58
   (1)
    
    Standby letters of credit ($143 million at January 29, 2005) are issued as collateral to a
third-party administrator for self-insured workers compensation and general liability claims. The
remaining $10 million are outstanding import letters of credit.(2)
    
    Surety bonds are primarily for previously incurred and expensed obligations related to workers
compensation and general liability claims.(3)
    
    Includes (a) $28 million for certain personal property leases assumed by the purchasers of
Eckerd; (b) $18 million on loans related to a real estate investment trust; (c) $20 million related
to a third-party reinsurance guarantee; and (d) $10 million related to certain leases for stores
that were sold in 2003, which is recorded in Accrued Expenses and Other.  2004 ANNUAL REPORT
    
    14
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Guarantees As of January 29, 2005, the Company has guarantees
of approximately $28 million for certain personal
property leases assumed by the purchasers of Eckerd,
which were previously reported as operating leases.
Currently, management does not believe that any potential
financial exposure related to these guarantees would have
a material impact on the Companys financial position or
results of operations. Additionally, the Company has
guarantees of approximately $10 million related to
certain leases for stores that were sold in 2003, which
are recorded in Accrued Expenses and Other. JCP, through JCP Realty, Inc., a wholly owned
subsidiary, has investments in 14 partnerships that own
regional mall properties, six as general partner and
eight as limited partner. JCPs potential exposure to
risk is greater in partnerships in which it is a general
partner. Mortgages on the six general partnerships total
approximately $324 million; however, the estimated market
value of the underlying properties is approximately $610
million. These mortgages are non-recourse to JCP, so any
financial exposure is minimal. In addition, the
subsidiary has guaranteed loans totaling approximately
$18 million related to an investment in a real estate
investment trust. The estimated market value of the
underlying properties significantly exceeds the
outstanding mortgage loans, and the loan guarantee to
market value ratio is less than 4% as of January 29,
2005. In the event of possible default, the creditors
would recover first from the proceeds of the sale of the
properties, next from the general partner, then from
other guarantors before JCPs guarantee would be invoked.
As a result, management does not believe that any
potential financial exposure related to this guarantee
would have a material impact on the Companys financial
position or results of operations. As part of the 2001 DMS sale, JCP signed a guarantee
agreement with a maximum exposure of $20 million. Any
potential claims or losses are first recovered from
established reserves, then from the purchaser and finally
from any state insurance guarantee fund before JCPs
guarantee would be invoked. As a result, management does
not believe that any potential exposure would have a
material effect on the Companys consolidated financial
statements. Foreign Currency Risk The Company operates 62 Renner Department Stores in
Brazil. Sales were $329 million, $273 million and $249
million for 2004, 2003 and 2002, respectively. For 2004,
other comprehensive income related to currency
translation for Brazil was a favorable adjustment of
approximately $11 million. Due to the limited nature of
foreign operations and the U.S. dollar denomination of
virtually all import contracts, management believes that
its exposure to market risk associated with foreign
currencies does not have a material impact on its
financial condition or results of operations. RISK MANAGEMENT Management recognizes its responsibility to
proactively manage risks effectively in order to maximize
enterprise value (defined as the combined market value of
the Companys debt and equity) to investors. A certain
degree of risk is inherent in operating a three-channel retailing organization. The Company has an
enterprise-wide risk management framework in place to
identify, measure and manage risks. The Companys
organizational structure, both at the Board and Company
management levels, plays a critical role in maintaining
an effective overall risk management process, as
highlighted by the risk management and monitoring
processes described below: Independent Oversight There are various committees
at the Board of Directors level that oversee the risk
governance activities of the senior management
committees. The Audit Committee is responsible for
discussion of guidelines and policies to govern the
process by which risk assessment and management is
undertaken. In addition, the Audit Committee reviews with
management the system of internal control and financial
reporting that is relied upon to provide reasonable
assurance of compliance with the Companys operational
risk management processes. The Finance Committee reviews
the Companys overall financing plan and dividend policy,
as well as the liquidity position of the Company. The
Human Resources and Compensation Committee oversees
senior management committees responsible for retirement
and welfare plans, equity and other compensation plans.
The Corporate Governance Committee monitors developments
in the governance area and recommends policies and
practices to the Board of Directors. Executive Board The Executive Board, comprised of
the top 20 members of senior management, meets monthly
and is involved in the development of corporate strategy,
monthly review of operational and financial results,
progress on planned initiatives and other matters that
relate to the leadership and management of the Company.
The Executive Board also provides direction for managing
the portfolio of risks throughout the enterprise. Capital Appropriations Committee (CAC) The CAC
reviews and approves individual capital and systems
projects, as well as contractual commitments for the
purchase of non-merchandise goods and services, and
ensures proper capital allocation consistent with the
overall capital expenditure plan. Human Resources Committee (HRC) The HRC ensures
that processes are in place to provide competitive
compensation packages, associate development and training
and management succession plans. In addition, this
committee ensures appropriate management and fiduciary
responsibilities are carried out with respect to
retirement and welfare plans and manages and provides
direction for equity and compensation plan strategies. Disclosure and Controls Review Committee (DCRC) and
Sarbanes-Oxley (SOX) Compliance and Monitoring Group
The DCRC is made up of senior executives of the Company,
including the Chief Executive Officer (CEO) and the Chief
Financial Officer (CFO). The DCRC ensures that the
Companys established disclosure controls and procedures
and certification process are adhered to. Late in 2004,
the SOX Compliance and Monitoring Group was  2004 ANNUAL REPORT
    
    15
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations established and consists of associates dedicated full-time to managing the ongoing process of
monitoring and self-testing key controls throughout the organization, documenting and testing
significant changes to internal controls over financial reporting and meeting all of the related
reporting requirements. Independent Support Functions Internal Audit,
Legal and Finance support the Companys risk management
function. They operate independently of the operating
divisions of the Company. As an important component of
the Companys control structure, the Internal Audit
department reports functionally to the Audit Committee of
the Board of Directors. Internal Audit performs reviews
and completes test work to ensure that: (a) risks are
appropriately identified and managed; (b) interaction
with various internal governance groups, such as the
legal compliance coordinators, occurs as needed; (c)
significant financial, managerial and operating
information is reliable and timely; (d) associates
actions are in compliance with policies, standards,
procedures and applicable laws and regulations; (e)
resources are acquired economically, used efficiently and
adequately protected; (f) quality and continuous
improvement are fostered in the organizations control
process; and (g) significant legislative or regulatory
issues impacting the organization are recognized and
addressed appropriately. Legal compliance coordinators,
working with Internal Audit, are responsible for ensuring
that all areas of the Company have effective procedures
in place to comply with various laws and regulations and
any changes thereto. Categories of Risk Management defines risk as the potential deviation
from planned operating results that may have a negative
impact on investor enterprise value in the short or long
term. The deviation can arise from inadequate or
ineffective internal processes or systems, external
events or Company personnel. The Companys key risks and
related risk mitigation/management practices are
discussed below. Business  
    Strategic The Companys key business risk
would be the failure to consistently execute in a
centralized environment and achieve sustainable
operating performance at the Companys targeted
levels. In addition, it will be critical to
continue the positive momentum experienced over the
last four years to transition from a turnaround to
a leadership position in both sales and
profitability. A strong foundation has been built as the
Company has made the transition to a centralized
merchandising model, improved the merchandise
assortments and related marketing and strengthened
the Companys core private brands. The Company has
established centralized store distribution centers
and inventory systems that allow the Company to
improve the planning of merchandise assortments,
allocate inventory and stock stores and better track
sales trends enabling prompt replenishment and timely
pricing decisions. The Companys overall goal is to
provide customers with stylish merchandise at
competitive prices in an exciting and consistent
store environment. The
Companys initiatives over the next few years
will be to improve the customer experience by
leveraging the Companys multiple shopping channels
with coordinated merchandise assortments and
marketing events, continue to build and improve the
Companys strong private brands, invest in the
renewal of high-potential stores, expand the
Companys presence through the addition of off-mall
stores and invest in new technology. While results have been positive and the
turnaround is essentially complete, the Company will
face continued challenges, particularly as it moves
beyond the turnaround to its longer-term strategic
priorities. Key to meeting the Companys long-term
customer and financial goals is continued realization
of the benefits from centralized buying and
allocation. The effectiveness of these processes and
systems is an important component of the Companys
ability to have the right inventory at the right
place, time and price. Also key to success will be
the customers response to initiatives related to new
private brands being rolled out, such as nicole by
Nicole Miller, expansion of other private brands,
such as the Chris Madden for JCPenney Home
Collection, Turning Home into Haven, as well as
investments to make the shopping experience easier,
such as the new point-of-sale technology that will be
rolled out in 2005 and 2006.  
    Management Since 2000, the Company has hired
seasoned individuals, including executive level and
others with a breadth of experience in
merchandising, marketing, buying and allocation
under a centralized model, as well as to manage
Catalog and Internet operations. The Board of
Directors dedicated significant effort during 2004
to identify and appoint the right individual to
lead the Company beyond the turnaround. This search
led to the appointment of Myron E. Ullman, III, as
the Companys new Chairman of the Board and Chief
Executive Officer effective December 1, 2004. While the risk always exists that key management
associates could decide to leave the Company, the
depth of experience in all critical areas of the
Company mitigates that risk to a certain degree. In
addition, one of the CEOs priorities is to make
JCPenney a great place to work. This initiative,
combined with the sense of accomplishment for the
progress that has been made over the past few years,
creates an atmosphere where associates want to be
part of a winning team and should contribute to the
Companys ability to retain quality personnel over
the longer term. Financial  
    Financial Position and Liquidity The Companys
successful execution of its financing strategy over
the past four years, combined with the sale of
Eckerd in 2004, has mitigated the strategic risk
inherent during the turnaround period by providing
the financial resources necessary to increase
capital spending to fund planned department store
renewals, new mall and off-mall stores and
relocations, and to make additional investments in
technology. This has allowed the operating
leadership within the Company time to focus on
converting to a centralized merchandising
organization, enhance the merchandise assortments and
marketing efforts, with the ultimate goal of 2004 ANNUAL REPORT
    
    16
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations rebuilding the customer franchise and restoring the profitability of the Company to competitive
levels on a sustainable basis. Competitive operating profit margins are
necessary to restore the Companys return on invested
capital and return on stockholders equity to retail
industry standards and thereby improve the Companys
access to the capital markets. Until the Companys
credit ratings improve to investment-grade levels,
access to the capital markets for cash needs will
retain an element of uncertainty. As such, management
intends to maintain sufficient cash investment levels
to ensure support for strategic and operational
business needs, long-term debt maturities, dividends
and contingency items. To manage financial risk, management utilizes
scenario analysis and stress testing in the
planning process. Contingency plans are developed to
ensure financial flexibility and liquidity levels are
maintained during periods of deteriorating economic
conditions, potential shortfalls in profits and cash
flow and limited access to the capital markets. Longer term, a strong financial position is
dependent on the Company achieving a competitive
level of profitability on a sustainable basis. As a
result, management is focused on moving from
successfully executing a turnaround to achieving top
quartile performance within the department store
sector.  
    Internal Control The Company is responsible for
maintaining effective internal control over financial
reporting in order to provide reasonable assurance
regarding the reliability of financial reporting and
the preparation of financial statements for external
purposes. Under Section 404 of the Sarbanes-Oxley Act
of 2002, effective as of year-end 2004, management is
required to report publicly on the effectiveness of
the Companys internal control over financial
reporting and has included Managements Report on
Internal Control over Financial Reporting on page 23.
Additionally, the Companys external auditors are
required to express an opinion on managements
assessment as well as on the effectiveness of the
Companys internal control over financial reporting.
KPMG LLPs report is included on page 24. Ineffective
internal control over financial reporting would not
allow the Company to adequately prevent or detect
misstatement of its financial statements or adequately
safeguard the use of its assets. In preparation for the initial reporting under
Section 404, the Company established a SOX Steering
Committee to oversee the Companys progress and
status. During 2004, the Company dedicated
significant internal resources in order to ensure
that both its internal controls and the related
documentation were sufficient and to test the
effectiveness of identified key controls. As
discussed previously, going forward, the Company will
continue to dedicate full-time resources in order to
ensure that its internal control over financial
reporting remains effective and adequately
documented. Further, the Internal Audit group is in
the process of reviewing and making
recommendations for further enhancement of the
Companys fraud controls. Operational  
    Merchandise Selection and Allocation Key to
the Companys success is having merchandise in the
styles, sizes and colors that the Companys
customers want when they want it. Over the past few
years, professionals have been hired with expertise
in buying and sourcing for each merchandise
division under a centralized business model.
Additionally, as discussed previously, systems and
logistics centers have been rolled out to better
allocate and flow inventory to stores and better
track sales trends to enable prompt replenishment
and manage pricing. In addition to the Company personnel, processes
and systems, the key to merchandise selection is
listening to the customers. The Company conducts
ongoing consumer research to determine attitudes and
perceptions of the Company and its offerings versus
its competitors. This has led to significant editing
of assortments, enhancements to key private brands,
such as the Arizona apparel line, and the development
of new private brands, such as the Chris Madden for
JCPenney Home Collection, Turning Home into Haven. The end of quotas is changing the foreign
sourcing process for all retailers. With private
brands representing about 40% of total sales in 2004,
the Company has an extensive worldwide sourcing
organization that has been preparing for the end of
quotas for several years. The Company has implemented
contingency plans that include the identification of
alternate sources for product and the uninterrupted
access to product. The Company could be impacted by logistical or
other issues faced by suppliers or have an
interruption in one of its own store distribution
centers. However, the Company has a diversified
supplier base, both domestic and foreign, and is not
dependent, to any material extent, on any single
supplier. Additionally, the Company has business
continuity plans in place for all merchandise
distribution centers that would provide rerouting of
merchandise allocations to have uninterrupted flow of
merchandise to both stores and direct to customers.  
    Systems The Companys operations are dependent
upon the integrity, security and consistent
operation of various systems and data centers,
including the point-of-sale systems in the stores,
data centers that process transactions,
communication systems and various software
applications used throughout the Company to track
inventory flow, process transactions and generate
performance and financial reports. The Company seeks to minimize operational risk
associated with communication and information systems
through the development of back-up systems and
emergency plans. The Company has disaster prevention
and recovery plans in place should events occur that
could interrupt operations. Ongoing assessment and
testing is
being conducted to minimize current and future
risk. There is a process in place to provide regular
associate training, operating instructions and site
visits to help limit operational defects or mistakes. Consumer Market  
    Reputation The Companys success depends not
only on its ability to attract and retain target
customers by consistently 2004 ANNUAL REPORT
    
    17
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations offering stylish quality merchandise assortments at competitive prices, but equally on the
maintenance of its reputation among many constituents  customers, suppliers, investors and
regulators, as well as the general public  for business practices of the highest quality. Attention to integrity and reputation has always
been a key aspect of the Companys practices and
maintenance of reputation is the responsibility of
everyone in the organization. The Company supports
this individual responsibility in many ways,
including a code of ethics, training, policies and
oversight functions throughout the organization.  
    Competition, Economic Conditions and Customers
Changing Tastes and Values Competitive risk, the
economy and consumer attitudes are each important
risk factors that could impact a retail channels
or the entire Companys performance. The Company
monitors its market share and its positioning in
the retail market and adjusts its strategy as
appropriate. Typical adjustments might include
relocating stores, reviewing merchandise offerings
or pricing, changing merchandise allocations among
various store formats and locations based on
customer demand shifts and changing marketing
programs. The Company has multiple selling channels (e.g.,
department stores, catalogs and the Internet), and
many different product lines, both by type of product
(e.g., home, apparel, accessories and jewelry) and
brand (i.e., national, private and exclusive). These
factors provide diversification and a level of
mitigation relative to the Companys overall market
risk. While there is a risk of deflation across the
industry, the Company has been working with suppliers
to enhance the fabrication and features of its
products, giving its customers a better product at a
competitive price. Given the Companys high
percentage of private label merchandise, management
believes that the Company continues to be in a better
position than many of its competitors and does not
expect deflation to be a significant factor in 2005. In addition, while the Company has processes in
place to adjust to competitive and economic factors,
every company is subject to unknown or sudden shifts
in consumer spending patterns or overall economic
factors. Other Risk Factors The Companys business is subject to other risk
factors, both internal and external, that may impact
future operating and financial performance, such as
regulatory and legal risks, changes in tax laws,
inflation and the possibility of catastrophic events,
including the occurrence of significant weather-related
or other natural disasters or human-made disasters, such
as those arising from acts of terrorism. The Company has
a number of integrated programs in place to mitigate the
financial impact from property losses or third-party
liability claims. Each year, management reviews the level
of risk that will be retained
by the Company and the portion of risk that will be
supported by conventional insurance contracts. CRITICAL ACCOUNTING POLICIES The application of accounting policies
necessarily involves judgment and, in certain instances,
the use of estimates and assumptions. Different amounts
could be reported under different conditions or using
different assumptions. Management believes that the
accounting policies used to develop estimates that are
the most critical to understanding and evaluating the
Companys reported results relate to: inventory valuation
under the retail method of accounting; valuation of
long-lived assets; estimation of reserves and valuation
allowances, specifically related to closed stores,
insurance, income taxes, litigation and environmental
contingencies; and pension accounting. The Companys management has discussed the
development and selection of these critical accounting
policies with the Audit Committee of the Companys Board
of Directors and its independent auditors. The Audit
Committee has reviewed the Companys disclosures relating
to these policies in this Managements Discussion and
Analysis. For a complete list of the Companys
significant accounting policies, see Note 1 to the
consolidated financial statements that appear after this
discussion. Inventory valuation under the retail method: Inventories are valued primarily at the lower of
cost (using the last-in, first-out or LIFO method) or
market, determined by the retail method for department
stores and store distribution centers, and standard cost,
representing average vendor cost, for Catalog/Internet
and regional warehouses. Under the retail method,
inventory is segregated into groupings of merchandise
having similar characteristics and is stated at its
current retail selling value. Inventory retail values are
converted to a cost basis by applying specific average
cost factors for each grouping of merchandise. Cost
factors represent the average cost-to-retail ratio for
each merchandise group based on the beginning of period
inventory plus the periods purchase activity, as
calculated on a monthly basis, for each store location.
Accordingly, a significant assumption under retail method
accounting is that the inventory in each group of
merchandise is similar in terms of its cost-to-retail
relationship and has similar gross margin and turnover
rates. Management monitors the content of merchandise in
these groupings to ensure distortions that would have a
material effect on inventory valuation do not occur. The
retail method inherently requires management judgment and
certain estimates that may significantly impact the
ending inventory valuation at cost as well as gross
margin. Among others, two of the most significant
estimates are permanent reductions to retail prices
(markdowns) used to clear unproductive or slow-moving
inventory and shortage (shrinkage). Permanent markdowns designated for clearance
activity are recorded at the point of decision, when the
utility of inventory has diminished, versus the point of
sale. Factors considered in the determination of
permanent markdowns include: current and anticipated
demand, customer preferences, age of the
merchandise and style trends. The corresponding
reduction to gross margin is also recorded in the period
the decision is made. Shrinkage is estimated as a percentage of sales for
the period from the last inventory date to the end of the
fiscal year. Physical 2004 ANNUAL REPORT
    
    18
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations inventories are taken at least annually for all department stores, store distribution centers,
warehouses and Catalog/Internet fulfillment centers on a staggered basis throughout the year, and
inventory records are adjusted accordingly. The shrinkage rate from the most recent physical
inventory, in combination with current events and historical experience, is used as the standard
for the shrinkage accrual rate for the next inventory cycle. To estimate the effects of inflation/deflation on
ending inventory, an internal index measuring price
changes from the beginning to the end of the year is
calculated using merchandise cost data at the item level. Valuation of long-lived assets: Management evaluates recoverability of long-lived
assets whenever events or changes in circumstances
indicate that the carrying value may not be recoverable,
for example, when a stores performance falls below
minimum Company standards. In the fourth quarter of each
fiscal year, management reviews the performance of
individual stores. Underperforming stores are selected
for further evaluation of the recoverability of the
carrying amounts. If the evaluation indicates that the
carrying amount of the asset may not be recoverable, the
potential impairment is measured as the excess of
carrying value over the fair value of the impaired asset.
Management estimates fair value based on a projected
discounted cash flow method using a discount rate that is
considered to be commensurate with the risk inherent in
the Companys current business model. Additional factors
are taken into consideration, such as local market
conditions, operating environment, mall performance and
other trends. Impairment losses totaling $12 million, $26 million
and $47 million in 2004, 2003 and 2002, respectively,
were recorded for underperforming department stores and
underutilized Catalog/Internet and other facilities. If
different assumptions were made or different market
conditions were present, any estimated potential
impairment amounts could vary from recorded amounts. Reserves and valuation allowances: Based on an overall analysis of store performance
and expected trends, management periodically evaluates
the need to close under-performing stores. Reserves are
established at the point of closure for the present value
of any remaining operating lease obligations (PVOL), net
of estimated sublease income, and at the point of
decision for severance and other exit costs, as
prescribed by SFAS No. 146, Accounting for Costs
Associated with Exit or Disposal Activities. See further
discussion in Note 1 on page 33. Two key assumptions in
calculating the reserve include the timeframe expected to
terminate lease agreements and estimations of other
related exit costs. If different assumptions were used
regarding the timing and potential termination costs, the
resulting reserves could vary from recorded amounts.
Reserves are reviewed periodically and adjusted when
necessary. The Company records a provision for workers
compensation and general liability risk based on
independent actuarial best estimates of claims that have
been reported, as well as those
incurred but not yet reported, resulting from
historical experience and current data. Total estimated
claim amounts are discounted using a risk-free rate.
The actuary provides a range of estimated liability and
the Company targets the provision above the midpoint of
that range. Income taxes are estimated for each jurisdiction in
which the Company operates. This involves assessing the
current tax exposure together with temporary differences,
which result from differing treatment of items for tax
and book purposes. Deferred tax assets and liabilities
are provided for based on these assessments. Deferred tax
assets are evaluated for recoverability based on
estimated future taxable income. To the extent that
recovery is deemed unlikely, a valuation allowance is
recorded. Deferred tax liabilities are provided for when
the Company considers that it is probable that taxes will
be due. Deferred liabilities are evaluated and adjusted
as appropriate, considering the progress of audits of
various taxing jurisdictions. Management does not expect
the outcome of tax audits to have a material adverse
effect on the Companys financial condition, results of
operations or cash flow. Many years of data have been
incorporated into the determination of tax reserves and
the Companys estimates have historically been
reasonable. The Company is involved in legal proceedings and
governmental inquiries associated with employment and
other matters. Reserves have been established based on
managements best estimates of the Companys potential
liability in these matters. This estimate has been
developed in consultation with in-house and outside
counsel. Management does not believe that these
proceedings and inquiries, either individually or in the
aggregate, will have a material adverse effect on the
Companys consolidated financial position, results of
operations or cash flow. See further discussion in Note
20. Reserves for potential environmental liabilities
related to facilities, most of which the Company no
longer operates, are adjusted based on the Companys
experience, as well as consultation with independent
engineering firms and in-house legal counsel, as
appropriate. Management continues to believe the reserve
is adequate to cover estimated potential liabilities. Pension:Pension accounting The Company sponsors a
non-contributory qualified defined benefit pension plan
(the primary pension plan), supplemental retirement plans
for certain management associates and other
postretirement benefit plans. Refer to Note 17 for
further discussion of these plans. Major assumptions used
in accounting for these plans include the expected
long-term rate of return on plan assets and the discount
rate. Assumptions are determined based on Company
information and market indicators and are evaluated at
each annual measurement date (October 31). A change in
any of these assumptions would have an effect on the
Companys pension and other postretirement benefit plan
costs. These assumptions require significant judgment,
and the calculation of pension costs is relatively
complex. The Company utilizes third parties, including
actuarial and investment advisory firms, to
help evaluate annually the appropriateness of the
expected rate of return, the discount rate and other
pension plan assumptions. The following discussion
relates to the primary pension plan only, as it makes up
the majority of recorded pension expense and related
asset/liability amounts in the consolidated financial
statements. 2004 ANNUAL REPORT
    
    19
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Demographic assumptions For purposes of estimating
demographic mortality in the measurement of the Companys
pension obligation, as of October 31, 2004, the Company
began using the Retirement Plans 2000 Table of Combined
Healthy Lives, projected to 2005, using Scale AA to
forecast mortality improvements five years into the
future to 2005. Previously, the Company had utilized the
1983 Group Annuity Mortality Table, which it continues to
use for calculating funding requirements based on
Internal Revenue Service regulations. This change did not
have a material impact on the projected benefit
obligation. Market-related value of plan assets In accounting for
pension costs, the Company uses fair value, which is the
market value of plan assets as of the annual measurement
date, to calculate the expected return on assets and
gain/loss amortization components of net periodic pension
expense. If the Company were to use a calculated value,
such as a three- or five-year moving average, to
determine the market-related value of plan assets and
recognize variances from expected results on a delayed
basis, the amount of pension expense or income recognized
could vary significantly from that recorded under the
Companys current methodology. This would have been
especially true in 2003 and 2002, given the significant
decline in the global equity markets. The fair-value
approach, which is the Financial Accounting Standards
Boards (FASBs) preferred methodology, required the
Company to reflect this decline in the fair value of the
plans assets. Return on plan assets To develop its expected return on
plan assets, the Company considers its long-term asset
allocation policy, historical returns on plan assets and
overall capital market returns, taking into account
current and expected market conditions. The Companys
primary pension plan is well diversified with an asset
allocation policy that provides for a targeted 70%, 20%
and 10% mix of equities (U.S., non-U.S. and private),
fixed income (investment-grade and high-yield) and real
estate (private and public), respectively. This
allocation provides the pension plan with the appropriate
balance of investment return and volatility risk, given
the funded nature of the plan, its present and future
liability characteristics and its long-term investment
horizon. See further discussion of the asset allocation
strategy for plan assets in Note 17. Since the inception of the Companys primary pension
plan in 1966 through the October 31, 2004 measurement
date, the average annual return has been 9.4%. After
three years of decline in the fair value of pension
assets during the 2000-2002 bear market, pension assets
experienced significant increases due to back-to-back
annual gains in global equity markets in 2003 and 2004.
The one-year return on plan assets was 11.7% through
October 31, 2004 following a 19.5% one-year return on
plan assets through October 31, 2003. Because the fair
value of plan assets is measured as of a point in time,
the change in fair value between measurement dates
affects the subsequent years net pension expense. The
increase in fair value in 2003 positively impacted net
pension expense in 2004 and reversed the trend of net
pension expense increases from 2001 to 2003. Net periodic
pension expense was $82 million, $130 million
and $24 million in 2004, 2003 and 2002, respectively. Since inception, the Companys primary pension plan has
incurred cumulative pre-tax expense of approximately $114
million. This is the result of cumulative pension expense
during the 1966-1984 period of $366 million, cumulative
pension income during the 1985-2001 period of $488
million and pension expense in the 2002-2004 period
totaling $236 million. In 2002, the Company lowered the
expected rate of return from 9.5% to 8.9% to reflect
lower historical and expected future rates of return
among all asset classes. See discussion of the impact on
earnings below. Discount rate The Company lowered the discount rate
used to measure the pension obligation from 6.35% to
5.85% in 2004, from 7.10% to 6.35% in 2003 and from 7.25%
to 7.10% in 2002, based on the yield to maturity of a
representative portfolio of AA-rated corporate bonds as
of the October 31 measurement dates in 2004, 2003 and
2002, with average cash flow durations similar to the
pension liability. This methodology is consistent with
guidance in SFAS No. 87, Employers Accounting for
Pensions, to use the rate currently available on
high-quality bonds and the subsequent guidance issued by
the Securities and Exchange Commission that high-quality
bonds should be those with at least AA rating by a
recognized rating agency. Impact on earnings and sensitivity As a result of
strong asset performance in 2003, the Company incurred a
significant decrease in 2004 net pension costs, which
incrementally improved EPS by approximately $0.10,
compared to reductions in EPS of $0.24 and $0.20 in 2003
and 2002, respectively. While the 2004 positive returns
on plan assets as well as the discretionary contribution
made in 2004 are expected to lower the 2005 expense, this
is somewhat offset by the fact that the Company has
lowered the discount rate in each of the last three years
due to the general decline in interest rates over this
period. Based on these trends, the 2005 net pension
expense is anticipated to be only slightly lower than the
amount recognized in 2004. The sensitivity of the pension
expense to a plus or minus one-half of one percent of
expected return on assets is a decrease or increase in
expense of approximately $0.05 per share. The sensitivity
of the pension expense to a plus or minus one-half of one
percent of the discount rate is a decrease or increase in
expense of approximately $0.09 per share. Pension
Funding:Funding policy The Companys funding policy is to
maintain a well-funded primary pension plan throughout
all business and economic cycles. Maintaining a
well-funded plan over time provides additional financial
flexibility to the Company, including lower pension
expense and reduced cash contributions, especially in the
event of a decline in the market. In addition, a
well-funded plan assures associates of the plans and the
Companys financial ability to continue to provide
competitive retirement benefits, while at the same time
being cost effective. The Company targets to maintain a
funded ratio in the range of 110% to 130%, which is the
plans assets as a percent of the actuarial funding
liability under the Employee Retirement Income Security
Act of 1974 (ERISA). 2004 ANNUAL REPORT
    
    20
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations Funding history Since the plans inception, the
Company has contributed $1.7 billion, or approximately
$1.0 billion on an after-tax basis, to its primary
pension plan. Over this timeframe, actual investment
return on plan assets has generated a significant portion
of the $6.5 billion in pension plan total value, defined
as $2.5 billion in cumulative benefit payments to retired
associates plus $4.0 billion in plan assets at year-end
2004. In effect, the Companys cumulative after-tax cash
contributions over this timeframe represent approximately
15% of the plans total value (i.e., $1.0 billion as a
percent of $6.5 billion). The remainder of the plans
total value has been generated by the actual investment
returns since inception. The Company targets to maintain
its portion of the primary pension plans total value to
a level of 20% or less, primarily through its funding
policy and asset mix strategy. Targeting the Companys
portion of the pension plans total value at this level
is important since cash contributions to the plan utilize
capital resources from investors and have an associated
cost of capital. The Company made cash contributions to its primary
pension plan annually during the 1966-1983 period in
order to provide an asset base to support the
accelerating liability growth in the early years of the
plan. Over the 1984-2004 period, the Company made cash
contributions to the plan in seven years (1993-1996,
2002-2004) and no contributions in the other 14 years due
to maintaining a well-funded plan and the actual
investment return on plan assets. The primary pension plans ERISA actuarial funding
liability at year-end 2004 was characterized by a
normalized annual growth rate of approximately 3%. Plan
expenses and cash benefits paid to retirees were about 6%
of plan assets in 2004. This resulted in a total annual
liability requirement for the plan of about 9%. The
composition of this annual liability requirement reflects
the Companys employee demographics in terms of length of
service, compensation and age. In contrast, during the
1966-1983 period, or the plans early years, the
liability characteristics of the plan reflected a higher
annual liability growth rate and a lower cash benefit
payment to retirees. Asset allocation strategy The primary pension plans
asset allocation strategy is designed to mitigate this
annual liability requirement and result in a
cost-effective level of pension expense and cash
contributions over time to the Company as discussed
above. In effect, the plans asset allocation strategy
needs to produce an average return on assets of
approximately 9% or higher in order to eliminate cash
contributions to the plan on a sustainable long-term
basis, given the plans current annual liability
requirement and funded position. This was the case during
most of the 1984-2004 period as discussed above. In
periods of significant capital market declines, such as
2001 and 2002, the plans surplus is utilized first to
mitigate the annual liability requirement, and then the
Companys available cash resources are utilized to
restore the plans funded ratio to a targeted level. Funded status The Companys primary pension plan
remains in a well-funded position. Although no additional
funding was required under ERISA, the Company made
discretionary contributions of $300 million, or $190
million after tax, to its primary pension plan in October
of 2004, 2003 and 2002. At October 31, 2004, plan assets
of $4.0 billion, which included the current year
contribution of $300 million, were approximately 137% of
the $2.9 billion ERISA funding liability. At October 31,
2003 and 2002, the funded ratios were 129% and 112%,
respectively. The increase in the 2004 funded ratio
resulted primarily from the improvements in the global
equity markets, combined with the impact of the Companys
2004 contribution to the plan mentioned previously. Expected contributions Contributions subsequent to 2004
for the primary pension plan are dependent on asset
returns and future discount rates. The Company does not
anticipate minimum funding requirements in 2005 under
ERISA. It may decide to make a discretionary
contribution, however, depending on market conditions,
the funded position of the primary pension plan and the
Companys financial condition. See further discussion in
Note 17. ACCOUNTING FOR STOCK OPTIONS The Company has a stock option program for
approximately 1,600 executives and senior management.
Over the past three years, the Companys annual stock
option grants under this program have averaged about 1.6%
of outstanding shares, including the common stock
equivalent of preferred shares. As of January 29, 2005,
options to purchase 13.8 million shares of common stock,
representing 5.1% of total shares, were outstanding, of
which 10.8 million were exercisable. Of the exercisable
options, about 72% were in-the-money, or had an
exercise price below the closing end-of-year stock price
of $41.69. See Note 15 for more details about the
Companys stock option program. Through 2004, the Company followed Accounting
Principles Board Opinion No. 25, Accounting for Stock
Issued to Employees (APB No. 25), which did not require
expense recognition for stock options granted when the
exercise price of the option equaled, or exceeded, the
fair market value of the common stock on the date of
grant. As required by the original SFAS No. 123,
Accounting for Stock-Based Compensation, for companies
retaining APB No. 25 accounting, the Company has disclosed
the estimated impact of fair value accounting for stock
options issued. See Note 1 on page 31. The FASB recently issued Statement 123 (revised),
Share-Based Payment, which will require the use of the
fair value method for accounting for stock options. As
discussed on page 22, the Company has elected to
early-adopt SFAS No. 123R, effective January 30, 2005. NEW ACCOUNTING PRONOUNCEMENTS AND RECENT DEVELOPMENTS On May 19, 2004, the FASB issued FASB Staff
Position (FSP) SFAS No. 106-2, Accounting and Disclosure
Requirements Related to the Medicare Prescription Drug,
Improvement and Modernization Act of 2003. The
referenced legislation (the Act) was passed in December
2003 and provides for a federal subsidy to employers that
offer 2004 ANNUAL REPORT
    
    21
    
    J.C. PENNEY COMPANY, INC.




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##### 



Managements Discussion and Analysis of Financial Condition and Results of Operations retiree prescription drug benefits that are at least actuarially equivalent to those offered
under the government sponsored Medicare Part D. While the provisions of FSP SFAS No. 106-2 were
effective in the Companys third quarter of 2004, final regulations that define actuarial
equivalency were not issued until January 2005. As a result, the disclosures included in Note 17 do
not reflect the potential effects of the Act, which, due largely to the cap on Company
contributions, are not expected to have a material effect on the Companys consolidated financial
statements. In November 2004, the FASB issued SFAS No. 151,
Inventory Costs  An Amendment of ARB No. 43, Chapter
4. SFAS No. 151 amends the guidance in ARB No. 43,
Chapter 4, Inventory Pricing, to clarify the accounting
for abnormal amounts of idle facility expense, freight,
handling costs and wasted material (spoilage). SFAS No.
151 is effective for fiscal years beginning after June
15, 2005 and will be early-adopted by the Company in the
first quarter of fiscal 2005. The Company does not expect
SFAS No. 151 to have a material impact on the Company. In December 2004, the FASB issued SFAS No. 123
(revised) (SFAS No. 123R), Share-Based Payment. SFAS
No. 123R will eliminate the ability to account for
share-based compensation transactions using APB No. 25
and will require instead that compensation expense be
recognized based on the fair value of the award on the
date of grant. Additional footnote disclosures will also
be required. While the Company is not required to adopt
SFAS No. 123R until the third quarter of 2005, it has
elected to early-adopt the statement effective January
30, 2005 using the modified prospective method of
application. Under this method, in addition to reflecting
compensation expense for new share-based awards, expense
will also be recognized to reflect the remaining vesting
period of awards that had been included in pro-forma
disclosures in prior periods. The Company estimates that
the adoption of SFAS No. 123R in 2005 will result in a
charge of $19 million ($11 million after tax), or $0.05
per share. The Company will not adjust prior year
financial statements under the optional modified
retrospective method of adoption. On February 7, 2005, the Chief Accountant of the
Securities and Exchange Commission (SEC) issued a letter
to the American Institute of Certified Public Accountants
expressing the SEC staffs views on certain operating
lease accounting issues and their application under GAAP.
As a result, the Company reviewed its accounting for
store leases and leasehold improvements and recorded an
$8 million pre-tax charge, primarily to synchronize the
depreciation periods of buildings and leasehold
improvements with the related lease terms, including
renewal periods that were considered reasonably assured
of occurring. In addition, the Company recorded a $111
million balance sheet adjustment at January 29, 2005 to
increase Property and Equipment, Net and establish a
deferred rent liability, included in Other Liabilities in
the Companys Consolidated Balance Sheet, for the
unamortized balance of developer/tenant allowances.
Historically, construction allowances were classified as
reductions to Property and Equipment, Net. The Company
has changed its accounting policies related to lease
accounting to be consistent with the SEC guidance. See
Note 1 on page 30. FISCAL YEAR 2005 In February 2005, management communicated the
following guidance for 2005:   Comparable department store sales are expected to
increase low-single digits for 2005, and Catalog/Internet
sales are expected to increase low-to-mid single digits
for the year.   Earnings from continuing operations are expected
to be in the range of $2.89 to $3.01 per share for 2005,
including the impact of charges related to planned
open-market purchases of debt. CAUTIONARY STATEMENT REGARDING
FORWARD-LOOKING INFORMATION This Annual Report, including the Chairmans
letter, may contain forward-looking statements made
within the meaning of the Private Securities Litigation
Reform Act of 1995, which reflect the Companys current
view of future events and financial performance. The
words expect, plan, anticipate, believe, intent, should,
will and similar expressions identify forward-looking
statements. Any such forward-looking statements are
subject to risks and uncertainties that may cause the
Companys actual results to be materially different from
planned or expected results. Those risks and
uncertainties include, but are not limited to, the risks
and uncertainties set forth on pages 15-18, competition,
consumer demand, seasonality, economic conditions,
including gasoline prices, changes in management, retail
industry consolidations, acts of terrorism or war and
government activity. In addition, the Company typically
earns a disproportionate share of its operating income in
the fourth quarter due to holiday buying patterns, which
are difficult to forecast with certainty. While the
Company believes that its assumptions are reasonable, it
cautions that it is impossible to predict the impact of
such factors that could cause actual results to differ
materially from predicted results. The Company intends
the forward-looking statements in this Annual Report to
speak only at the time of its release and does not
undertake to update or revise these projections as more
information becomes available. 2004 ANNUAL REPORT
    
    22
    
    J.C. PENNEY COMPANY, INC.




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##### 



MANAGEMENTS REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING 
 The management of J. C. Penney Company, Inc. is
responsible for establishing and maintaining adequate
internal control over financial reporting. J. C. Penney Company, Inc. management has assessed
the effectiveness of the Companys internal control over
financial reporting as of January 29, 2005. In making
this assessment, management used criteria set forth by
the Committee of Sponsoring Organizations of the Treadway
Commission (COSO) in Internal Control  Integrated
Framework. Based on its assessment, management of J. C.
Penney Company, Inc. believes that, as of January 29,
2005, the Companys internal control over financial
reporting is effective based on those criteria. KPMG LLP, the registered public accounting firm that audited
the financial statements included in this 2004 Annual Report to
Stockholders, has issued an attestation report on
managements assessment of the Companys internal control
over financial reporting. This report appears on page 24. -s- Robert B. CavanaughRobert B. CavanaughExecutive Vice President and Chief Financial Officer-s- Myron E. Ullman, IIIMyron E. Ullman, IIIChairman and Chief Executive Officer
 2004 ANNUAL REPORT
    
    23
    
    J.C. PENNEY COMPANY, INC.




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##### 



REPORTS OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM 
 The Board of Directors and Stockholders
J. C. Penney Company, Inc.: We have audited managements assessment, included in
the accompanying Managements Report on Internal Control
Over Financial Reporting, that J. C. Penney Company,
Inc. maintained effective internal control over financial
reporting as of January 29, 2005, based on criteria
established in Internal Control  Integrated Framework
issued by the Committee of Sponsoring Organizations of
the Treadway Commission (COSO). J. C. Penney Company,
Inc.s management is responsible for maintaining
effective internal control over financial reporting and
for its assessment of the effectiveness of internal
control over financial reporting. Our responsibility is
to express an opinion on managements assessment and an
opinion on the effectiveness of the Companys internal
control over financial reporting based on our audit. We conducted our audit in accordance with the
standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance
about whether effective internal control over financial
reporting was maintained in all material respects. Our
audit included obtaining an understanding of internal
control over financial reporting, evaluating managements
assessment, testing and evaluating the design and
operating effectiveness of internal control, and
performing such other procedures as we considered
necessary in the circumstances. We believe that our audit
provides a reasonable basis for our opinion. A companys internal control over financial
reporting is a process designed to provide reasonable
assurance regarding the reliability of financial
reporting and the preparation of financial statements for
external purposes in accordance with generally accepted
accounting principles. A companys internal control over
financial reporting includes those policies and
procedures that (1) pertain to the maintenance of records
that, in reasonable detail, accurately and fairly reflect
the transactions and dispositions of the assets of the
company; (2) provide reasonable assurance that
transactions are recorded as necessary to permit
preparation of financial statements in accordance with
generally accepted accounting principles, and that
receipts and expenditures of the company are being made
only in accordance with authorizations of management and
directors of the company; and (3) provide reasonable
assurance regarding prevention or timely detection of
unauthorized acquisition, use, or disposition of the
companys assets that could have a material effect on the
financial statements. Because of its inherent limitations, internal
control over financial reporting may not prevent or
detect misstatements. Also, projections of any evaluation
of effectiveness to future periods are subject to the
risk that controls may become inadequate because of
changes in conditions, or that the degree of compliance with the policies or procedures
may deteriorate. In our opinion, managements assessment that J. C.
Penney Company, Inc. maintained effective internal
control over financial reporting as of January 29, 2005,
is fairly stated, in all material respects, based on
criteria established in Internal Control Integrated
Frameworkissued by COSO. Also, in our opinion, J. C.
Penney Company, Inc. maintained, in all material
respects, effective internal control over financial
reporting as of January 29, 2005, based on criteria
established in Internal Control  Integrated Framework
issued by COSO. We also have audited, in accordance with the
standards of the Public Company Accounting Oversight
Board (United States), the consolidated balance sheets of
J. C. Penney Company, Inc. and subsidiaries as of January
29, 2005 and January 31, 2004, and the related
consolidated statements of operations, stockholders
equity and cash flows for each of the years in the
three-year period ended January 29, 2005, and our report
dated March 25, 2005 expressed an unqualified opinion on
those consolidated financial statements. (KPMG LLP)Dallas, TexasMarch 25, 2005
 The Board of Directors and Stockholders
J. C. Penney Company, Inc.: We have audited the accompanying consolidated
balance sheets of J. C. Penney Company, Inc. and
subsidiaries as of January 29, 2005 and January 31, 2004,
and the related consolidated statements of operations,
stockholders equity and cash flows for each of the years
in the three-year period ended January 29, 2005. These
consolidated financial statements are the responsibility
of the Companys management. Our responsibility is to
express an opinion on these consolidated financial
statements based on our audits. We conducted our audits in accordance with the
standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we
plan and perform the audit to obtain reasonable assurance
about whether the financial statements are free of
material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and
disclosures in the financial statements. An audit also
includes assessing the accounting principles used and
significant estimates made by management, as well as
evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for
our opinion. In our opinion, the consolidated financial
statements referred to above present fairly, in all
material respects, the financial position of J. C. Penney
Company, Inc. and subsidiaries as of January 29, 2005 and
January 31, 2004, and the results of their operations and
their cash flows for each of the years in the three-year
period ended January 29, 2005, in conformity with U.S.
generally accepted accounting principles. We have also audited, in accordance with the
standards of the Public Company Accounting Oversight
Board (United States), the effectiveness of J. C. Penney
Company, Inc.s internal control over financial reporting
as of January 29, 2005, based on criteria established in
Internal Control  Integrated Frameworkissued by the
Committee of Sponsoring Organizations of the Treadway
Commission (COSO), and our report dated March 25, 2005
expressed an unqualified opinion on managements
assessment of, and the effective operation of, internal
control over financial reporting. (KPMG LLP)Dallas, TexasMarch 25, 2005
 2004 ANNUAL REPORT
    
    24
    
    J.C. PENNEY COMPANY, INC.




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##### 



CONSOLIDATED STATEMENTS OF OPERATIONS 
 ($ in millions, except per share data)
    
    2004
    
    
    2003
    
    
    2002Retail sales, net
    
    $
    18,424
    
    
    $
    17,786
    
    
    $
    17,633Cost of goods sold
    
    
    11,285
    
    
    
    11,166
    
    
    
    11,299Gross margin
    
    
    7,139
    
    
    
    6,620
    
    
    
    6,334Selling, general and administrative expenses
    
    
    5,827
    
    
    
    5,830
    
    
    
    5,634Net interest expense
    
    
    233
    
    
    
    261
    
    
    
    226Bond premiums and unamortized costs
    
    
    47
    
    
    
    
    
    
    
    Real estate and other expense/(income)
    
    
    12
    
    
    
    (17
    )
    
    
    59Income from continuing operations before income taxes
    
    
    1,020
    
    
    
    546
    
    
    
    415Income tax expense
    
    
    353
    
    
    
    182
    
    
    
    130Income from continuing operations
    
    $
    667
    
    
    $
    364
    
    
    $
    285Discontinued operations, net of income
tax (benefit)/expense of $(183), $876 and $49
    
    $
    (143
    )
    
    $
    (1,292
    )
    
    $
    120Net income/(loss)
    
    $
    524
    
    
    $
    (928
    )
    
    $
    405Less: preferred stock dividends
    
    
    12
    
    
    
    25
    
    
    
    27Net income/(loss) applicable to common stockholders
    
    $
    512
    
    
    $
    (953
    )
    
    $
    378Basic earnings/(loss) per share:Continuing operations
    
    $
    2.35
    
    
    $
    1.25
    
    
    $
    0.96Discontinued operations
    
    
    (0.52
    )
    
    
    (4.75
    )
    
    
    0.45Net income/(loss)
    
    $
    1.83
    
    
    $
    (3.50
    )
    
    $
    1.41Diluted earnings/(loss) per share:Continuing operations
    
    $
    2.23
    
    
    $
    1.21
    
    
    $
    0.95Discontinued operations
    
    
    (0.47
    )
    
    
    (4.34
    )
    
    
    0.41Net income/(loss)
    
    $
    1.76
    
    
    $
    (3.13
    )
    
    $
    1.36
 The accompanying notes are an integral part of these Consolidated Financial Statements. 2004 ANNUAL REPORT
    
    25
    
    J.C. PENNEY COMPANY, INC.




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##### 



CONSOLIDATED BALANCE SHEETS 
 ($ in millions, except per share data)
    
    2004
    
    
    2003AssetsCurrent assetsCash and short-term investments
    
    $
    4,687
    
    
    $
    2,994Receivables (net of bad debt reserves of $7 and $5)
    
    
    404
    
    
    
    233Merchandise inventory (net of LIFO reserves of $25 and $43)
    
    
    3,169
    
    
    
    3,156Prepaid expenses
    
    
    167
    
    
    
    207Total current assets
    
    
    8,427
    
    
    
    6,590Property and equipment, net
    
    
    3,638
    
    
    
    3,515Prepaid pension
    
    
    1,538
    
    
    
    1,320Other assets
    
    
    524
    
    
    
    521Assets of discontinued operations (net of fair value adjustment of $ and $450)
    
    
    
    
    
    
    6,354Total Assets
    
    $
    14,127
    
    
    $
    18,300Liabilities and Stockholders EquityCurrent liabilities
Trade payables
    
    $
    1,200
    
    
    $
    1,167Accrued expenses and other
    
    
    1,766
    
    
    
    1,384Short-term debt
    
    
    22
    
    
    
    18Current maturities of long-term debt
    
    
    459
    
    
    
    242Deferred taxes
    
    
    
    
    
    
    943Total current liabilities
    
    
    3,447
    
    
    
    3,754Long-term debt
    
    
    3,464
    
    
    
    5,114Deferred taxes
    
    
    1,318
    
    
    
    1,217Other liabilities
    
    
    1,042
    
    
    
    804Liabilities of discontinued operations
    
    
    
    
    
    
    1,986Total Liabilities
    
    
    9,271
    
    
    
    12,875Stockholders EquityPreferred stock(1)
    
    
    
    
    
    
    304Common stock and additional paid-in capital(2)
    
    
    4,176
    
    
    
    3,531Reinvested earnings
    
    
    812
    
    
    
    1,728Accumulated other comprehensive (loss)
    
    
    (132
    )
    
    
    (138
    )Total Stockholders Equity
    
    
    4,856
    
    
    
    5,425Total Liabilities and Stockholders Equity
    
    $
    14,127
    
    
    $
    18,300
   (1)
    
    Preferred stock has a stated value of $600 per share; 25 million shares are authorized. At
January 29, 2005, no shares were issued and outstanding due to the redemption of all preferred
shares into common stock during the year. At January 31, 2004, 0.5 million shares of Series B ESOP
convertible preferred stock were issued and outstanding.(2)
    
    Common stock has a par value of $0.50 per share; 1,250 million shares are authorized. At
January 29, 2005, 271 million shares were issued and outstanding. At January 31, 2004, 274 million
shares were issued and outstanding. The accompanying notes are an integral part of these Consolidated Financial Statements. 2004 ANNUAL REPORT
    
    26
    
    J.C. PENNEY COMPANY, INC.




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##### 



CONSOLIDATED STATEMENTS OF STOCKHOLDERS EQUITY 
 Common Stock
    
    
    
    
    
    
    Accumulatedand Additional
    
    
    
    
    
    
    Other
    
    
    TotalPreferred
    
    
    Paid-in
    
    
    Reinvested
    
    
    Comprehensive
    
    
    Stockholders($ in millions)
    
    Stock
    
    
    Capital
    
    
    Earnings
    
    
    (Loss)/Income
    
    
    EquityJanuary 26, 2002
    
    $
    363
    
    
    $
    3,330
    
    
    $
    2,573
    
    
    $
    (137
    )
    
    $
    6,129Net income
    
    
    
    
    
    
    
    
    
    
    405
    
    
    
    
    
    
    
    405Unrealized gain on investments, net of tax of $(4)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    8
    
    
    
    8Reclassification adjustment for gains included in
income from continuing operations, net of tax of $2
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (3
    )
    
    
    (3
    )Currency translation adjustments(1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (54
    )
    
    
    (54
    )Non-qualified plan minimum liability adjustment,
net of tax of $6
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (7
    )
    
    
    (7
    )Other comprehensive (loss) from discontinued
operations(2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (10
    )
    
    
    (10
    )Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    339Dividends declared, common and preferred
    
    
    
    
    
    
    
    
    
    
    (161
    )
    
    
    
    
    
    
    (161
    )Common stock issued
    
    
    
    
    
    
    87
    
    
    
    
    
    
    
    
    
    
    
    87Preferred stock redeemed
    
    
    (30
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (30
    )Vesting of stock awards
    
    
    
    
    
    
    6
    
    
    
    
    
    
    
    
    
    
    
    6January 25, 2003
    
    
    333
    
    
    
    3,423
    
    
    
    2,817
    
    
    
    (203
    )
    
    
    6,370Net (loss)
    
    
    
    
    
    
    
    
    
    
    (928
    )
    
    
    
    
    
    
    (928
    )Unrealized gain on investments, net of tax of $(22)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    41
    
    
    
    41Currency translation adjustments(1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    25
    
    
    
    25Non-qualified plan minimum liability adjustment,
net of tax of $13
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (24
    )
    
    
    (24
    )Reclassification adjustment for currency translation
loss included in discontinued operations(2)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    25
    
    
    
    25Other comprehensive (loss) from discontinued
operations, net of tax of $1
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2
    )
    
    
    (2
    )Total comprehensive (loss)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (863
    )Dividends declared, common and preferred
    
    
    
    
    
    
    
    
    
    
    (161
    )
    
    
    
    
    
    
    (161
    )Common stock issued
    
    
    
    
    
    
    99
    
    
    
    
    
    
    
    
    
    
    
    99Preferred stock redeemed
    
    
    (29
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (29
    )Vesting of stock awards
    
    
    
    
    
    
    9
    
    
    
    
    
    
    
    
    
    
    
    9January 31, 2004
    
    
    304
    
    
    
    3,531
    
    
    
    1,728
    
    
    
    (138
    )
    
    
    5,425Net income
    
    
    
    
    
    
    
    
    
    
    524
    
    
    
    
    
    
    
    524Unrealized gain on investments, net of tax of $(9)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    14
    
    
    
    14Currency translation adjustments(1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    11
    
    
    
    11Non-qualified plan minimum liability adjustment,
net of tax of $14
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (20
    )
    
    
    (20
    )Other comprehensive income from discontinued
operations, net of tax of $(1)
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    1
    
    
    
    1Total comprehensive income
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    530Dividends declared, common and preferred
    
    
    
    
    
    
    
    
    
    
    (150
    )
    
    
    
    
    
    
    (150
    )Common stock issued
    
    
    
    
    
    
    1,284
    
    
    
    
    
    
    
    
    
    
    
    1,284Common stock repurchased and retired
    
    
    
    
    
    
    (662
    )
    
    
    (1,290
    )
    
    
    
    
    
    
    (1,952
    )Preferred stock redeemed
    
    
    (304
    )
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (304
    )Vesting of stock awards
    
    
    
    
    
    
    23
    
    
    
    
    
    
    
    
    
    
    
    23January 29, 2005
    
    $
    
    
    
    $
    4,176
    
    
    $
    812
    
    
    $
    (132
    )
    
    $
    4,856
   (1)
    
    A deferred tax asset has not been established due to the
historical reinvestment of earnings in the Companys Brazilian subsidiary.(2)
    
    A deferred tax asset was not established for the currency translation
adjustment of Mexico discontinued operations. The accompanying notes are an integral part of these Consolidated Financial Statements. 2004 ANNUAL REPORT
    
    27
    
    J.C. PENNEY COMPANY, INC.




---



##### 



CONSOLIDATED STATEMENTS OF CASH FLOWS 
 ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Cash flows from operating activities:Income from continuing operations
    
    $
    667
    
    
    $
    364
    
    
    $
    285Adjustments to reconcile income from continuing
operations to net cash provided by operating activities:Asset impairments, PVOL and other unit closing costs
    
    
    19
    
    
    
    35
    
    
    
    77Depreciation and amortization
    
    
    368
    
    
    
    394
    
    
    
    369Net gains on sale of assets
    
    
    (8
    )
    
    
    (51
    )
    
    
    (18
    )Company contributions to savings and profit sharing plans
    
    
    
    
    
    
    
    
    
    
    47Benefit plans expense
    
    
    45
    
    
    
    135
    
    
    
    30Pension contribution
    
    
    (300
    )
    
    
    (300
    )
    
    
    (300
    )Stock-based compensation
    
    
    23
    
    
    
    9
    
    
    
    6Deferred taxes
    
    
    1
    
    
    
    137
    
    
    
    96Change in cash from:Receivables
    
    
    (34
    )
    
    
    3
    
    
    
    (13
    )Inventory
    
    
    (13
    )
    
    
    (100
    )
    
    
    43Prepaid expenses and other assets
    
    
    9
    
    
    
    (36
    )
    
    
    (17
    )Trade payables
    
    
    33
    
    
    
    94
    
    
    
    53Current income taxes payable
    
    
    182
    
    
    
    (17
    )
    
    
    (102
    )Accrued expenses and other liabilities
    
    
    135
    
    
    
    145
    
    
    
    (34
    )Net cash provided by operating activities
    
    
    1,127
    
    
    
    812
    
    
    
    522Cash flows from investing activities:Capital expenditures
    
    
    (412
    )
    
    
    (373
    )
    
    
    (315
    )Proceeds from sale of discontinued operations
    
    
    4,666
    
    
    
    20
    
    
    
    Proceeds from sale of assets
    
    
    34
    
    
    
    100
    
    
    
    38Net cash provided by/(used in) investing activities
    
    
    4,288
    
    
    
    (253
    )
    
    
    (277
    )Cash flows from financing activities:Change in short-term debt
    
    
    4
    
    
    
    5
    
    
    
    (2
    )Net proceeds from the issuance of long-term debt
    
    
    
    
    
    
    607
    
    
    
    27Payments of long-term debt, including capital leases and bond premiums
    
    
    (856
    )
    
    
    (450
    )
    
    
    (926
    )Common stock issued, net
    
    
    260
    
    
    
    52
    
    
    
    30Common stock repurchased
    
    
    (1,901
    )
    
    
    
    
    
    
    Preferred stock redeemed
    
    
    (13
    )
    
    
    (29
    )
    
    
    (30
    )Dividends paid, common and preferred
    
    
    (150
    )
    
    
    (160
    )
    
    
    (161
    )Net cash (used in)/provided by financing activities
    
    
    (2,656
    )
    
    
    25
    
    
    
    (1,062
    )Cash (paid to)/received from discontinued operations
    
    
    (1,066
    )
    
    
    (64
    )
    
    
    451Net increase/(decrease) in cash and short-term investments
    
    
    1,693
    
    
    
    520
    
    
    
    (366
    )Cash and short-term investments at beginning of year
    
    
    2,994
    
    
    
    2,474
    
    
    
    2,840Cash and short-term investments at end of year
    
    $
    4,687
    
    
    $
    2,994
    
    
    $
    2,474
 The accompanying notes are an integral part of these Consolidated Financial Statements. 2004 ANNUAL REPORT
    
    28
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS 
 1 SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of Operations JCPenney was founded by James Cash Penney in 1902
and has grown to be a major retailer, operating 1,017
JCPenney Department Stores throughout the United States
and Puerto Rico and 62 Renner Department Stores in
Brazil. The Company sells family apparel, jewelry, shoes,
accessories and home furnishings to customers through
Department Stores, Catalog and the Internet. In addition,
the Department Stores provide services, such as salon,
optical, portrait photography and custom decorating, to
customers. Basis of Presentation The consolidated financial statements present the
results of J. C. Penney Company, Inc. and its
subsidiaries (the Company or JCPenney). All significant
intercompany transactions and balances have been
eliminated in consolidation. Certain debt securities were issued by J. C. Penney
Corporation, Inc. (JCP), the wholly owned operating
subsidiary of the Company. The Company is a co-obligor
(or guarantor, as appropriate) regarding the payment of
principal and interest on JCPs outstanding debt
securities. The guarantee by the Company of certain of
JCPs outstanding debt securities is full and
unconditional. Use of Estimates The preparation of financial statements, in
conformity with generally accepted accounting principles
(GAAP), requires management to make estimates and
assumptions that affect the reported amounts of assets
and liabilities and disclosure of contingent liabilities
at the date of the financial statements and the reported
amounts of revenues and expenses during the reporting
period. While actual results could differ from these
estimates, management does not expect the differences, if
any, to have a material effect on the financial
statements. The most significant estimates relate to inventory
valuation under the retail method, specifically permanent
reductions to retail prices (markdowns) and adjustments
for shortages (shrinkage); valuation of long-lived
assets; valuation allowances and reserves, specifically
those related to closed stores, workers compensation and
general liability, environmental contingencies, income
taxes and litigation; reserves related to the Eckerd
discontinued operations; and pension accounting. Closed
store reserves are established for the estimated present
value of operating lease obligations (PVOL) and other
exit costs. Workers compensation and general liability
reserves are based on actuarially determined estimates of
claims that have been reported, as well as those incurred
but not yet reported resulting from historical experience
and current data. Environmental remediation reserves are estimated
using a range of potential liability, based on the
Companys experience and consultation with independent
engineering firms and in-house legal counsel, as
appropriate. Income taxes are estimated for each
jurisdiction in which the Company operates. Deferred tax
assets are evaluated for recoverability, and a valuation allowance is recorded if it is
deemed more likely than not that the asset will not be
realized. Litigation reserves are based on managements
best estimate of potential liability, with consultation
of in-house and outside counsel. Related to pension
accounting, the selection of assumptions, including the
estimated rate of return on plan assets and the discount
rate, impact the actuarially determined amounts reflected
in the Companys consolidated financial statements. Fiscal Year The Companys fiscal year has historically ended on
the last Saturday in January. Effective as of January
29, 2005, the Company changed its fiscal year end to the
Saturday closest to January 31, to be in alignment with
the fiscal calendar used by the majority of national
retail companies. This change had no impact on fiscal
2004 reported results, nor will it have any impact on
fiscal 2005 financial statements. Fiscal 2006 will
contain 53 weeks, instead of in 2008, when it would have
occurred under the Companys historical reporting
calendar. Unless otherwise stated, references to years in
this report relate to fiscal years rather than to
calendar years. Fiscal Year
    
    Ended
    
    
    Weeks2004
    
    January 29, 2005
    
    
    522003
    
    January 31, 2004
    
    
    532002
    
    January 25, 2003
    
    
    52
 The accounts of Renner are on a calendar-year basis. Reclassifications Certain reclassifications have been made to prior
year amounts to conform to the current year presentation.
None of the reclassifications impacted the Companys net
income/(loss) in any period. Merchandise and Services Revenue Recognition Revenue, net of estimated returns, is recorded at
the point of sale when payment is made and customers take
possession of the merchandise in department stores, at
the point of shipment of merchandise ordered through
Catalog/Internet or, in the case of services, the
customer has received the benefit of the service, such as
salon, portrait, optical or custom decorating.
Commissions earned on sales generated by licensed
departments are included as a component of retail sales.
Shipping and handling fees charged to customers are also
recorded as retail sales with related costs recorded as
cost of goods sold. The Company provides for estimated
future returns based on historical return rates and sales
levels. Advertising Advertising costs, which include newspaper,
television, radio and other media advertising, are
expensed either as incurred or the first time the
advertising occurs. Total advertising costs, net of
cooperative advertising agreements, were $1,234 million,
$1,178 million and $1,081 million for 2004, 2003 and
2002, respectively. These totals include catalog book
costs of $268 million, $264 million and $260 million for
2004, 2003 and 2002, respectively. Catalog book
preparation and printing costs, which are considered 2004 ANNUAL REPORT
    
    29
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements direct response advertising, are charged to expense over the productive life of the catalog,
not to exceed eight months. Included in Prepaid Expenses are deferred catalog book costs of $58
million as of January 29, 2005 and $77 million as of January 31, 2004. Vendor Allowances The Company receives vendor support in the form of
cash payments or allowances through a variety of
programs, including cooperative advertising, markdown
reimbursements, vendor compliance and defective
merchandise. The Company has agreements in place with
each vendor setting forth the specific conditions for
each allowance or payment. Depending on the arrangement,
the Company either recognizes the allowance as a
reduction of current costs or defers the payment over the
period the related merchandise is sold. If the payment is
a reimbursement for costs incurred, it is offset against
those related costs; otherwise, it is treated as a
reduction to the cost of merchandise. For cooperative advertising programs, the Company
generally offsets the allowances against the related
advertising expense. Many of these programs require
proof-of-advertising to be provided to the vendor to
support the reimbursement of the incurred cost. Programs
that do not require proof-of-advertising are monitored to
ensure that the allowance provided by each vendor is a
reimbursement of costs incurred to advertise for that
particular vendor. If the allowance exceeds the
advertising costs incurred on a vendor-specific basis,
then the excess allowance for the vendor is recorded as a
reduction of merchandise cost. Markdown reimbursements related to merchandise that
is sold are negotiated by the buying team and are
credited directly to Cost of Goods Sold in the period
received. If vendor allowances are received prior to
merchandise being sold, they are recorded as a reduction
of merchandise cost. Vendor compliance charges reimburse the Company for
incremental merchandise handling expenses incurred due to
a vendors failure to comply with the Companys
established shipping or merchandise preparation
requirements. Due to the strict recordkeeping
requirements and related cost/benefit considerations,
vendor compliance arrangements entered into after
December 31, 2002 are recorded as a reduction of the cost
of the merchandise. Allowances or cash from vendor
compliance arrangements entered into prior to December
31, 2002 are recorded as a reduction of merchandise
handling costs. The accounting policies described above are in
compliance with Emerging Issues Task Force 02-16,
Accounting by a Customer (Including a Reseller) for
Certain Consideration Received from a Vendor, and were
adopted by the Company in the first quarter of 2003. This
adoption resulted in a reduction to net income of $9
million in 2003 compared to 2002. Pre-Opening Expenses Subsequent to the construction/buildout period of
store facilities, costs associated with the pre-opening
phase are expensed in the period incurred. Operating Leases Rent expense under operating leases is recognized on
a straight-line basis over the lease term, including
renewal options determined to be reasonably assured. Some of the Companys lease agreements contain
developer/tenant allowances. Upon receipt of such
allowances, the Company records a deferred rent liability
in Other Liabilities on the Companys Consolidated
Balance Sheets. The allowances are then amortized on a
straight-line basis over the terms of the leases. Retirement-Related Benefits In December 2003, the Financial Accounting Standards
Board (FASB) issued Statement of Financial Accounting
Standards (SFAS) No. 132 (revised 2003), Employers
Disclosures about Pensions and Other Postretirement
Benefits. This statement revised employers disclosures
about pension plans and other postretirement benefit
plans. It did not change the measurement or recognition
of those plans required by SFAS No. 87, Employers
Accounting for Pensions, SFAS No. 88, Employers
Accounting for Settlements and Curtailments of Defined
Benefit Pension Plans and for Termination Benefits, and
SFAS No. 106, Employers Accounting for Postretirement
Benefits Other Than Pensions. This statement retained
the disclosure requirements contained in SFAS No. 132,
Employers Disclosures about Pensions and Other
Postretirement Benefits, which it replaced. It requires
additional disclosures to those in the original SFAS No.
132 about the assets, obligations, cash flows and net
periodic benefit cost of defined benefit pension plans
and other defined benefit postretirement plans. The
required information, which is included in Note 17,
should be provided separately for pension plans and for
other postretirement benefit plans. The Company accounts for its defined benefit pension
plans and its non-pension postretirement benefit plans
using actuarial models required by SFAS No. 87 and SFAS
No. 106. These models effectively spread changes in asset
values, the pension obligation and assumption changes
systematically and gradually over the employee service
periods. One of the principal components of the net
periodic pension calculation is the expected long-term
rate of return on plan assets. The required use of the
expected long-term rate of return on plan assets may
result in recognized pension income that is greater or
less than the actual returns on those plan assets in any
given year. Over time, however, the expected long-term
returns are designed to approximate the actual long-term
returns, and therefore, result in a pattern of income and
expense that more closely matches the pattern of services
provided by employees. Differences between actual and
expected returns are recognized gradually in net periodic
pension expense or offset by future gains or losses. The Company uses long-term historical actual return
data, the mix of investments that comprise plan assets
and future estimates of long-term investment returns by
reference to external sources to develop its expected
return on plan assets. The discount rate assumptions used for pension and
non-pension postretirement benefit plan accounting
reflect the rates available on AA-rated corporate bonds
on the October 31 measurement date of each year. The rate
of compensation increase is another significant
assumption used in the actuarial model for pension
accounting and is determined based upon the Companys
historical experience and future expectations. For
retiree medical plan accounting, the health care cost
trend rates do not have a material impact since defined
dollar limits have been placed on Company contributions. For purposes of estimating
demographic mortality in the meas- 2004 ANNUAL REPORT
    
    30
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements urement of the Companys
pension obligation, as of October 31, 2004, the Company began using the Retirement Plans 2000 Table of Combined Healthy Lives, projected to
2005, using Scale AA to forecast mortality improvements five years into the future to 2005.
Previously, the Company had utilized the 1983 Group Annuity Mortality Table, which it continues to
use for calculating funding requirements based on Internal Revenue Service regulations. Income Taxes Income taxes are accounted for under the asset and
liability method prescribed by SFAS No. 109, Accounting
for Income Taxes. Deferred tax assets and liabilities
are recognized for the future tax consequences
attributable to differences between the financial
statement carrying amounts of existing assets and
liabilities and their respective tax bases and operating
loss and tax credit carryforwards. Deferred tax assets
and liabilities are measured using enacted tax rates
expected to apply to taxable income in the years in which
those temporary differences are expected to be recovered
or settled. The effect on deferred tax assets and
liabilities of a change in tax rates is recognized in
income in the period that includes the enactment date. A
valuation allowance is recorded to reduce the carrying
amounts of deferred tax assets unless it is more likely
than not that such assets will be realized. Earnings/(Loss) per Share Basic earnings/(loss) per share (EPS) is computed by
dividing net income/(loss) less dividend requirements on
the Series B ESOP Convertible Preferred Stock, net of tax
as applicable, by the weighted-average number of common
shares outstanding for the period. Except when the effect
would be anti-dilutive at the continuing operations
level, the diluted EPS calculation includes the impact of
restricted stock units and shares that, during the
period, could have been issued under outstanding stock
options, as well as common shares that would have
resulted from the conversion of convertible debentures
and convertible preferred stock. If the applicable shares
are included in the calculation, the related interest on
convertible debentures (net of tax) and preferred stock
dividends (net of tax) are added back to income, since
these would not be paid if the debentures or preferred
stock were converted to common stock. Both the
convertible debentures and preferred stock were converted
to common stock in the second half of 2004. See Note 3. Stock-Based Compensation The Company has a stock-based compensation plan,
which is discussed more fully in Note 15. The Company
accounts for the plan under the recognition and
measurement principles of Accounting Principles Board
Opinion No. 25, Accounting for Stock Issued to
Employees (APB No. 25), and related interpretations. No
stock-based employee compensation cost is reflected in
the accompanying Consolidated Statements of Operations
for stock options, since all options granted under the
plan have an exercise price equal to the market value of
the underlying common stock on the date of grant.
Compensation expense for restricted stock awards with
pro-rata vesting is recorded on a straight-line basis
over the vesting period, which typically ranges from one
to five years. The following table illustrates the effect on net
income/(loss) and EPS as if the Company had applied the
fair value recognition provisions of SFAS No. 123, Accounting
for Stock-Based Compensation, to stock options.
Pro-forma expense for stock options with pro-rata vesting
is reflected on a straight-line basis over the vesting
period, which typically ranges from one to five years. ($ in millions, except EPS)
    
    2004
    
    
    2003
    
    
    2002Net income/(loss), as
reported
    
    $
    524
    
    
    $
    (928
    )
    
    $
    405Add: Stock-based employee
compensation expense
included in reported net
income/(loss), net of related tax
effects
    
    
    13
    
    
    
    5
    
    
    
    3Deduct: Total stock-based
employee compensation
expense determined under
fair value method for all
awards, net of related
tax effects
    
    
    (24
    )
    
    
    (26
    )
    
    
    (23
    )Pro-forma net income/(loss)
    
    $
    513
    
    
    $
    (949
    )
    
    $
    385Earnings/(loss) per share:Basicas reported
    
    $
    1.83
    
    
    $
    (3.50
    )
    
    $
    1.41Basicpro forma
    
    $
    1.80
    
    
    $
    (3.58
    )
    
    $
    1.34Dilutedas reported
    
    $
    1.76
    
    
    $
    (3.13
    )
    
    $
    1.36Dilutedpro forma
    
    $
    1.73
    
    
    $
    (3.20
    )
    
    $
    1.30
 The Company used the Black-Scholes option-pricing
model to estimate the grant date fair value of its stock
option grants for the periods presented above. For stock
options issued in 2004, the Company updated its
assumptions related to stock option valuation in order to
better reflect expected stock option exercise behavior
and expected future stock price volatility. These changes
were based on a detailed review of historical exercise
patterns, as well as a normalization of volatility, both
due to upward movement of the Companys stock price with
improved operating performance during the turnaround and
were made in consultation with an outside valuation
specialist. Including these changes, the following
Black-Scholes assumptions were used to estimate the grant
date fair value of stock options: Option Assumptions
    
    2004
    
    
    2003
    
    
    2002Dividend yield
    
    
    1.4
    %
    
    
    3.9
    %
    
    
    3.9
    %Expected volatility
    
    
    30.0
    %
    
    
    42.4
    %
    
    
    40.0
    %Risk-free interest rate
    
    
    3.0
    %
    
    
    3.4
    %
    
    
    4.7
    %Expected option term
    
    5 years

    
    7 years
    
    7 yearsWeighted-average fair value
of options at grant date
    
    $
    8.58
    
    
    $
    6.07
    
    
    $
    6.32
 The Company will begin recognizing stock option
expense in fiscal 2005 based on the fair value of the
award on the date granted. See discussion under Effect of
New Accounting Standards on page 33. Comprehensive Income/(Loss) Comprehensive income/(loss) consists of two
components: net income/(loss) and other comprehensive
income/(loss). Other comprehensive income/(loss) is the
sum of currency translation adjustments, unrealized
gains/(losses) on investments and non-qualified plan
minimum liability adjustments. Other Comprehensive Income/(Loss) is
presented in the Consolidated Statements of Stockholders
Equity. 2004 ANNUAL REPORT
    
    31
    
    J. C. PENNEY COMPANY, INC.




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##### 



Notes to the Consolidated Financial Statements Cash and Short-Term Investments All highly-liquid investments with original
maturities of three months or less are considered to be
short-term investments. The short-term investments
consist primarily of eurodollar time deposits and money
market funds and are stated at cost, which approximates
fair market value. Total Cash and Short-Term Investments were $4,687
million and $2,994 million for 2004 and 2003,
respectively, and included restricted short-term
investment balances of $63 million and $87 million for
the same periods. Restricted balances are pledged as
collateral for import letters of credit not included in
the bank credit facility and/or for a portion of casualty
insurance program liabilities. Cash and Short-Term
Investments on the Consolidated Balance Sheets included
$46 million and $8 million of cash for 2004 and 2003,
respectively. Receivables, Net Net Renner credit card receivables were $125 million
and $89 million as of year-end 2004 and 2003,
respectively. The corresponding allowance for bad debts
was $7 million and $5 million at the end of 2004 and
2003, respectively. Also included in this classification
are notes and miscellaneous receivables, including a $163
million current deferred tax asset at year-end 2004. Merchandise Inventories Inventories are valued primarily at the lower of
cost (using the last-in, first-out or LIFO method) or
market, determined by the retail method for department
stores and store distribution centers, and standard cost,
representing average vendor cost, for Catalog/Internet
and regional warehouses. The lower of cost or market is
determined on an aggregate basis for similar types of
merchandise. To estimate the effects of
inflation/deflation on ending inventory, an internal
index measuring price changes from the beginning to the
end of the year is calculated using merchandise cost data
at the item level. Total Company LIFO (credits)/charges included in
Cost of Goods Sold were $(18) million, $(6) million and
$6 million in 2004, 2003 and 2002, respectively. If the
first-in, first-out or FIFO method of inventory
valuation had been used instead of the LIFO method,
inventories would have been $25 million and $43 million
higher at January 29, 2005 and January 31, 2004,
respectively. Property and Equipment, Net EstimatedUseful Lives($ in millions)
    
    (Years)
    
    
    2004
    
    
    2003Land
    
    
    
    
    
    $
    203
    
    
    $
    206Buildings
    
    
    50
    
    
    
    2,693
    
    
    
    2,554Furniture and equipment
    
    
    3-20
    
    
    
    2,145
    
    
    
    2,203Leasehold improvements
    
    
    
    
    
    
    674
    
    
    
    674Accumulated depreciation
    
    
    
    
    
    
    (2,077
    )
    
    
    (2,122
    )Property and equipment, net
    
    
    
    
    
    $
    3,638
    
    
    $
    3,515
 Property and equipment is stated at cost less
accumulated depreciation. Depreciation is computed
primarily by using the straight-line method over the
estimated useful lives of the related assets. Leasehold
improvements are depreciated over the shorter of the
estimated useful lives of the improvements or the term of
the lease, including renewals determined to be reasonably
assured. Routine maintenance and repairs are expensed when
incurred. Major replacements and improvements are
capitalized. The cost of assets sold or retired and the
related accumulated depreciation or amortization are
removed from the accounts with any resulting gain or loss
included in net income/(loss). Capitalized Software Costs Costs associated with the acquisition or development
of software for internal use are capitalized and
amortized over the expected useful life of the software,
generally between three and seven years. Subsequent
additions, modifications or upgrades to internal-use
software are capitalized only to the extent that they
allow the software to perform a task it previously did
not perform. Software maintenance and training costs are
expensed in the period incurred. Goodwill Management evaluates the recoverability of goodwill
annually and whenever events or changes in circumstances
indicate that the carrying value may not be recoverable.
During 2004, management performed the annual evaluation
of goodwill as it relates to the Companys investment in
its Renner Department Stores in Brazil. The fair value of
the Companys Renner Department Store operation was
determined using the expected present value of
corresponding future cash flows, discounted at a
risk-adjusted rate. Management concluded that there was
no evidence of impairment as of year-end 2004. The 2004 change in the carrying amount of goodwill,
included in Other Assets, was as follows: ($ in millions)
    
    GoodwillBalance as of January 31, 2004
    
    $
    42Foreign currency translation adjustment
    
    
    1Balance as of January 29, 2005
    
    $
    43
 At year-end 2003, management had been authorized by
the Board of Directors to sell Eckerd and was engaged in
active negotiations with interested parties. The
more-likely-than-not expectation that Eckerd would be
sold was a triggering event for possible goodwill
impairment, and a goodwill impairment review was
performed at the Eckerd reporting level. While no
impairment was identified based on the results of the
two-step impairment test prescribed by SFAS No. 142,
Goodwill and Other Intangible Assets, adjustments were
made at the end of 2003 to reduce the Companys
investment in Eckerd to its fair value less costs to sell
and to reflect the estimated tax impact of a potential
sale. See Note 2 for discussion of the Eckerd
disposition. Impairment of Long-Lived Assets In accordance with SFAS No. 144, Accounting for the
Impairment or Disposal of Long-Lived Assets, the Company
evaluates long-lived assets for impairment whenever
events or changes in circumstances indicate that the
carrying amount of those assets may not be recoverable.
Factors considered important that could trigger an
impairment review include, but are not limited to,
significant underperformance relative to historical or
projected future operating results and significant
changes in the manner of use of the assets or the
Companys overall business strategies. For long-lived
assets held for use, SFAS No. 144 requires that if the
sum of the future cash flows expected to result from the
use and eventual disposition of a companys long-lived
assets, undiscounted and without interest charges, is
less than the reported value of those assets, an
evaluation must be performed to determine if an
impairment loss has been incurred. The amount of any 2004 ANNUAL REPORT
    
    32
    
    J. C. PENNEY COMPANY, INC.




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##### 



Notes to the Consolidated Financial Statements impairment loss is calculated by subtracting the fair value of the assets from the reported
value of the assets. Management estimates fair value based on a projected discounted cash flow
method using a discount rate that is considered to be commensurate with the risk inherent in the
Companys current business model. Additional factors are taken into consideration, such as local
market conditions, operating environment, mall performance and other trends. SFAS No. 144 requires
that a long-lived asset to be abandoned be considered held and used until it is disposed of. For a
long-lived asset to be disposed of by sale or otherwise, the unit of accounting is the group
(disposal group) that represents assets to be disposed of together as a group in a single
transaction and liabilities directly associated with these assets that will be transferred in the
transaction. SFAS No. 144 establishes six criteria that must be met before a long-lived asset may
be classified as held for sale. Assets that meet those criteria are no longer depreciated and are
measured at the lower of carrying amount at the date the asset initially is classified as held for
sale or its fair value less costs to sell. See Note 2 for discussion of the presentation of Eckerd
net assets as held for sale and the adjustment recorded as of year-end 2003 to reduce the Companys
investment in Eckerd to the fair value less costs to sell. Based on managements ongoing review of the
performance of its portfolio of stores and other
facilities, impairment losses totaling $12 million, $26
million and $47 million in 2004, 2003 and 2002,
respectively, were recorded for underperforming
department stores and underutilized Catalog and other
facilities. These charges are reflected in Real Estate
and Other Expense/(Income), which is a component of
Income from Continuing Operations in the accompanying
Consolidated Statements of Operations. See further
discussion in Note 18. Exit or Disposal Activity Costs In accordance with SFAS No. 146, Accounting for
Costs Associated with Exit or Disposal Activities, costs
associated with exit or disposal activities are recorded
at their fair values when a liability has been incurred.
Reserves are established at the time of closure for the
present value of any remaining operating lease
obligations (PVOL), net of estimated sublease income, and
at the point of decision for severance and other exit
costs. Since the Company has an established program for
termination benefits upon the closing of a facility,
termination benefits paid under the existing program are
considered part of an ongoing benefit arrangement, and
accounted for under SFAS No. 112, Employers Accounting
for Postemployment Benefits, and recorded when payment
of the benefits is considered probable and reasonably
estimable. Foreign Currency Translation Financial statements of subsidiaries outside the
United States are measured using the local currency as
the functional currency. Assets and liabilities for these
subsidiaries are translated into U.S. dollars at the
exchange rates in effect at the balance sheet date, while
revenues and expenses are translated using average
currency rates during the reporting period. Adjustments
from such translations are accumulated in the equity
section of the Consolidated Balance Sheets under
Accumulated Other Comprehensive (Loss). Effect of New Accounting Standards On May 19, 2004, the FASB issued FASB Staff Position
(FSP) SFAS No. 106-2, Accounting and Disclosure
Requirements Related to the Medicare Prescription
Drug, Improvement and Modernization Act of 2003. The referenced legislation
(the Act) was passed in December 2003, and provides for a
federal subsidy to employers that offer retiree
prescription drug benefits that are at least actuarially
equivalent to those offered under the government
sponsored Medicare Part D. While the provisions of FSP
SFAS No. 106-2 were effective in the Companys third
quarter of 2004, final regulations that define actuarial
equivalency were not issued until January 2005. As a
result, the disclosures included in Note 17 do not
reflect the potential effects of the Act, which, due
largely to the cap on Company contributions, are not
expected to have a material effect on the Companys
consolidated financial statements. In November 2004, the FASB issued SFAS No. 151,
Inventory Costs  An Amendment of ARB No. 43, Chapter
4. SFAS No. 151 amends the guidance in ARB No. 43,
Chapter 4, Inventory Pricing, to clarify the accounting
for abnormal amounts of idle facility expense, freight,
handling costs and wasted material (spoilage). SFAS No.
151 is effective for fiscal years beginning after June
15, 2005 and will be early-adopted by the Company in the
first quarter of fiscal 2005. The Company does not expect
SFAS No. 151 to have a material impact on the Companys
consolidated financial statements. In December 2004, the FASB issued SFAS No. 123
(revised) (SFAS No. 123R), Share-Based Payment. SFAS
No. 123R will eliminate the ability to account for
share-based compensation transactions using APB No. 25
and will require instead that compensation expense be
recognized based on the fair value of the award on the
date of grant. Additional footnote disclosures will also
be required. While the Company is not required to adopt
SFAS No. 123R until the third quarter of 2005, it has
elected to early-adopt the statement effective January
30, 2005, using the modified prospective method of
application. Under this method, in addition to reflecting
compensation expense for new share-based awards, expense
will also be recognized to reflect the remaining vesting
period of awards that had been included in pro-forma
disclosures in prior periods. The Company will not
adjust prior year financial statements under the optional
modified retrospective method of adoption. 2 DISCONTINUED OPERATIONS Eckerd Drugstores During the fourth quarter of 2003, the Companys
Board of Directors authorized Company management to sell
the Eckerd Drugstore operations. Having met the criteria
of SFAS No. 144, Accounting for the Impairment or
Disposal of Long-Lived Assets, Eckerds net assets were
classified as held for sale and its results of
operations and financial position presented as a
discontinued operation as of year-end 2003, with prior
periods reclassified accordingly. On July 31, 2004, the Company closed on the sale of
Eckerd for a total of approximately $4.7 billion in gross
cash proceeds that included a $209 million adjustment for
the estimated increase in Eckerds working capital from
January 31, 2004 to July 31, 2004. After deducting taxes, fees and other
transaction costs, and estimated post-closing
adjustments, the ultimate net cash proceeds from the sale
are expected to total approximately $3.5 billion. The
Jean Coutu Group (PJC) Inc. (Coutu) acquired Eckerd
drugstores and support facilities located in 13 Northeast
and Mid-Atlantic states, as well as the Eckerd Home
Office located in Florida. CVS Corporation and CVS
Pharmacy, Inc. (collectively, CVS) acquired Eckerd
drugstores and support facilities located in the
remaining Southern states, principally Florida and Texas,
as well as Eckerds 2004 ANNUAL REPORT
    
    33
    
    J. C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements pharmacy benefits management, mail order and specialty pharmacy businesses. Proceeds from the
sale are being used for common stock repurchases and debt reduction, as announced in August 2004,
and more fully discussed in Note 3. The loss on the sale was $713 million pre-tax, or
$1,433 million on an after-tax basis. The relatively high
tax cost is a result of the tax basis of Eckerd being
lower than its book basis because the Companys previous
drugstore acquisitions were largely tax-free
transactions. Of the total after-tax loss on the sale,
$1,325 million was recorded in 2003 to reflect Eckerd at
its estimated fair value less costs to sell, and during
2004 the remaining $108 million was recorded to reflect
revised estimates of certain post-closing adjustments and
resulting sales proceeds. During 2004, the Company paid
$822 million of taxes due on the sale of Eckerd. Additionally, $3.4 billion of the present value of
operating lease obligations (PVOL), an off-balance sheet
obligation under GAAP, was eliminated with the transfer
of these leases to Coutu and CVS upon the closing of the
sale. The Company established reserves at July 31, 2004
for estimated transaction costs and post-closing
adjustments. Certain of these reserves involved
significant judgment and actual costs incurred over time
could vary from these estimates. The more significant
estimates relate to the estimated working capital
adjustment, the costs to exit the Colorado and New Mexico
markets, severance payments to former Eckerd associates,
assumption of the Eckerd Pension Plan and various
post-employment benefit obligations and environmental
indemnifications. Management reviewed and updated the
reserves in the fourth quarter of 2004. While
adjustments were made to individual reserves, management
believes that, in total, the reserves remain adequate at
year-end 2004. Cash payments for the Eckerd-related
reserves are included in the Companys Consolidated
Statements of Cash Flows as Cash Paid to Discontinued
Operations. Management is currently negotiating with both CVS
and Coutu regarding the working capital adjustment as
required in the sale agreements, which could take several
months to finalize. The two sale agreements provide for
an arbitration process between the respective parties in
the event that agreement cannot be reached regarding the
proper amount of adjustments. As part of the Asset Purchase Agreement with CVS, it
was agreed that, with respect to the Colorado and New
Mexico locations (CN real estate interests), at closing
any of these properties that were not disposed of would
be transferred to CVS. On August 25, 2004, the Company
and CVS entered into the CN Rescission Agreement, whereby
the Company received a one-time payment from CVS of $21.4
million, which represented the agreed-upon limit of CVSs
liability regarding the CN real estate interests plus net
proceeds from dispositions as of August 25 minus expenses
borne and paid by CVS as of August 25 relating to the CN
real estate interests. Effective August 25, CVS
transferred to the Company all CN real estate interests
not disposed of, corresponding third-party agreements and
liabilities. The Company has engaged a third-party real
estate firm and is working through disposition plans
for each individual property. At the closing of the sale of Eckerd on July 31,
2004, the Company assumed sponsorship of the Eckerd
Pension Plan, the Eckerd Contingent Separation Pay
Programs and various other terminated non-qualified
retirement plans and programs. The Company further
assumed all severance and post-employment health and
welfare benefit obligations under various Eckerd plans,
employment and other specific agreements. The Company is
evaluating its options with respect to these assumed
liabilities, including, but not limited to, termination
of the agreements, plans or programs and/or settlement of
the underlying benefit obligations. As part of the Eckerd sale agreements, the Company
retained responsibility to remediate environmental
conditions that existed at the time of the sale. Certain
properties, principally distribution centers, were
identified as having such conditions at the time of sale.
Preliminary cost estimates have been established by
management, in consultation with an environmental
engineering firm, for specifically identified properties,
as well as a certain percentage of the remaining
properties, considering such factors as age, location and
prior use of the properties. Further studies are underway
to develop remediation plans and refine cost estimates,
which could vary from preliminary estimates. Both CVS and Coutu entered into agreements with the
Company and the Companys insurance provider in order to
assume the obligations for general liability and workers
compensation claims that had been transferred to the
purchasers at closing. The agreement with CVS was entered
into concurrent with the closing, while the agreement
with Coutu was finalized in the third quarter of 2004. At
closing, the Company had approximately $64 million in
letters of credit pledged as collateral to its insurance
provider in support of general liability and workers
compensation claims that were transferred to Coutu as
part of the Eckerd sale. Upon the finalization of the
insurance assumption agreements, this amount was reduced
to approximately $8.5 million. Based on a separate
agreement between Coutu and the Company, Coutu will
provide replacement letters of credit to the insurance
company no later than September 17, 2006, which will
release the Company from any further potential
obligation. The Company is providing to the purchasers certain
information systems, accounting, banking, vendor
contracting, tax and other transition services as set
forth in the Companys Transition Services Agreements
(Transition Agreements) with CVS and Coutu for a period
of 12 months from the closing date, unless terminated
earlier by the purchasers. One Transition Agreement with
Pharmacare Management Services, Inc., a subsidiary of
CVS, involves the provision of information and data
management services for a period of up to 15 months from
the closing date. Under the Transition Agreements, the
Company receives monthly service fees, which are designed
to recover the estimated costs of providing the specified
services. To the extent actual costs to provide such
services exceed the estimates, any additional costs
incurred are reflected in discontinued operations. Discontinued Operations in the Consolidated
Statements of Operations reflect Eckerds operating
results for all periods presented, including allocated
interest expense. Interest expense was allocated to the
discontinued operation based on Eckerds outstanding
balance on its intercompany loan payable to JCPenney,
which accrued interest at JCPenneys weighted-average
interest rate on its net debt (long-term debt net of
short-term investments) calculated on a monthly basis. Mexico Department Stores In November 2003, the Company closed on the sale of
its six Mexico department stores to Grupo Sanborns S.A.
de C.V. of Mexico City and recorded a loss of $14
million, net of a $27 million tax benefit. In 2004, the
Company recognized a gain of $4 million related to
additional tax benefits realized. 2004 ANNUAL REPORT
    
    34
    
    J. C. PENNEY  COMPANY, INC.




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##### 



Notes to the Consolidated Financial Statements Direct Marketing Services In 2001, JCP closed on the sale of its J. C. Penney
Direct Marketing Services, Inc. (DMS) assets, including
its J. C. Penney Life Insurance subsidiaries and related
businesses, to a U.S. subsidiary of AEGON, N.V. The DMS
sale generated net cash proceeds of $1.1 billion and a
recorded loss of $273 million. In 2000, a $296 million
loss was recognized when DMS assets were reflected as a
discontinued operation and in 2001, a $16 million loss
was recognized upon completion of the sale. These losses
were offset by gains of $34 million, $4 million and $1
million recognized in 2002, 2003 and 2004, respectively,
due to tax regulation changes and a tax audit. The Companys financial statements have been
presented to reflect Eckerd, Mexico and DMS as
discontinued operations for all periods presented.
Results of the discontinued operations are summarized
below: Discontinued Operations ($ in millions)
    
    2004
    
    
    2003
    
    
    2002EckerdNet sales
    
    $
    7,254
    
    
    $
    15,137
    
    
    $
    14,643Gross margin
    
    
    1,676
    
    
    
    3,487
    
    
    
    3,419Selling, general and
administrative expenses
    
    
    1,635
    
    
    
    3,196
    
    
    
    3,007Interest expense(1)
    
    
    97
    
    
    
    163
    
    
    
    161Acquisition amortization
    
    
    5
    
    
    
    40
    
    
    
    42Other
    
    
    2
    
    
    
    7
    
    
    
    5Fair value adjustment
    
    
    
    
    
    
    450
    
    
    
    (Loss)/income before
income taxes
    
    
    (63
    )
    
    
    (369
    )
    
    
    204Income tax (benefit)/expense
    
    
    (23
    )
    
    
    906
    (2)
    
    
    75Eckerd
(loss)/income from operations
    
    
    (40
    )
    
    
    (1,275
    )
    
    
    129(Loss) on sale of Eckerd, net of
income tax (benefit) of $(155), $- and $-
    
    
    (108
    )
    
    
    
    
    
    
    Total Eckerd discontinued
operations
    
    
    (148
    )
    
    
    (1,275
    )
    
    
    129Total Mexico and DMS
discontinued operations
net of income tax (benefit)
of $(5), $(30) and $(26)
    
    
    5
    
    
    
    (17
    )
    
    
    (9
    )Total discontinued operations
    
    $
    (143
    )
    
    $
    (1,292
    )
    
    $
    120
   (1)
    
    Eckerd interest expense consisted primarily of
interest on the intercompany loan between Eckerd and
JCPenney. The loan balance was initially based on the
allocation of JCPenney debt to the Eckerd business to
reflect a competitive capital structure within the
drugstore industry. While outstanding, the loan balance
fluctuated based on Eckerd cash flow requirements. The
loan balance, together with accrued interest and other
intercompany payables, was $ million, $1,212 million and
$1,151 million at the end of 2004, 2003 and 2002,
respectively. The loan bore interest at JCPenneys
weighted-average interest rate on its net debt (long-term
debt net of short-term investments) calculated on a
monthly basis. The weighted-average interest rate was
15.76% for 2004, 13.76% for 2003 and 12.05% for 2002.(2)
    
    Includes $875 million of deferred income tax expense for the book/tax basis difference. With the closings of the Eckerd sale on July 31,
2004 and the Mexico stores on November 30, 2003, there
were no assets or liabilities of discontinued operations
as of January 29, 2005. Assets and liabilities of Eckerd
discontinued operations as of January 31, 2004 were as
follows: ($ in millions)
    
    2003Cash and short-term investments
    
    $
    7Receivables
    
    
    441Merchandise inventory
    
    
    1,986Prepaid expenses
    
    
    33Total current assets
    
    
    2,467Property and equipment, net
    
    
    1,468Goodwill
    
    
    2,269Intangible assets
    
    
    443Other assets
    
    
    157Total assets
    
    $
    6,804Accounts payable and accrued expenses
    
    $
    1,422Current deferred taxes
    
    
    87Total current liabilities
    
    
    1,509Long-term deferred taxes
    
    
    218Other liabilities
    
    
    259Total liabilities
    
    $
    1,986JCPenneys net investment in Eckerd
    
    $
    4,818Fair value adjustment
    
    
    (450
    )Fair value of JCPenneys investment in Eckerd
    
    $
    4,368
 3 CAPITAL STRUCTURE REPOSITIONING In 2004, the Company initiated a major common
stock repurchase and debt reduction program focused on
enhancing stockholder value and strengthening the capital
structure. The Company is using the $3.5 billion in
estimated net cash proceeds from the sale of the Eckerd
drugstore operations and $1.1 billion of existing cash
balances to fund the program, which is expected to be
completed by the end of the second quarter of 2005. The
2004 Capital Structure Repositioning program consists of
the following: Debt Reduction The Companys debt reduction program consisted of
planned debt retirements totaling $2.3 billion, including
the now completed conversion of $650 million of
convertible debt and JCPs $400 million 7.4% Debentures
Due 2037, which were subject to redemption at the option
of the holders. Upon expiration of the put option on
March 1, 2005, virtually all of the holders extended
their debentures to the stated 2037 maturity date. During 2004, the Company reduced debt by
approximately $1.7 billion, with the $650 million debt
conversion mentioned above, $822 million of cash payments
and the termination of the $221 million Eckerd
securitized receivables program. The 2004 debt reduction program will be completed
upon the payment of $193 million of long-term debt
scheduled to mature in May 2005. Accordingly, these notes
are included in Current Maturities of Long-Term Debt on
the January 29, 2005 Consolidated Balance Sheet. During 2004, the Company incurred pre-tax charges of
$47 million related to early debt retirements. These
charges are reflected in Bond Premiums and Unamortized
Costs in the Consolidated Statements of Operations. For more details on 2004 debt reductions, see Note 11. 2004 ANNUAL REPORT
    
    35
    
    J. C. PENNEY COMPANY, INC.




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##### 



Notes to the Consolidated Financial Statements Series B Convertible Preferred Stock Redemption On August 26, 2004, the Company redeemed, through
conversion to common stock, all of its outstanding shares
of Series B ESOP Convertible Preferred Stock (Preferred
Stock), all of which were held by the Companys Savings,
Profit-Sharing and Stock Ownership Plan, a 401(k) savings
plan (Savings Plan). Each holder of Preferred Stock
received 20 equivalent shares of JCPenney common stock
for each one share of Preferred Stock in their Savings
Plan account in accordance with the original terms of the
Preferred Stock. Preferred Stock shares, which were
included in the diluted earnings/(loss) per share
calculation as appropriate, were converted into
approximately nine million common stock shares. Common Stock Repurchases The Company is executing a common stock repurchase
program of up to $3.0 billion, including the repurchase
of up to $650 million of common stock that had been
contingent upon the now completed conversion of JCPs
5.0% Convertible Subordinated Notes Due 2008. Share
repurchases have been and will continue to be made in
open-market transactions, subject to market conditions,
legal requirements and other factors. The Company
repurchased and retired 50.1 million shares of common
stock during 2004 at a cost of approximately $2.0
billion. This represents approximately two-thirds of the
total planned common stock repurchases under the 2004
Capital Structure Repositioning Program. As of January
29, 2005, approximately $1.0 billion remained authorized
for share repurchases. Common Stock Outstanding During 2004, the number of shares of common stock
changed as follows, primarily as a result of the ongoing
capital structure repositioning program: Outstanding(in millions)
    
    Common SharesBalance as of January 31, 2004
    
    
    274Repurchases of common stock
    
    
    (50
    )Conversion of $650 million of convertible
debt at $28.50 per share
    
    
    23Redemption of preferred stock
    
    
    9Exercise of stock options
    
    
    13Other
    
    
    2Balance as of January 29, 2005
    
    
    271
 4 EARNINGS PER SHARE Income from continuing operations and shares
used to compute earnings per share from continuing
operations, basic and diluted, are reconciled below: ($ in millions, except EPS)
    
    2004
    
    
    2003
    
    
    2002Earnings:Income from continuing
operations
    
    $
    667
    
    
    $
    364
    
    
    $
    285Less: preferred stock dividends,
net of tax
    
    
    12
    
    
    
    25
    
    
    
    27Income from continuing
operations, basic
    
    $
    655
    
    
    $
    339
    
    
    $
    258Adjustments for assumed
dilution:Interest on 5% convertible
debt, net of tax
    
    
    17
    
    
    
    22
    
    
    
    22Preferred stock dividends,
net of tax
    
    
    12
    
    
    
    
    
    
    
    Income from continuing
operations, diluted
    
    $
    684
    
    
    $
    361
    
    
    $
    280Shares:Average common shares
outstanding (basic shares)
    
    
    279
    
    
    
    272
    
    
    
    267Adjustments for assumed dilution:Stock options and
restricted stock units
    
    
    5
    
    
    
    2
    
    
    
    3Shares from convertible debt
    
    
    17
    
    
    
    23
    
    
    
    23Shares from preferred stock
    
    
    6
    
    
    
    
    
    
    
    Average shares assuming
dilution (diluted shares)
    
    
    307
    
    
    
    297
    
    
    
    293EPS from continuing
operations:Basic
    
    $
    2.35
    
    
    $
    1.25
    
    
    $
    0.96Diluted
    
    $
    2.23
    
    
    $
    1.21
    
    
    $
    0.95
 The following average potential shares of common
stock were excluded from the diluted EPS calculations
because their effect would be anti-dilutive: (shares in millions)
    
    2004
    
    
    2003
    
    
    2002Stock options(1)
    
    
    3
    
    
    
    8
    
    
    
    9Preferred stock
    
    
    
    
    
    
    11
    
    
    
    11Total anti-dilutive
potential shares
    
    
    3
    
    
    
    19
    
    
    
    20
   (1) Exercise prices per share for the excluded stock
options ranged from $37 to $71, $20 to $71 and $21 to $71
for 2004, 2003 and 2002, respectively. 5 SUPPLEMENTAL CASH FLOW INFORMATION ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Total interest paid
    
    $
    405
    
    
    $
    420
    
    
    $
    422Less:
interest paid attributable to
discontinued operations
    
    
    95
    
    
    
    159
    
    
    
    158Interest paid by continuing
operations
    
    $
    310
    
    
    $
    261
    
    
    $
    264Interest received
    
    $
    57
    
    
    $
    29
    
    
    $
    40Income taxes paid
    
    $
    1,000
    
    
    $
    91
    
    
    $
    60Less: income taxes paid/
(received) attributable to
discontinued operations
    
    
    822
    
    
    
    41
    
    
    
    (76
    )Income taxes paid by
continuing operations
    
    $
    178
    
    
    $
    50
    
    
    $
    136
  2004 ANNUAL REPORT
    
    36
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements Non-Cash Investing and Financing Activities 2004  
    The Company redeemed all outstanding shares of
its Preferred Stock, all of which were held by the
Companys Savings, Profit Sharing and Stock
Ownership Plan, a 401(k) savings plan. Each holder
of Preferred Stock received 20 equivalent shares of
JCPenney common stock for each one share of
Preferred Stock. The Preferred Stock shares were
converted into approximately nine million common
stock shares.
    The Company converted substantially all of
JCPs $650 million 5% Convertible Subordinated
Notes Due 2008 into approximately 22.8 million
shares of common stock.
    The Company acquired $18 million of equipment
accounted for as capital leases. 2003  
    The Company issued 2.4 million shares of common stock to fund the 2002 contribution of $47
million to the savings plan. 2002  
    The Company issued 2.9 million shares of
common stock to fund the 2001 contribution of $58
million to the savings plan.
    The Company exchanged certain notes and
debentures with a carrying amount of $227 million
for new notes recorded at a fair value of $225
million. 6 OTHER ASSETS ($ in millions)
    
    2004
    
    
    2003Real estate investments
    
    $
    192
    
    
    $
    169Leveraged lease investments
    
    
    139
    
    
    
    134Capitalized software, net
    
    
    99
    
    
    
    97Goodwill - Renner
    
    
    43
    
    
    
    42Debt issuance costs, net
    
    
    31
    
    
    
    52Other
    
    
    20
    
    
    
    27Total
    
    $
    524
    
    
    $
    521
 7 ACCRUED EXPENSES AND OTHER ($ in millions)
    
    2004
    
    
    2003Accrued salaries, vacation and bonus
    
    $
    443
    
    
    $
    409Reserves for discontinued operations
    
    
    221
    
    
    
    Customer gift cards/certificates
    
    
    207
    
    
    
    193Taxes other than income
    
    
    125
    
    
    
    120Interest payable
    
    
    107
    
    
    
    132Income taxes payable
    
    
    79
    
    
    
    Advertising payables
    
    
    78
    
    
    
    79Current portion of workers compensation
and general liability insurance
    
    
    68
    
    
    
    63Funds due for common stock repurchases
    
    
    51
    
    
    
    Common dividends payable
    
    
    35
    
    
    
    35Other(1)
    
    
    352
    
    
    
    353Total
    
    $
    1,766
    
    
    $
    1,384
   (1)
    
    Other includes various components that are
individually insignificant such as general accrued
expenses related to operations and fixed asset accruals. 8 OTHER LIABILITIES ($ in millions)
    
    2004
    
    
    2003Retirement benefit plan liabilities
    
    $
    634
    
    
    $
    652Long-term portion of workers compensation
and general liability insurance
    
    
    157
    
    
    
    141Reserves for discontinued operations
    
    
    114
    
    
    
    Developer/tenant allowances
    
    
    111
    
    
    
    Other
    
    
    26
    
    
    
    11Total
    
    $
    1,042
    
    
    $
    804
 9 FAIR VALUE OF FINANCIAL INSTRUMENTS The following methods and assumptions were used
in estimating the fair values of financial instruments: Cash and Short-Term Investments The carrying amount approximates fair value because
of the short maturity of these instruments. Short-Term and Long-Term Debt Carrying value approximates fair value for
short-term debt. The fair value of long-term debt,
excluding equipment financing, capital leases and other
is estimated by obtaining quotes from brokers or is based
on current rates offered for similar debt. At January 29,
2005, long-term debt excluding equipment financing,
capital leases and other, had a carrying value of $3.9
billion and a fair value of $4.3 billion. At January 31,
2004, long-term debt excluding equipment financing,
capital leases and other, had a carrying value of $5.3
billion and a fair value of $5.9 billion. Concentrations of Credit Risk The Company has no significant concentrations of credit risk. 10 SHORT-TERM DEBT The Companys Brazilian subsidiary, Renner, had
short-term debt outstanding of $22 million at January 29,
2005 and $18 million at January 31, 2004. Credit Facility The Company has a $1.5 billion revolving bank line
of credit (credit facility) with a syndicate of banks
with JPMorgan Chase Bank as administrative agent, which
is scheduled to expire in May 2005. The $1.5 billion
credit facility is available for general corporate
purposes, including the issuance of letters of credit.
Any indebtedness incurred by the Company under the credit
facility is collateralized by all eligible Department
Stores and Catalog/Internet domestic inventory, as
defined in the credit
facility agreement. The security interest can be
released as performance improvements are achieved and
credit ratings by the rating agencies improve. Pricing is
tiered based on the corporate credit ratings for the
Company by Moodys and Standard & Poors. Obligations
under the credit facility are guaranteed by J. C. Penney
Company, Inc. and JCP Real Estate Holdings, Inc., which
is a wholly owned subsidiary of the Company. No
borrowings, other than the issuance of standby and import
letters of credit, which totaled $153 million as of the
end of 2004, have been made under this credit facility. Under the $1.5 billion credit facility, the Company
is required to maintain an asset coverage ratio, defined
as eligible inventory to total revolving credit exposure,
of at least 1.75 to 1.0. Given that there were no
borrowings other than the issuance of letters of credit,
this ratio was 20.3 to 1.0 at year-end 2004, far
exceeding the requirement. Additionally, the credit
facility includes a financial performance covenant, which
consists of a maximum ratio of total debt to consolidated
EBITDA (leverage ratio, as defined in the credit
agreement), as measured on a trailing four-quarters
basis,  2004 ANNUAL REPORT
    
    37
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements calculated at each quarter end. As of year-end 2004,
the actual leverage ratio was 2.14 to 1.0, well within
the prescribed limit of 3.75 to 1.0. Effective June 2, 2004, this credit facility was
amended to permit the sale of Eckerd Corporation and its
affiliates and assets, to permit a broader range of cash
investments and to permit issuing banks to extend
maturities of certain letters of credit past the
expiration of the credit facility as long as they are
collateralized with cash at that time. As discussed in Note 21, this credit facility is
expected to be replaced with a new $1.2 billion credit
facility in April 2005. 11 LONG-TERM DEBT ($ in millions)
    
    2004
    
    
    2003Issue:6.9% to 9.0% Notes, due 2004 to 2097
    
    $
    1,857
    
    
    $
    2,1657.125% to 8.125% Debentures,
due 2016 to 2037
    
    
    1,525
    
    
    
    1,5256.5% to 7.05% Medium-term notes,
due 2005 to 2015
    
    
    493
    
    
    
    4935.0% Convertible subordinated
notes, due 2008
    
    
    
    
    
    
    6508.25% to 9.75% Sinking fund
debentures, due 2021 to 2022
    
    
    
    
    
    
    3136.0% Original issue discount
debentures, due 2006(1)
    
    
    
    
    
    
    1676.35% to 7.33% Equipment
financing notes, due 2007
    
    
    15
    
    
    
    21Total notes and debentures
    
    
    3,890
    
    
    
    5,334Capital lease obligations and other
    
    
    33
    
    
    
    22Total long-term debt, including
current maturities
    
    
    3,923
    
    
    
    5,356Less: current maturities
    
    
    459
    
    
    
    242Total long-term debt
    
    $
    3,464
    
    
    $
    5,114
   (1)
    
    The face amount of these original issue
discount debentures was $200 million. As a part of the Companys planned $2.3 billion
debt reduction program discussed in Note 3, approximately
$1.7 billion of on- and off-balance sheet obligations
were eliminated during 2004 as follows:  
    JCPs 7.375% Notes in the amount of $208 million
matured and were paid.
    JCP retired its 9.75% Debentures Due 2021. Of
the total balance of $117.2 million, $25 million
was retired at par, and the remaining $92.2 million
was redeemed at a price of 103.2% plus accrued
interest.
    JCP retired the entire $195.7 million balance of
its 8.25% Debentures Due 2022. $37.5 million of the
balance was retired at par, with the remaining
$158.2 million being redeemed at a price of
103.096% plus accrued interest.
    JCP redeemed its $200 million face amount 6.0%
Original Issue Discount Debentures Due 2006. At the
date of redemption, these debentures had a recorded balance of
$175 million, due to the unamortized discount of $25
million.
    The Company purchased approximately $100 million
of JCPs 7.6% Notes Due 2007 in the open market.
    The Company called all of JCPs outstanding $650
million 5.0% Convertible Subordinated Notes Due
2008. Holders of the Notes had the option to
convert the Notes into shares of the Companys
common stock at a conversion price of $28.50. All
but $0.7 million of the Notes were converted into
approximately 22.8 million shares, and the
remaining Notes were redeemed at 102.5% plus
accrued interest.
    As reflected in Cash (Paid to)/Received from
Discontinued Operations on the Consolidated
Statements of Cash Flows, Eckerds managed care
receivables securitization program was paid off for
a total of $221 million and the program was
terminated. During 2003, borrowings and repayments of debt
included the following:  
    On February 28, 2003, the Company issued $600
million principal amount of 8.0% Notes Due 2010.
These Notes are redeemable in whole or in part, at
the Companys option at any time, at a redemption
price equal to the greater of: (a) 100% of the
principal amount of such Notes or (b) the sum of
the present values of the remaining scheduled
payments, discounted to the redemption date on a
semi-annual basis at the treasury yield plus 50
basis points, together in either case with accrued
interest to the date of redemption.
    In August 2003, bondholders exercised their
option to redeem approximately $117 million of the
$119 million 6.9% Debentures Due 2026.
    During 2003, the Company retired $62 million of
JCPs sinking fund debentures through mandatory
payments totaling $25 million and optional sinking
fund payments totaling $37 million.
    The Company purchased approximately $17 million
of JCPs 8.25% Sinking Fund Debentures Due 2022.
    In November 2003, the outstanding amount of
JCPs 6.125% Notes Due 2003, totaling $246 million,
matured and was paid in full. Debt Covenants The Company has indentures covering approximately
$275 million of long-term debt that contain a financial
covenant requiring the Company to have a minimum of 200%
net tangible assets to senior funded indebtedness (as
defined in the respective indentures). These indentures
permit the Company to issue additional long-term debt if
it is in compliance with the covenant. At year-end 2004,
the Companys percentage of net tangible assets to senior
funded indebtedness was 302%. 7.4% Debentures Due 2037 JCPs $400 million 7.4% Debentures Due 2037
contained put options whereby the investors could elect
to have the debentures redeemed at par on April 1, 2005.
On March 1, 2005, the put option expired, and virtually
all of the debentures were extended, with only $0.3
million put to the Company. Accordingly, $399.7 million
was reclassified to Long-Term Debt on the January 29,
2005 Consolidated Balance Sheet and is included in the
2010-2097 category in the scheduled annual principal
payments presented below. Scheduled Annual Principal Payments on Long-Term Debt: ($ in millions)2005
    
    
    2006
    
    
    2007
    
    
    2008
    
    
    2009
    
    
    2010-2097$
    459
    
    
    $
    21
    
    
    $
    433
    
    
    $
    203
    
    
    $
    
    
    
    $
    2,807
  2004 ANNUAL REPORT
    
    38
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements 12 INTEREST EXPENSE, NET ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Short-term debt
    
    $
    3
    
    
    $
    6
    
    
    $
    4Long-term debt
    
    
    373
    
    
    
    429
    
    
    
    403Short-term investments
    
    
    (63
    )
    
    
    (30
    )
    
    
    (41
    )Other, net
    
    
    17
    
    
    
    20
    
    
    
    22Less: Interest expense of
discontinued operations(1)(2)
    
    
    (97
    )
    
    
    (164
    )
    
    
    (162
    )Total
    
    $
    233
    
    
    $
    261
    
    
    $
    226
   (1)
    
    Includes interest expense from Mexico Department
Stores of $ million, $1 million and $1 million in 2004,
2003 and 2002, respectively.(2)
    
    See Note 2 for an explanation of interest expense allocated to Eckerd. 13 CAPITAL STOCK The Company had 43,242 stockholders of record as
of January 29, 2005. On a combined basis, the Companys
401(k) savings plan, including the Companys employee
stock ownership plan (ESOP), held 30 million shares of
common stock or 11% of the Companys outstanding common
stock. See Note 3 for a discussion of the Companys
ongoing common stock repurchase program. Preferred Stock The Company has authorized 25 million shares of
preferred stock; no shares of preferred stock were issued
and outstanding as of January 29, 2005. On August 26,
2004, the Company redeemed, through conversion to common
stock, all of its outstanding shares of Series B ESOP
Convertible Preferred Stock (Preferred Stock), all of
which were held by the Companys Savings, Profit Sharing
and Stock Ownership Plan, a 401(k) savings plan. Each
holder of Preferred Stock received 20 equivalent shares
of JCPenney common stock for each one share of Preferred
Stock in their savings plan account. Preferred Stock
shares, which are included in the diluted earnings per
share calculation as appropriate, were converted into
approximately nine million shares of common stock on
August 26, 2004. As of January 31, 2004, 505,759 shares
were issued and outstanding. Prior to redemption,
cumulative dividends were paid semi-annually at an annual
rate of $2.37 per common share equivalent, a yield of
7.9%. Preferred Stock Purchase Rights In January 2002, the Board of Directors issued one
preferred stock purchase right on each outstanding and
future share of common stock. These rights entitle the
holder to purchase, for each right held, 1/1000 of a
share of Series A Junior Participating Preferred Stock at
a price of $140. The rights are exercisable by the holder
upon the occurrence of certain events and are redeemable
by the Company under certain circumstances as described
by the rights agreement. The rights agreement contains a
three-year independent director evaluation (TIDE) provision. This TIDE feature
provides that a committee of the Companys independent
directors will review the rights agreement at least every
three years and, if they deem it appropriate, may
recommend to the Board a modification or termination of
the rights agreement. 14 ACCUMULATED OTHER COMPREHENSIVE (LOSS)/INCOME 2004
    
    
    2003Deferred
    
    
    
    
    
    
    
    
    
    
    DeferredPre-Tax
    
    
    Tax Asset/
    
    
    Net of Tax
    
    
    Pre-Tax
    
    
    Tax Asset/
    
    
    Net of TaxAmount
    
    
    (Liability)
    
    
    Amount
    
    
    Amount
    
    
    (Liability)
    
    
    AmountForeign currency translation adjustments(1)
    
    $
    (104
    )
    
    $
    
    
    
    $
    (104
    )
    
    $
    (115
    )
    
    $
    
    
    
    $
    (115
    )Non-qualified plan minimum liability adjustment
    
    
    (168
    )
    
    
    66
    
    
    
    (102
    )
    
    
    (134
    )
    
    
    52
    
    
    
    (82
    )Net unrealized gains on investments
    
    
    115
    
    
    
    (41
    )
    
    
    74
    
    
    
    92
    
    
    
    (32
    )
    
    
    60Other comprehensive (loss) from
discontinued operations
    
    
    
    
    
    
    
    
    
    
    
    
    
    
    (2
    )
    
    
    1
    
    
    
    (1
    )Accumulated other comprehensive (loss)
    
    $
    (157
    )
    
    $
    25
    
    
    $
    (132
    )
    
    $
    (159
    )
    
    $
    21
    
    
    $
    (138
    )
   (1)
    
    A deferred tax asset has not been established due to the historical reinvestment of
earnings in the Companys Brazilian subsidiary. 15 STOCK-BASED COMPENSATION In May 2001, the Companys stockholders approved a 2001 Equity Compensation Plan (2001
Plan), which initially reserved 16 million shares of common stock for issuance, plus 1.2 million
shares reserved but not subject to awards under the Companys 1997 and 2000 equity plans. No
future grants will be made under the 1997 and 2000 plans. The 2001 Plan provides for grants to
associates of options to purchase the Companys common stock, stock awards or stock appreciation
rights. At January 29, 2005, 5.7 million shares of stock were available for future grants. Stock
options and awards typically vest over performance periods ranging from one to five years. The
number of option shares is fixed at the grant date, and the exercise price of stock options is
generally set at the market price on the date of the grant.  2004 ANNUAL REPORT
    
    39
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements The 2001 Plan does not permit awarding stock options below grant-date market value. Options
have a maximum term of 10 years. Over the past three years, the Companys annual stock option
grants have averaged about 1.6% of total outstanding stock. The 2001 Plan also provides for grants of restricted stock awards and stock options to
non-employee members of the Board of Directors. Restricted stock awards granted to such directors
are not transferable until a director terminates service. The Company granted shares of common
stock totaling 24,024, 36,682 and 21,266 to non-employee members of the Board of Directors in 2004,
2003 and 2002, respectively. Total expense recorded for these directors awards was $0.8 million,
$0.7 million and $0.5 million in 2004, 2003 and 2002, respectively. Stock Options At January 29, 2005, options to purchase 13.8 million shares of common stock were outstanding.
If all options were exercised, common stock outstanding would increase by 5.1%. At the end of 2004,
10.8 million, or 78% of the 13.8 million outstanding options, were exercisable. Of those, 72% were
in-the-money or had an exercise price below the closing price of $41.69 on January 29, 2005, as
shown in the following schedule: (shares in thousands, price is weighted-average exercise price) Exercisable
    
    
    Unexercisable
    
    
    TotalShares
    
    
    %
    
    
    Price
    
    
    Shares
    
    
    %
    
    
    Price
    
    
    Shares
    
    
    %
    
    
    PriceIn-the-money
    
    
    7,797
    
    
    
    72
    %
    
    $
    25
    
    
    
    2,956
    
    
    
    97
    %
    
    $
    31
    
    
    
    10,753
    
    
    
    78
    %
    
    $
    27Out-of-the-money(1)
    
    
    2,983
    
    
    
    28
    %
    
    
    56
    
    
    
    95
    
    
    
    3
    %
    
    
    42
    
    
    
    3,078
    
    
    
    22
    %
    
    
    55Total options outstanding
    
    
    10,780
    
    
    
    100
    %
    
    $
    33
    
    
    
    3,051
    
    
    
    100
    %
    
    $
    31
    
    
    
    13,831
    
    
    
    100
    %
    
    $
    33
   (1)
    
    Out-of-the-money options are those with an exercise price equal to or above the closing
price of $41.69 at the end of 2004. A summary of stock option activity follows: (shares in thousands, price is weighted-average exercise price) Outstanding
    
    
    ExercisableShares
    
    
    Price
    
    
    Shares
    
    
    PriceJanuary 26, 2002
    
    
    18,690
    
    
    $
    30
    
    
    
    5,840
    
    
    $
    48Granted
    
    
    4,993
    
    
    
    20Exercised
    
    
    (610
    )
    
    
    15Canceled/forfeited
    
    
    (806
    )
    
    
    38January 25, 2003
    
    
    22,267
    
    
    $
    28
    
    
    
    14,551
    
    
    $
    33Granted
    
    
    5,136
    
    
    
    20Exercised
    
    
    (1,843
    )
    
    
    17Canceled/forfeited
    
    
    (1,083
    )
    
    
    39January 31, 2004
    
    
    24,477
    
    
    $
    27
    
    
    
    17,642
    
    
    $
    30Granted
    
    
    3,365
    
    
    
    31Exercised
    
    
    (12,835
    )
    
    
    19Canceled/forfeited
    
    
    (1,176
    )
    
    
    46January 29, 2005
    
    
    13,831
    
    
    $
    33
    
    
    
    10,780
    
    
    $
    33
 Net cash proceeds from exercise of stock options
were $248 million, $31 million and $9 million in 2004,
2003 and 2002, respectively. The related income tax
benefit totaled $82 million, $4 million and $1 million in
2004, 2003 and 2002, respectively. The following table summarizes stock options
outstanding at January 29, 2005: (shares in thousands, price is weighted-average exercise price) Outstanding
    
    
    ExercisableExercise
    
    
    
    
    
    
    
    
    
    RemainingPrice Range
    
    Shares
    
    
    Price
    
    
    Term(Years)
    
    
    Shares
    
    
    Price$11-below $20
    
    
    3,384
    
    
    $
    18
    
    
    
    6.7
    
    
    
    3,249
    
    
    $
    18$20-$29
    
    
    1,620
    
    
    
    21
    
    
    
    7.1
    
    
    
    1,603
    
    
    
    21$30-$39
    
    
    5,668
    
    
    
    33
    
    
    
    6.7
    
    
    
    2,864
    
    
    
    36$40-$49
    
    
    2,072
    
    
    
    46
    
    
    
    1.8
    
    
    
    1,977
    
    
    
    46$50-$71
    
    
    1,087
    
    
    
    71
    
    
    
    2.8
    
    
    
    1,087
    
    
    
    71Total
    
    
    13,831
    
    
    $
    33
    
    
    
    5.7
    
    
    
    10,780
    
    
    $
    33
 The Company follows the intrinsic value expense
recognition provisions of APB No. 25 as permitted by SFAS
No. 123. As a result, no compensation expense is
recognized for stock options since all options granted
have an exercise price equal to the market value of the
underlying stock on the date of grant. As required by
SFAS No. 123, the Company estimates the pro-forma effect
of recording the estimated Black-Scholes fair value of
stock options as expense over the vesting period. See
Stock-Based Compensation in Note 1 on page 31. The
Company will begin expensing stock options in fiscal
2005. See discussion under Effect of New Accounting
Standards in Note 1 on page 33. Stock Awards The Company awarded approximately 567,000, 364,000
and 227,000 shares of stock to employees with
weighted-average grant-date fair values per share of
$33.59, $19.43 and $20.09 in 2004, 2003 and 2002,
respectively. Total expense recorded for restricted stock
awards was $22 million, $8 million and $5 million in
2004, 2003 and 2002, respectively. 16 LEASES The Company conducts the major part of its
operations from leased premises that include retail
stores, store distribution centers, warehouses, offices
and other facilities. Almost all leases will expire
during the next 20 years; however, most leases will be
renewed or replaced by leases on other premises. Rent
expense for real property operating leases totaled $238
million in 2004, $231 million in 2003 and $252 million in
2002, including contingent rent, based on sales, of $26
million, $23 million and $24 million for the three years,
respectively. JCPenney also leases data processing equipment and
other personal property under operating leases of
primarily three to five years. Rent expense for personal
property leases was $72 million in 2004, $80 million in
2003 and $85 million in 2002. In December 2003, JCP notified the third-party
service providers of the six outsourced store
distribution centers of its intent to terminate
contracted services. On January 30, 2004, JCP purchased
the equipment of four of the outsourced store
distribution centers for $34 million. In accordance with
the related service contracts, JCP assumed approximately
$115 million of the building and remaining equipment
leases during 2004. Accordingly, the table below includes
these lease obligations.  2004 ANNUAL REPORT
    
    40
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements As of January 29, 2005, future minimum lease
payments for non-cancelable operating and capital leases
were: ($ in millions)
    
    Operating
    
    
    Capital2005
    
    $
    226
    
    
    $
    102006
    
    
    185
    
    
    
    172007
    
    
    149
    
    
    
    52008
    
    
    130
    
    
    
    32009
    
    
    110
    
    
    
    Thereafter
    
    
    397
    
    
    
    Total minimum lease payments
    
    $
    1,197
    
    
    $
    35Present value
    
    $
    711
    
    
    $
    31Weighted-average interest rate
    
    
    9.0
    %
    
    
    5.3
    %
 In connection with recent guidance issued by the Securities and Exchange Commission, the Company
reviewed its lease accounting practices. As a result of this review, a cumulative pre-tax
expense adjustment of $8 million was recorded, $3 million of which related to recognizing rent
on a straight-line basis over the lease term. The remaining $5 million was to synchronize
depreciation periods for fixed assets with the related lease terms. The impact for prior years
was not material. In addition, the Company recorded a $111 million balance sheet adjustment at
January 29, 2005 to increase Property and Equipment, Net and establish a deferred rent
liability, included in Other Liabilities in the Companys Consolidated Balance Sheet, for the
unamortized balance of developer/tenant allowances. 17 RETIREMENT BENEFIT PLANS The Company provides retirement and other
postretirement benefits to substantially all employees
(associates). Associates hired or rehired on or after
January 1, 2002 are not eligible for retiree medical or
dental coverage. Retirement benefits are an important
part of the Companys total compensation and benefits
program designed to attract and retain qualified and
talented associates. The Companys retirement benefit
plans consist of a non-contributory qualified pension
plan (primary pension plan), non-contributory
supplemental retirement and deferred compensation plans
for certain management associates, a 1997 voluntary early
retirement program, a contributory medical and dental
plan and a 401(k) and employee stock ownership plan.
Total Company expense for all retirement-related benefit
plans was $167 million, $207 million and $106 million in
2004, 2003 and 2002, respectively. These plans are
described in more detail below. See Managements
Discussion and Analysis under Critical Accounting
Policies on pages 19-21 for additional discussion of the
Companys defined benefit pension plan and Note 1 on
pages 30-31 for the Companys accounting policies
regarding retirement-related benefits. Defined Benefit Retirement Plans Primary Pension Plan  Funded The Company and certain of its subsidiaries provide
a non-contributory pension plan to associates who have
completed at least 1,000 hours of service, generally in a
12-consecutive-month period and have attained age 21. The
plan is funded by Company contributions to a trust fund,
which is held for the sole benefit of participants and
beneficiaries. Participants generally become 100% vested
in the plan after five years of employment or at age 65.
Pension benefits are calculated based on an associates
average final pay, an average of the social security
wage base, and the associates credited service (up
to 35 years), as defined in the plan document. Supplemental Retirement Plans  Unfunded The Company has unfunded supplemental retirement
plans, which provide retirement benefits to certain
management associates and other key employees. The
Company pays ongoing benefits from operating cash flow
and cash investments. The primary plans are a
Supplemental Retirement Plan, a Benefit Restoration Plan
and a Voluntary Early Retirement Plan. Benefits for the
Supplemental Retirement Plan and Benefits Restoration
Plan are based on length of service and final average
compensation. The Benefit Restoration Plan is intended to
make up benefits that could not be paid by the qualified
pension plan due to governmental limits on the amount of
benefits and the level of pay considered in the
calculation of benefits. The Supplemental Retirement
Plan also offers participants who leave the Company
between ages 60 and 62 benefits equal to the estimated
social security benefits payable at age 62. Participation
in this plan is limited to associates who were
profit-sharing management associates at the end of 1995.
The Voluntary Early Retirement Program was offered in
1997 to management associates who were at least age 55
with a minimum of 10 years of service and who elected to
take early retirement. These plans were amended in
December 2003 to provide participants a one-time
irrevocable election to receive remaining unpaid benefits
over a five-year period in equal annual installments.
Several other smaller plans and agreements are also
included. Expense for Defined Benefit Retirement PlansExpense is
based upon the annual service cost of benefits (the
actuarial cost of benefits attributed to a period) and
the interest cost on plan liabilities, less the expected
return on plan assets for the primary pension plan.
Differences in actual experience in relation to
assumptions are not recognized immediately but are
deferred and amortized over the average remaining service
period. The components of net periodic pension expense
were as follows: Primary Pension Plan Expense ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Service costs
    
    $
    87
    
    
    $
    75
    
    
    $
    71Interest costs
    
    
    203
    
    
    
    195
    
    
    
    187Projected return on assets
    
    
    (305
    )
    
    
    (249
    )
    
    
    (274
    )Net amortization
    
    
    97
    
    
    
    109
    
    
    
    40Net periodic pension
plan expense
    
    $
    82
    
    
    $
    130
    
    
    $
    24
 Supplemental Plans Expense ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Service costs
    
    $
    
    
    
    $
    3
    
    
    $
    2Interest costs
    
    
    25
    
    
    
    23
    
    
    
    19Net amortization
    
    
    13
    
    
    
    8
    
    
    
    9Curtailment loss
    
    
    3
    
    
    
    
    
    
    
    Net supplemental
plans expense
    
    $
    41
    
    
    $
    34
    
    
    $
    30
 AssumptionsThe weighted-average actuarial assumptions
used to determine expense for 2004, 2003 and 2002 were as
follows: 2004
    
    
    2003
    
    
    2002Discount rate
    
    
    6.35
    %
    
    
    7.10
    %
    
    
    7.25
    %Expected return on plan
assets
    
    
    8.9
    %
    
    
    8.9
    %
    
    
    9.5
    %Salary increase
    
    
    4.0
    %
    
    
    4.0
    %
    
    
    4.0
    %
  2004 ANNUAL REPORT
    
    41
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements The discount rate used to measure pension
expense each year is the rate as of the beginning of the
year (i.e., the prior measurement date). The discount
rate is based on a portfolio of high-quality corporate
bonds with similar average cash flow durations to the
pension liability. The rate as of the end of 2004, which
will be used to measure 2005 pension expense, was reduced
to 5.85%. The expected return on plan assets is based on
the plans long-term asset allocation policy, historical
returns for plan assets and overall capital market
returns, taking into account current and expected market
conditions. Given lower asset returns over the 2000-2002
period and lower expected future returns, the Company
lowered the expected rate of return on plan assets from
9.5% to 8.9% as of October 31, 2002, which was used to
develop the pension expense for 2003 and 2004. The
combination of assumption changes and poor investment
returns in 2002 and 2001 resulted in an increase in 2003
pension expense of $106 million. Subsequent improvements
in investment returns in 2003 combined with the Companys
contribution of $300 million pre-tax led to a decrease in
pension expense of $48 million in 2004. Funded StatusThe table below provides a reconciliation
of benefit obligations, plan assets and the funded status
of the defined benefit pension and supplemental
retirement plans. The projected benefit obligation (PBO)
is the present value of benefits earned to date by plan
participants, including the effect of assumed future
salary increases. Assets used in calculating the funded
status are measured at fair value at October 31 (the
plans measurement date). Assets and Obligations Pension Plans
    
    
    Supplemental Plans($ in millions)
    
    2004
    
    
    2003
    
    
    2004
    
    
    2003Change in PBOBeginning of year
    
    $
    3,302
    
    
    $
    2,839
    
    
    $
    405
    
    
    $
    339Service and
interest costs
    
    
    290
    
    
    
    270
    
    
    
    25
    
    
    
    26Actuarial loss
    
    
    344
    
    
    
    379
    
    
    
    53
    
    
    
    67Benefits (paid)(1)
    
    
    (205
    )
    
    
    (186
    )
    
    
    (28
    )
    
    
    (27
    )End of year
    
    $
    3,731
    
    
    $
    3,302
    
    
    $
    455
    
    
    $
    405Change in fair
value of plan
assetsBeginning of year
    
    $
    3,523
    
    
    $
    2,886
    
    
    $
    
    
    
    $
    Company
contributions
    
    
    300
    
    
    
    300
    
    
    
    28
    
    
    
    27Actual return
on assets
    
    
    383
    
    
    
    523
    
    
    
    
    
    
    
    Benefits (paid)(1)
    
    
    (205
    )
    
    
    (186
    )
    
    
    (28
    )
    
    
    (27
    )End of year
    
    $
    4,001
    
    
    $
    3,523
    
    
    $
    
    
    
    $
    Funded status
of planExcess of fair value
over projected
benefits
    
    $
    270
    
    
    $
    221
    
    
    $
    (455
    )
    
    $
    (405
    )Unrecognized
losses and prior
service cost
    
    
    1,268
    
    
    
    1,099
    
    
    
    261
    (2)
    
    
    177
    (2)Prepaid pensioncost/(accrued
liability)
    
    $
    1,538
    
    
    $
    1,320
    
    
    $
    (194
    )
    
    $
    (228
    )
   (1)
    
    Does not include plan administrative expenses.(2)
    
    Includes fourth quarter Company contributions
of approximately $56 million and $9 million in 2004 and 2003, respectively. In the reconciliation of the fair value of plan
assets, the actual return on net assets of $383 million
in 2004, which is net of plan administrative expenses,
was due to continued improvement in capital market
returns in 2004 following the market rebound in 2003. The
actual one-year return on pension plan assets at the
October 31 measurement date in 2004 and 2003 was 11.7%
and 19.5%, respectively. The unrecognized losses, including prior service
cost, of $1,268 million will be amortized, subject to a
corridor as permitted under SFAS No. 87, as pension
expense over the average remaining service period of the
covered workforce. Such amortization, included in total
pension expense, will reduce the prepaid pension cost. Assumptions to Determine ObligationsThe
weighted-average actuarial assumptions used to determine
benefit obligations at the October 31 measurement dates
were as follows: 2004
    
    
    2003
    
    
    2002Discount rate
    
    
    5.85
    %
    
    
    6.35
    %
    
    
    7.10
    %Salary progression rate
    
    
    4.0
    %
    
    
    4.0
    %
    
    
    4.0
    %
 For purposes of estimating demographic mortality in the
measurement of the Companys pension obligation, as of
October 31, 2004, the Company began using the Retirement
Plans 2000 Table of Combined Healthy Lives, projected to
2005, using Scale AA to forecast mortality improvements
five years into the future to 2005. Previously, the
Company had utilized the 1983 Group Annuity Mortality
Table, which it continues to use for calculating funding
requirements based on Internal Revenue Service
regulations. Accumulated Benefit Obligation (ABO)The ABO is the
present value of benefits earned to date, assuming no
future salary growth. The ABO for the Companys primary
pension plan was $3.4 billion and $3.0 billion as of
October 31, 2004 and 2003, respectively. Plan assets of
$4.0 billion for the primary pension plan exceeded the
ABO by approximately $0.6 billion, due to total cash
contributions of $600 million made to the plan during
2004 and 2003, combined with strong asset returns in 2004
and 2003. The ABO for the Companys unfunded supplemental
pension plans was $419 million and $372 million as of
October 31, 2004 and 2003, respectively. The unfunded ABO
for the supplemental plans exceeded the recorded
liability at year-end 2004 by $169 million, which
required an additional minimum liability adjustment. See
further discussion below. Additional Minimum LiabilityAt the measurement date of
October 31, the fair value of pension plan assets in the
primary pension plan exceeded both the PBO and the ABO.
Therefore, the Company was not required to reflect a
minimum liability adjustment under SFAS No. 87, which
would have removed the prepaid pension cost (asset) of
$1.5 billion with the offset of
approximately $0.9 billion, net of taxes, charged against
stockholders equity. Prepaid Pension on the Companys
Consolidated Balance Sheet as of year-end 2004 represents
pension funding in excess of pension expense recognized
through the Consolidated Statement of Operations. The
prepaid pension cost has accumulated from the inception
of the pension plan in 1966, principally as a result of
the Companys policy to target a funded ratio in the
range of 110% to 130%. As a result of the weakness in the global equity
markets over the 2000-2002 timeframe, the pension surplus
of the defined benefit pension plan declined from
approximately $1.2 billion in 2000 to a surplus of $45
million at the measurement date in 2002. With the  2004 ANNUAL REPORT
    
    42
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements strong
return on plan assets in 2003 and continued improvement in 2004, this surplus increased
to $221 million at the 2003 measurement date and
$270 million at the 2004 measurement date. A minimum liability adjustment for the supplemental
retirement plans was required again in 2004 due to the
ABO exceeding the recorded liability.
 In addition to the
accrued liability for the supplemental retirement plans,
the additional minimum liability balance was $169 million
and $134 million in 2004 and 2003, respectively. Of the
$169 million balance for 2004, approximately $1 million
was reflected as an intangible asset due to unrecognized
prior service cost. For the remaining increase from the
prior year, a charge was recorded to stockholders
equity, net of income tax benefits, as a component of
other comprehensive loss in the amount of approximately
$20 million. This adjustment does not impact current year
earnings or the funding requirements of the plan. See the
Consolidated Statements of Stockholders Equity for the
charge included in Other Comprehensive Income for each
year. Plan Assets The fair value of pension plan assets as of October
31, 2004 and 2003, by asset category as a percent of
total, and target allocation ranges are as follows: Plan AssetsTarget
    
    
    October 31,
    
    
    October 31,Asset Category
    
    Allocation Ranges
    
    
    2004
    
    
    2003Equity securities
    
    
    65% - 75
    %
    
    
    65
    %
    
    
    62
    %(1)Debt securities
    
    
    15% - 25
    %
    
    
    20
    %
    
    
    20
    %Real estate
    
    
    5% - 15
    %
    
    
    9
    %
    
    
    9
    %Cash and other(1)
    
    
    0% - 5
    %
    
    
    6
    %
    
    
    9
    %Total
    
    
    
    
    
    
    100
    %
    
    
    100
    %
   (1)
    
    Cash investments exceeded the targeted range at
both October 31, 2004 and 2003, and equity securities
were less than the targeted range temporarily at October
31, 2003, due to the timing of contributions relative to
investments made in equity and fixed income securities. Asset Allocation StrategyThe Companys investment
strategy is designed to provide a rate of return that,
over the long term, increases the ratio of plan assets to
liabilities by maximizing investment return on assets, at
an appropriate level of volatility risk. The plans asset
portfolio is actively managed and invested primarily in
equity securities, which have historically provided
higher returns than debt portfolios, balanced with fixed
income (i.e., debt securities) and other asset classes to
maintain an efficient risk/return diversification
profile. This strategy allows the pension plan to serve
as a funding vehicle to secure benefits for Company
associates, while at the same time being cost effective
to the Company. The risk of loss in the plans equity
portfolio is mitigated by investing in a broad range of
equity types. Equity diversification includes
large-capitalization and small-capitalization companies,
growth-oriented and value-oriented investments and U.S.
and non-U.S. securities. Investment types, including
high-yield versus investment-grade debt securities,
illiquid assets such as real estate, the use of
derivatives and Company securities are set forth in
written guidelines established for each investment
manager and monitored by the Company. Direct investments
in JCPenney securities are not permitted, even
though ERISA rules allow such investments up to 10% of a
plans assets. The plans asset allocation policy is
designed to meet the plans future pension benefit
obligations. The policy is periodically reviewed and
rebalanced if necessary to ensure that the mix continues
to be appropriate relative to established targets and
ranges. The Company has an internal Benefit Plans Investment
Committee, consisting of senior executives, who have
established and oversee risk management practices
associated with the management of the plans assets. Key
risk management practices include having an established
and broad decision-making framework in place, focused on
long-term plan objectives. This framework consists of the
Company and various third parties, including investment
managers, an investment consultant, an actuary and a
trustee/custodian. The funded status of the plan is
monitored with updated market and liability information
at least annually. Actual asset allocations are monitored
monthly and rebalancing actions are executed at least
quarterly, if needed. To manage the risk associated with
an actively managed portfolio, the Company reviews each
managers portfolio on a quarterly basis and has written
manager guidelines in place, which are adjusted as
necessary to ensure appropriate diversification levels.
Also, annual audits of the investment managers are
conducted by independent auditors. Finally, to minimize
operational risk, the Company utilizes a master custodian
for all plan assets, and each investment manager
reconciles its account with the custodian at least
quarterly. Other Postretirement Benefits The Company provides medical and dental benefits to
retirees based on age and years of service. Benefits
under these plans are paid through a voluntary employees
beneficiary association trust; however, this is not
considered to be a prefunding arrangement under SFAS No.
106. The Company provides a defined dollar commitment
toward retiree medical premiums. In 2001, the Company
amended these plans to freeze eligibility for retiree
coverage and to further reduce and limit the Companys
contributions toward premiums. These changes were
accounted for as a negative plan amendment in accordance
with SFAS No. 106. Accordingly, the effects of reducing
eligibility and Company contributions toward retiree
premiums are being amortized over the remaining years of
service to eligibility of the active plan participants.
The decrease in the other postretirement expense
presented in the table below is due to declining participant enrollments in the plan. Medicare Reform ActThe Companys accumulated
post-retirement benefit obligation (APBO) and net cost
recognized for other postretirement plans do not reflect
the effects of the Medicare Prescription Drug,
Improvement, and Modernization Act of 2003 (Act) passed
in December 2003. The provisions of the Act provide for a
federal subsidy for plans that provide prescription drug
benefits and meet certain qualifications. Specific
authoritative guidance on the accounting for the federal
subsidy was issued in January 2005, and its impact on the
Companys actuarially determined APBO and net cost for
other postretirement benefit plans is currently being
evaluated. Due to the cap on Company contributions, the
potential effects of the Act are not expected to have a
material effect on the
Companys consolidated financial statements. There was no
impact on 2003 or 2002 since the measurement dates for
the Companys other postretirement benefit plans were
October 31, 2003 and 2002, respectively, which were prior
to the date the Act was passed. Postretirement (Income)/Expense ($ in millions )
    
    2004
    
    
    2003
    
    
    2002Service costs
    
    $
    3
    
    
    $
    3
    
    
    $
    3Interest costs
    
    
    11
    
    
    
    13
    
    
    
    16Net amortization
    
    
    (22
    )
    
    
    (20
    )
    
    
    (16
    )Net periodic postretirement
benefit (income)/expense
    
    $
    (8
    )
    
    $
    (4
    )
    
    $
    3
  2004 ANNUAL REPORT
    
    43
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements The discount rates used for the postretirement
plan are the same as those used for the defined benefit
plans, as disclosed on pages 41-42, for all periods
presented. Changes in the postretirement benefit
obligation are as follows: Postretirement Benefit Obligation ($ in millions)
    
    2004
    
    
    2003Benefit obligation, beginning of year
    
    $
    171
    
    
    $
    186Service and interest cost
    
    
    14
    
    
    
    16Participant contributions
    
    
    33
    
    
    
    37Transfer of liability from Eckerd plan
    
    
    1
    
    
    
    Actuarial (gain)
    
    
    (28
    )
    
    
    (27
    )Gross benefits paid
    
    
    (42
    )
    
    
    (41
    )Net postretirement obligation
    
    $
    149
    
    
    $
    171
 The Companys postretirement benefit plans were
amended in 2001 to reduce and cap the per capita dollar
amount of the benefit costs that would be paid by the
Company. Thus, changes in the assumed or actual health
care cost trend rates do not materially affect the APBO
or the Companys annual expense. Cash Contributions Although no additional funding was required under
ERISA, the Company made voluntary contributions of $300
million, or $190 million after tax, to its pension plan
in October of 2004 and 2003. For the qualified pension plan, the Company does not
expect to be required to make a contribution in 2005
under ERISA. It may decide to make a discretionary
contribution, however, depending on market conditions and
the resulting funded position of the plan. The Companys
policy with respect to funding the qualified plan is to
fund at least the minimum required by ERISA of 1974, as
amended, and not more than the maximum amount deductible
for tax purposes. The Company does not currently have
minimum funding requirements, as set forth in employee
benefit and tax laws. All contributions made to the
funded pension plan for 2004 and 2003 were voluntary. Company payments to the unfunded non-qualified
supplemental retirement plans are equal to the amount of
benefit payments made to retirees throughout the year and
for 2005 are anticipated to be approximately $61 million.
The expected contributions for 2005 to 2008 have
increased compared to those in recent years due to a
December 2003 amendment to these plans that allowed
participants a one-time irrevocable election to receive
remaining unpaid benefits over a five-year period in
equal annual installments. All other postretirement benefit plans are not
funded and are not subject to any minimum regulatory
funding requirements. The Company estimates the 2005
postretirement plan payments will approximate $14
million, representing the Companys defined dollar
contributions toward medical coverage. Estimated Future Benefit Payments Primary
    
    
    
    
    
    
    OtherPension Plan
    
    
    Supplemental
    
    
    Postretirement($ in millions)
    
    Benefits(1)
    
    
    Plan Benefits(1)
    
    
    Benefits(1)
    
    
    Total(1)2005
    
    $
    210
    
    
    $
    61
    
    
    $
    14
    
    
    $
    2852006
    
    
    219
    
    
    
    63
    
    
    
    13
    
    
    
    2952007
    
    
    229
    
    
    
    65
    
    
    
    13
    
    
    
    3072008
    
    
    239
    
    
    
    68
    
    
    
    13
    
    
    
    3202009
    
    
    250
    
    
    
    19
    
    
    
    13
    
    
    
    2822010-2014
    
    
    1,412
    
    
    
    99
    
    
    
    63
    
    
    
    1,574
   (1)
    
    Does not include plan expenses. Defined Contribution Plans The Companys Savings, Profit-Sharing and Stock
Ownership Plan is a defined contribution plan available
to all eligible associates of the Company and certain
subsidiaries. Associates who have completed at least
1,000 hours of service within an eligibility period
(generally 12 consecutive months) and have attained age
21 are eligible to participate in the plan. Vesting of
Company contributions occurs over a five-year period.
The Company contributes to the plan an amount equal to
4.5% of the Companys available profits, as well as
discretionary contributions designed to generate a
competitive level of benefits. Total Company
contributions for 2004 and 2003 were $47 million and $45
million, respectively, of which $19 million was a
discretionary contribution in 2003. Associates have the
option of reinvesting matching contributions made in
Company stock into a variety of investment options,
primarily mutual funds. In addition, the Company has
Mirror Savings Plans, which are offered to certain
management associates. Total Company expense for defined contribution
plans, including the Mirror Plans, for 2004, 2003 and
2002 was $52 million, $47 million and $49 million,
respectively.  18
    REAL ESTATE AND OTHER EXPENSE/(INCOME) ($ in millions)
    
    2004
    
    
    2003
    
    
    2002Real estate activities
    
    $
    (30
    )
    
    $
    (28
    )
    
    $
    (25
    )Net gains from sale of
real estate
    
    
    (8
    )
    
    
    (51
    )
    
    
    (16
    )Asset impairments, PVOL and
other unit closing costs
    
    
    19
    
    
    
    57
    
    
    
    75Management transition costs
    
    
    29
    
    
    
    
    
    
    
    Other
    
    
    2
    
    
    
    5
    
    
    
    25Total
    
    $
    12
    
    
    $
    (17
    )
    
    $
    59
 Real Estate Activities and Net Gains from Sale of Real Estate Real estate activities consist of operating income
for the Companys real estate subsidiaries. The Company
recognized net gains on the sale of facilities that were
no longer being used in Company operations and income
from investments in real estate partnerships. Asset Impairments, PVOL and Other Unit Closing Costs In 2004, the Company recorded charges of $19 million
for asset impairments, present value of operating lease
obligations (PVOL) and other unit closing costs. These
costs consisted of $12 million of asset impairments and
$7 million of unit closing costs related primarily to
remaining lease obligations. In 2003, the Company recorded charges of $57 million
for asset impairments, PVOL and other unit closing costs.
These costs consisted of $22 million of accelerated
depreciation for Catalog facilities closed in the second
quarter of 2003, $26 million of asset impairments and $9
million of unit closing costs related primarily to
remaining lease obligations and other. The Company recorded charges of $75 million in 2002
related primarily to asset impairments and PVOL for
certain department stores, catalog and other facilities.
The impairment charges resulted from the Companys
ongoing process of evaluating the productivity of its
asset base.  2004 ANNUAL REPORT
    
    44
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements Management Transition Costs In 2004, the Company recorded a $29 million charge
related to the previously announced senior management
transition. Other Other expenses in 2002 included operating losses of
$10 million related to third-party fulfillment operations
that were discontinued in 2002.  19
    INCOME TAXES Deferred tax assets and liabilities reflected in
the accompanying Consolidated Balance Sheets were
measured using enacted tax rates expected to apply to
taxable income in the years in which those temporary
differences are expected to be recovered or settled.
Deferred tax assets and liabilities from continuing
operations as of January 29, 2005 and January 31, 2004
were comprised of the following: 2004
    
    
    2003Deferred Tax
    
    
    Deferred Tax
    
    
    Deferred Tax
    
    
    Deferred Tax($ in millions)
    
    Assets
    
    
    (Liabilities)
    
    
    Assets
    
    
    (Liabilities)CurrentDiscontinued operations-Eckerd
    
    $
    86
    
    
    $
    
    
    
    $
    
    
    
    $
    (875
    )Accrued vacation pay
    
    
    47
    
    
    
    
    
    
    
    51
    
    
    
    Inventories
    
    
    17
    
    
    
    
    
    
    
    
    
    
    
    (102
    )Closed unit reserves
    
    
    1
    
    
    
    
    
    
    
    8
    
    
    
    Other(1)
    
    
    67
    
    
    
    (55
    )
    
    
    35
    
    
    
    (60
    )Total current
    
    $
    218
    
    
    $
    (55
    )
    
    $
    94
    
    
    $
    (1,037
    )Net current assets/ (liabilities)
    
    $
    163
    (3)
    
    
    
    
    
    
    
    
    
    $
    (943
    )Non-currentDepreciation and amortization
    
    $
    
    
    
    $
    (921
    )
    
    $
    
    
    
    $
    (886
    )Prepaid pension
    
    
    
    
    
    
    (629
    )
    
    
    
    
    
    
    (539
    )Pension and other retiree obligations
    
    
    261
    
    
    
    
    
    
    
    267
    
    
    
    Leveraged leases
    
    
    
    
    
    
    (273
    )
    
    
    
    
    
    
    (280
    )State taxes and net operating losses
    
    
    149
    
    
    
    
    
    
    
    164
    
    
    
    Workers compensation/ general liability
    
    
    92
    
    
    
    
    
    
    
    83
    
    
    
    Discontinued operations- Eckerd
    
    
    44
    
    
    
    
    
    
    
    
    
    
    
    Closed unit reserves
    
    
    8
    
    
    
    
    
    
    
    11
    
    
    
    Other(2)
    
    
    107
    
    
    
    (54
    )
    
    
    122
    
    
    
    (51
    )Total noncurrent
    
    $
    661
    
    
    
    (1,877
    )
    
    $
    647
    
    
    $
    (1,756
    )Valuation allowance
    
    
    (102
    )
    
    
    
    
    
    
    (108
    )
    
    
    Net noncurrent (liabilities)
    
    
    
    
    
    $
    (1,318
    )
    
    
    
    
    
    $
    (1,217
    )Total net deferred tax (liabilities)
    
    
    
    
    
    $
    (1,155
    )
    
    
    
    
    
    $
    (2,160
    )
   (1)
    
    Other current deferred tax assets include tax
items related to gift cards and accruals for
sales returns and allowances. Other current
deferred tax liabilities include tax items
related to property taxes and prepaid expenses.(2)
    
    Other noncurrent deferred tax assets include tax
items related to deferred compensation and environmental
cleanup costs. Other noncurrent deferred tax liabilities include tax items related to unrealized
gain/loss and original issue discount.(3)
    
    A current deferred tax asset of $163 million is
included in Receivables in the Companys 2004
Consolidated Balance Sheet. At the end of 2003, the Company established an
estimated current deferred tax liability of $875 million
based on the pending sale of Eckerd. In accordance with
SFAS No. 109, a tax liability for the excess of the
financial reporting basis over the outside tax basis of
an investment in a subsidiary shall be recognized when it
is apparent that the temporary difference will reverse in
the foreseeable future. This criteria was met as of
year-end 2003 with Eckerd classified as a discontinued
operation. Upon completion of the sale of the Eckerd
operations in July 2004, this current deferred tax
liability was reclassified to income taxes payable.
Subsequent to the close of the sale, the Company made
payments totaling $822 million in relation to these tax
liabilities. Deferred tax assets are evaluated for recoverability
based on estimated future taxable income. The character
and nature of future taxable income may not allow the
Company to realize certain tax benefits of state net
operating losses (NOLs) within the prescribed
carryforward period. Accordingly, a valuation allowance
has been established for the amount of deferred tax
assets generated by state NOLs that may not be realized. Deferred tax liabilities are evaluated and adjusted
as appropriate considering the progress of audits of
various taxing jurisdictions. Management does not expect
the outcome of tax audits to have a material adverse
effect on the Companys financial condition, results of
operations or cash flow. U.S. income and foreign withholding taxes were not
provided on certain unremitted earnings of international
affiliates that the Company considers to be permanent
investments. Income tax expense for continuing operations is as follows: Income Tax Expense for Continuing Operations ($ in millions)
    
    2004
    
    
    2003
    
    
    2002CurrentFederal and foreign
    
    $
    340
    
    
    $
    40
    
    
    $
    22State and local
    
    
    14
    
    
    
    5
    
    
    
    13354
    
    
    
    45
    
    
    
    35DeferredFederal and foreign
    
    
    (8
    )
    
    
    126
    
    
    
    90State and local
    
    
    7
    
    
    
    11
    
    
    
    5(1
    )
    
    
    137
    
    
    
    95Total
    
    $
    353
    
    
    $
    182
    
    
    $
    130
 A reconciliation of the statutory federal income tax
rate to the effective rate for continuing operations is
as follows: Reconciliation of Tax Rates for Continuing Operations (percent of pre-tax income)
    
    2004
    
    
    2003
    
    
    2002Federal income tax
at statutory rate
    
    
    35.0
    %
    
    
    35.0
    %
    
    
    35.0
    %State and local income
tax, less federal income
tax benefit
    
    
    1.3
    
    
    
    2.1
    
    
    
    2.8Tax effect of dividends on
ESOP shares
    
    
    (1.0
    )
    
    
    (2.6
    )
    
    
    (6.0
    )Other permanent
differences and credits
    
    
    (0.6
    )
    
    
    (1.3
    )
    
    
    (0.3
    )Effective tax rate for
continuing operations
    
    
    34.7
    %
    
    
    33.2
    %
    
    
    31.5
    %
  2004 ANNUAL REPORT
    
    45
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements The overall tax rates for continuing operations
were 34.7%, 33.2% and 31.5% for 2004, 2003 and 2002,
respectively. The income tax rate was lower in 2002 than
it otherwise would have been because of the tax law
change allowing the deductibility of all dividends paid
to the Companys savings plan, with a one-time provision
to include certain of the prior years dividends with the
2002 deduction.  20
    LITIGATION, OTHER CONTINGENCIES AND GUARANTEES The Company is subject to various legal and
governmental proceedings involving routine litigation
incidental to its business, including being a
co-defendant in a class action lawsuit involving the sale
of insurance products by a former Company subsidiary.
Reserves have been established based on managements best
estimates of the Companys potential liability in certain
of these matters. These estimates have been developed in
consultation with in-house and outside counsel. While no
assurance can be given as to the ultimate outcome of
these matters, management currently believes that the
final resolution of these actions, individually or in the
aggregate, will not have a material adverse effect on the
results of operations, financial position, liquidity or
capital resources of the Company. In 2002, management engaged an independent
engineering firm to evaluate the Companys established
reserves for potential environmental liability associated
with facilities, most of which the Company no longer owns
or operates. Funds spent to remedy these sites are
charged against such reserves. A range of possible loss
exposure was developed and the reserve was increased in
2002 to an amount that the Company continues to believe
is adequate to cover estimated potential liabilities. As part of the Eckerd sale agreements, the Company
retained responsibility to remediate environmental
conditions that existed at the time of the sale of Eckerd
properties. At closing, the Company recorded a reserve
based on managements preliminary analysis of the costs
to remediate environmental conditions that are considered
probable and review of managements analysis by an
outside consultant. This reserve is included in the
reserves for discontinued operations presented in Note 8. In relation to the sale of the Eckerd operations, as
of January 29, 2005, the Company has guarantees of
approximately $28 million for certain personal property
leases assumed by the purchasers of Eckerd, which were
previously reported as operating leases. Currently,
management does not believe that any potential financial
exposure related to these guarantees would have a
material impact on the Companys financial position or
results of operations. Additionally, the Company has
guarantees of approximately $10 million related to
certain leases for stores that were sold in 2003, which
are recorded in Accrued Expenses and Other. JCP, through JCP Realty, Inc., a wholly owned
subsidiary, has investments in 14 partnerships that own
regional mall properties, six as general partner and
eight as limited partner. JCPs potential exposure to
risk is greater in partnerships in which it is a general
partner. Mortgages on the six general partnerships total
approximately $324 million; however, the estimated
market value of the underlying properties is
approximately $610 million. These mort gages are
non-recourse to JCP, so any financial exposure is minimal. In addition, the subsidiary has guaranteed loans
totaling approximately $18 million related to an
investment in a real estate investment trust. The
estimated market value of the underlying properties
significantly exceeds the outstanding mortgage loans, and
the loan guarantee to market value ratio is less than 4%
as January 29, 2005. In the event of possible default,
the creditors would recover first from the proceeds of
the sale of the properties, next from the general
partner, then from other guarantors before JCPs
guarantee would be invoked. As a result, management does
not believe that any potential financial exposure related
to this guarantee would have a material impact on the
Companys financial position or results of operations. As part of the 2001 DMS asset sale, JCP signed a
guarantee agreement with a maximum exposure of $20
million. Any potential claims or losses are first
recovered from established reserves, then from the
purchaser and finally from any state insurance guarantee
fund before JCPs guarantee would be invoked. As a
result, management does not believe that any potential
exposure would have a material effect on the Companys
consolidated financial statements.  21
    SUBSEQUENT EVENTS Put Option Debentures On March 1, 2005, the put option on JCPs $400
million 7.4% Debentures Due 2037 expired. Virtually all
of the debentures were extended to the stated 2037
maturity date, with only $0.3 million put to the Company.
Accordingly, $399.7 million is classified as Long Term
Debt on the January 29, 2005 Consolidated Balance Sheet. 2005 Capital Structure Repositioning Program On March 18, 2005, the JCPenney Board of Directors
approved a new $1 billion capital structure repositioning
program, which consists of $750 million of additional
common stock repurchases and $250 million purchases of
debt in the open market. The 2005 pro gram is expected to
be funded with existing cash and short-term investments. Credit Facility The Company expects to close on a new $1.2 billion
revolving credit facility in April 2005. The new bank
line of credit will have a five-year term and no pledge of
collateral, and will replace the current $1.5 billion
bank line that includes a pledge of inventory as collateral
and is scheduled to expire in May 2005. The dollar
amount of the credit facility is being decreased due to
the sale of Eckerd.  2004 ANNUAL REPORT
    
    46
    
    J.C. PENNEY COMPANY, INC.




---



##### 



Notes to the Consolidated Financial Statements Common Stock Repurchases From January 30, 2005 through March 18, 2005, the
Company repurchased an additional 1.7 million shares of
common stock at a cost of approximately $82 million,
bringing the total repurchases for the 2004 Capital
Structure Repositioning Program to date up to 51.8
million shares at a cost of approximately $2,034 million.
This represents approximately 68% of the total planned
common stock repurchases under this program. 2005 Equity Compensation Plan In February 2005, the Companys Board of Directors
approved the 2005 Equity Compensation Plan (2005 Plan),
which, if approved by the Companys stockholders at the
May 2005 Annual Meeting, will reserve 14.4 million shares
of common stock for issuance to certain associates and
non-employee directors, plus 2.8 million shares reserved
but not subject to awards under the 2001 Plan. Further
description of the 2005 Plan can be found in the 2005 J.
C. Penney Company, Inc. Notice of Annual Meeting and
Proxy Statement.  2004 ANNUAL REPORT
    
    47
    
    J.C. PENNEY COMPANY, INC.




---



##### 



QUARTERLY DATA (UNAUDITED) First
    
    
    Second
    
    
    Third
    
    
    Fourth($ in millions, except per share data)
    
    2004
    
    
    2003
    
    
    2004
    
    
    2003
    
    
    2004
    
    
    2003
    
    
    2004
    
    
    2003(2)Retail sales, net
    
    $
    4,033
    
    
    $
    3,711
    
    
    $
    3,857
    
    
    $
    3,645
    
    
    $
    4,461
    
    
    $
    4,332
    
    
    $
    6,073
    
    
    $
    6,098Gross margin
    
    
    1,615
    
    
    
    1,456
    
    
    
    1,443
    
    
    
    1,310
    
    
    
    1,821
    
    
    
    1,666
    
    
    
    2,260
    
    
    
    2,188SG&A expenses
    
    
    1,386
    
    
    
    1,372
    
    
    
    1,287
    
    
    
    1,257
    
    
    
    1,475
    
    
    
    1,458
    
    
    
    1,679
    (3)
    
    
    1,743Operating profit
    
    
    229
    
    
    
    84
    
    
    
    156
    
    
    
    53
    
    
    
    346
    
    
    
    208
    
    
    
    581
    
    
    
    445Income/(loss) from continuing operations
    
    
    118
    
    
    
    20
    
    
    
    72
    
    
    
    (3
    )
    
    
    149
    
    
    
    94
    
    
    
    328
    
    
    
    253Discontinued operations
    
    
    (77
    )
    
    
    41
    
    
    
    (71
    )
    
    
    3
    
    
    
    
    
    
    
    (14
    )
    
    
    5
    
    
    
    (1,322
    )Net income/(loss)
    
    $
    41
    
    
    $
    61
    
    
    $
    1
    
    
    $
    
    
    
    $
    149
    
    
    $
    80
    
    
    $
    333
    
    
    $
    (1,069
    )Earnings/(loss) per common share,
diluted(1):Continuing operations
    
    $
    0.38
    
    
    $
    0.05
    
    
    $
    0.23
    
    
    $
    (0.03
    )
    
    $
    0.50
    
    
    $
    0.31
    
    
    $
    1.16
    
    
    $
    0.83Discontinued operations
    
    
    (0.25
    )
    
    
    0.15
    
    
    
    (0.25
    )
    
    
    0.01
    
    
    
    
    
    
    
    (0.04
    )
    
    
    0.01
    
    
    
    (4.25
    )Net income/(loss)
    
    $
    0.13
    
    
    $
    0.20
    
    
    $
    (0.02
    )
    
    $
    (0.02
    )
    
    $
    0.50
    
    
    $
    0.27
    
    
    $
    1.17
    
    
    $
    (3.42
    )
   (1)
    
    Per share amounts are computed independently for each of the quarters presented. The
sum of the quarters may not equal the total year amount due to the impact of changes in
average quarterly shares outstanding.(2)
    
    Represents 14 weeks.(3)
    
    Includes a cumulative pre-tax expense adjustment of $8 million related to lease accounting.  2004 ANNUAL REPORT
    
    48
    
    J.C. PENNEY COMPANY, INC.




---



##### 



FIVE-YEAR FINANCIAL AND OPERATIONS SUMMARY (UNAUDITED) (in millions, except per share, store count and pergross square foot data)
    
    2004
    
    
    2003
    
    
    2002
    
    
    2001
    
    
    2000FINANCIAL SUMMARYResults for the yearRetail sales, net
    
    $
    18,424
    
    
    $
    17,786
    
    
    $
    17,633
    
    
    $
    18,092
    
    
    $
    18,693Sales percent increase/(decrease)Total department store sales
    
    
    5.0%
    (1)
    
    
    (0.6)%
    (1)
    
    
    1.9
    %
    
    
    1.5
    %
    
    
    (3.1
    )%Comparable department store sales(2)
    
    
    5.0
    %
    
    
    0.9
    %
    
    
    2.7
    %
    
    
    3.4
    %
    
    
    (2.3
    )%Catalog/Internet sales
    
    
    3.3%
    (3)
    
    
    1.5%
    (3)
    
    
    (22.0
    )%
    
    
    (19.7
    )%
    
    
    (2.7
    )%Income/(loss) from continuing operations
    
    
    667
    
    
    
    364
    
    
    
    285
    
    
    
    182
    
    
    
    (175
    )Ratios as a percent of sales:Gross margin
    
    
    38.7
    %
    
    
    37.2
    %
    
    
    35.9
    %
    
    
    33.6
    %
    
    
    31.8
    %SG&A
    
    
    31.6
    %
    
    
    32.8
    %
    
    
    32.0
    %
    
    
    30.5
    %
    
    
    30.5
    %Operating profit
    
    
    7.1
    %
    
    
    4.4
    %
    
    
    3.9
    %
    
    
    3.1
    %
    
    
    1.3
    %Return on beginning stockholders equity 
continuing operations
    
    
    12.3
    %
    
    
    5.7
    %
    
    
    4.7
    %
    
    
    2.9
    %
    
    
    (2.4
    )%Per common shareIncome/(loss) from continuing operations(4)
    
    $
    2.23
    
    
    $
    1.21
    
    
    $
    0.95
    
    
    $
    0.57
    
    
    $
    (0.79
    )Dividends
    
    
    0.50
    
    
    
    0.50
    
    
    
    0.50
    
    
    
    0.50
    
    
    
    0.825Stockholders equity
    
    
    17.89
    
    
    
    19.08
    
    
    
    22.78
    
    
    
    22.20
    
    
    
    22.68Financial positionCapital expenditures
    
    $
    412
    
    
    $
    373
    
    
    $
    315
    
    
    $
    315
    
    
    $
    355Total assets
    
    
    14,127
    
    
    
    18,300
    
    
    
    17,787
    
    
    
    17,993
    
    
    
    19,767Long-term debt, including current maturities(5)
    
    
    3,923
    
    
    
    5,356
    
    
    
    5,173
    
    
    
    6,060
    
    
    
    5,657Stockholders equity
    
    
    4,856
    
    
    
    5,425
    
    
    
    6,370
    
    
    
    6,129
    
    
    
    6,259OtherCommon shares outstanding at end of year
    
    
    271
    
    
    
    274
    
    
    
    269
    
    
    
    264
    
    
    
    263Weighted-average common shares:Basic
    
    
    279
    
    
    
    272
    
    
    
    267
    
    
    
    263
    
    
    
    262Diluted
    
    
    307
    
    
    
    297
    
    
    
    293
    
    
    
    267
    
    
    
    262OPERATIONS SUMMARYNumber of department stores:JCPenney Department StoresBeginning of year
    
    
    1,020
    
    
    
    1,043
    
    
    
    1,069
    
    
    
    1,108
    
    
    
    1,141Openings
    
    
    14
    
    
    
    6
    
    
    
    3
    
    
    
    10
    
    
    
    9Closings
    
    
    (17
    )
    
    
    (29
    )
    
    
    (29
    )
    
    
    (49
    )
    
    
    (42
    )End of year
    
    
    1,017
    
    
    
    1,020
    
    
    
    1,043
    
    
    
    1,069
    
    
    
    1,108Renner Department Stores
    
    
    62
    
    
    
    58
    
    
    
    54
    
    
    
    54
    
    
    
    49Total Department Stores
    
    
    1,079
    
    
    
    1,078
    
    
    
    1,097
    
    
    
    1,123
    
    
    
    1,157Gross selling space(square feet in millions)
    
    
    103.9
    
    
    
    103.6
    
    
    
    105.6
    
    
    
    108.3
    
    
    
    112.3Sales
    
    $
    15,685
    
    
    $
    15,088
    
    
    $
    15,020
    
    
    $
    14,743
    
    
    $
    14,520Sales per gross square foot(6)
    
    
    150
    
    
    
    143
    
    
    
    140
    
    
    
    135
    
    
    
    128Number of Catalog units:Department stores
    
    
    1,012
    
    
    
    1,015
    
    
    
    1,036
    
    
    
    1,068
    
    
    
    1,107Third-party merchants, outlet stores,
freestanding sales centers and other
    
    
    470
    
    
    
    524
    
    
    
    523
    
    
    
    546
    
    
    
    600Total Catalog units
    
    
    1,482
    
    
    
    1,539
    
    
    
    1,559
    
    
    
    1,614
    
    
    
    1,707Total Catalog/Internet sales
    
    $
    2,739
    
    
    $
    2,698
    
    
    $
    2,613
    
    
    $
    3,349
    
    
    $
    4,173Number of employees
at end of year(in thousands)(7)
    
    
    151
    
    
    
    151
    
    
    
    161
    
    
    
    166
    
    
    
    193
   (1)
    
    Excludes the effect of the 53rd week in 2003. Including sales of $152 million for the 53rd
week in 2003, total department store sales increased 4.0% and 0.5% for 2004 and 2003, respectively.(2)
    
    Comparable store sales include the sales of stores after having been open for 12 full
consecutive fiscal months. New and relocated stores become comparable on the first day of the 13th
full fiscal month. Comparable store sales are presented on a 52-week basis.(3)
    
    Excludes the effect of the 53rd week in 2003. Including sales of $46 million for the 53rd week
in 2003, total Catalog/Internet sales increased 1.5% and 3.3% for
2004 and 2003, respectively.(4)
    
    Calculation excludes the effects of anti-dilutive common stock equivalents.(5)
    
    Includes capital lease obligations and other.(6)
    
    Calculation includes the sales of stores that were open for a full year as of
each year end. The 2003 calculation excludes sales of the 53rd week.(7)
    
    Includes part-time and full-time employees.  2004 ANNUAL REPORT
    
    49
    
    J.C. PENNEY COMPANY, INC.




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##### 



CORPORATE GOVERNANCE The Company shares its stockholders interest in matters of corporate governance, and
is, and for many years has been, committed to assuring that the Company is managed in a way that
is fair to all its stockholders and that allows its stockholders to maximize the value of their
investment by participating in the present and future growth of JCPenney. The Corporate
Governance Committee of the Board of Directors continually reviews developments in the governance
area as they affect relations between the Company and its stockholders and makes recommendations
to the full Board regarding such issues. A complete listing of the Companys corporate governance
guidelines is available online at www.jcpenney.net. Certifications The Company submitted a Section 12(a) CEO Certification to the New York Stock Exchange in
2004. The Company filed the CEO and CFO certifications required under Section 302 of the
Sarbanes-Oxley Act of 2002 with the Securities and Exchange Commission as exhibits to its 2004
Annual Report on Form 10-K. Independent Board of Directors In keeping with its long-standing practice, the Companys Board continues to be an
independent board. Nominees for directors are selected by a committee composed entirely of
directors who are not Company employees. The wide diversity of expertise, experience and
achievements that the directors possess in business, investments, large organizations and public
affairs allows the Board to most effectively represent the interests of all the Companys
stockholders. Independent Committees The Audit Committee, Corporate Governance Committee, Finance Committee and Human Resources
and Compensation Committee, all standing committees of the Board of Directors, are composed
entirely of independent directors. These committees, as well as the entire Board, consult with
and are advised by outside consultants and experts in connection with their deliberations, as
needed. Copies of the charters of each of these committees are available online at
www.jcpenney.net. Executive Compensation Set by Independent Directors A significant portion of the cash compensation received by the Companys executive officers
consists of performance incentive compensation payments derived from compensation plan values.
The amounts of these plan values are directly related to the sales and earnings of the Company
and, consequently, vary from year to year based upon Company performance. The total compensation
package for the Companys executive officers is set by the Human Resources and Compensation
Committee, which is composed entirely of independent directors and which receives the advice of
independent outside consultants. Please refer to the Companys 2005 Proxy Statement for a report
from the Companys Human Resources and Compensation Committee describing how compensation
determinations are made. Confidential Voting The Company has a long-standing confidential voting policy. Under this policy, all proxy
(voting instruction) cards, ballots and vote tabulations, including telephone and Internet voting
records, that identify the particular vote of a stockholder, are kept secret from the Company,
its directors, officers and employees. Proxies are returned directly to the tabulator, who
receives and tabulates the proxies. The final tabulation is inspected by inspectors of election
who are independent of the Company, its directors, officers and employees. The identity and vote
of a stockholder is not disclosed to the Company, its directors, officers or employees, or any
third party except: (1) to allow the independent election inspectors to certify the results of
the vote; (2) as necessary to meet applicable legal requirements and to assert or defend claims
for or against the Company; (3) in the event of a proxy solicitation based on an opposition proxy
statement filed, or required to be filed, with the Securities and Exchange Commission; or (4) in
the event a stockholder has made a written comment on such material. CORPORATE CITIZENSHIP Community Relations The Company remains committed to investing in community programs that are important to its
customers and its employees. JCPenneys commitment focuses on three major endeavors. The Company
is a contributor to JCPenney Afterschool Fund, a charitable organization committed to providing
children with high-quality after-school programs. The Company supports community health and
welfare issues primarily through support of local United Ways nationwide. The Company annually
recognizes its associates personal volunteer endeavors through the James Cash Penney Awards
for Community Service. A more complete review of JCPenneys community relations efforts is
available online at www.jcpenney.net/company/commrel. Diversity JCPenney has been a corporate member of the National Minority Supplier Development Council
(NMSDC) since 1972 and continues to invest in the NMSDCs Business Consortium Fund, which makes
loans to minority-owned businesses. The Company is a founding member of the Womens Business
Enterprise National Council. In 2004, the Companys purchases from minority-owned and women-owned
businesses totaled $430 million and $218 million, respectively. Environmental Affairs The Companys commitment to doing business in a responsible manner includes a determination
to make environmental, health and safety considerations an important factor in corporate
decision-making and policy. Copies of Matters of Principle: JCPenney and Environmental
Responsibility may be obtained as indicated on the inside back cover of this Annual Report. 2004 ANNUAL REPORT J. C.
PENNEY COMPANY, INC. 50