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Apr 16, 2013

What was the board’s role at JC Penney?

How accountable should embattled retailer JC Penney's board be held for the failure of its latest business strategy?

How accountable should the board be held when a company’s major change in business strategy goes up in flames? In the case of embattled retailer JC Penney, which fired CEO Ron Johnson on April 8, after less than 18 months on the job, and re-hired his immediate predecessor, Myron ‘Mike’ Ullman, that’s just one of a handful of nagging questions. 

At minimum, the board is likely to have approved the major changes in business strategy devised by Johnson, the most significant being the decision to appeal to a more upscale customer than the one historically targeted by Penney. Johnson’s jettisoning of Penney’s famous discounts in favor of month-long promotions alienated customers and hurt sales.  

‘Changing the [overall business] strategy of the company -- typically the board would definitely be involved in that,’ says Donna Dabney, executive director of the Governance Center at The Conference Board and a former corporate secretary at Alcoa. 

Ullman’s rehiring raises questions about the board’s long-term vision for the company, given that all but three of Penney’s eleven directors were in place when Johnson replaced Ullman in November 2011. Activist shareholder William Ackman, whose Pershing Square Capital Management owns more than 18 percent of JC Penney, pushed his way onto the board in January 2011 and recruited Johnson from Apple within the year. 

‘That’s when the change in strategy occurred, so now you have a situation where that strategy didn’t work,’ says Dabney. ‘It’s entirely appropriate for the board to take a look at that and in its judgment either decide to go back to where we were before in order to stabilize the company, or move to a new strategy.’

In light of what’s occurred, shareholders will have to decide at the annual meeting in May whether they want Ackman to continue to serve on the board. 

Bringing back Ullman may be more of a stop-gap measure until a permanent CEO can be found, says Thomas Lys, who holds the Eric L Kohler Chair in Accounting at Northwestern University’s Kellogg School of Management. (Kellogg offers an executive education program geared to sitting board members.) There has been no mention of Ullman serving as only an interim replacement for Johnson, but the fact that he and Penney have not signed an employment agreement, as revealed in an SEC filing on April 8, suggests he’s not back for long. If the board wants Ullman to serve longer, it would need to offer him more assurance of support for any business decisions he will make, says Lys.  

Even so, the lack of succession planning before Johnson’s ouster is ‘a lapse of the board,’ says Lys. ‘A board that doesn’t have a succession plan in place at any given time is not doing its job.’ 

It also indicates the board may not have adequately thought through Johnson’s appointment in the first place. It was not realistic to have expected Johnson to be able to turn the company around in a year and a half, adds Lys. 

It’s possible JC Penney was developing a succession plan but may not have felt fully ready to have another manager already at the company step into the CEO spot yet, says Peter Gleason, managing director of the National Association of Corporate Directors (NACD). ‘Usually there’s an emergency succession plan that gets put in place within months of a CEO starting or at least that gets discussed, but because Johnson was coming in from outside, they may have been completely revamping it.’

A related question is whether Johnson’s part-time presence in Penney’s Plano, TX headquarters and decision not to relocate from California was broached during the board’s negotiations before Johnson’s appointment or whether it was a surprise, says Lys. 

It’s generally a bad idea to hire a CEO without requiring him to relocate to where the company is based, he says. ‘I can’t imagine how you can be an effective leader and not be physically present all the time. One thing you do is set the tone at the top. How can you do that long-distance?’

Another concern is whether the board bears responsibility for what may have been a feeble vetting of Martha Stewart’s other contractual obligations before JC Penney signed a 10-year, $200 million licensing deal with Martha Stewart Living Omnimedia. That deal resulted in Macy’s lawsuits against Penney and MSLO, in which Macy’s claims the deal violates its own long-term distribution deal for Martha Stewart home goods, recently renewed for another five years.

JC Penney’s concept was to feature separate standalone businesses such as Martha Stewart’s within its larger store and it will be left to the court to interpret the meaning of a separate standalone business and determine whether that was a legitimate way around MSLO’s exclusive agreement with Macy’s. It was Ullman who conceived the mini-store model for JC Penney; during his original tenure as CEO the company created mini-stores for such upscale brands as French cosmetics retailer Sephora, Liz Claiborne and MNG by Mango. 

‘I would assume the legal staff at JC Penney carefully considered what their legal rights were and made a judgment that they were entitled to do what they did,’ in setting up a Martha Stewart mini-store, says Dabney. 

Depending on the significance of the contract, either the general counsel or people on his or her staff would have been directly involved in negotiations with MSLO, says Dabney. The board, however, isn’t necessarily at fault for any incomplete vetting of MSLO’s other contractual restrictions since the general counsel is typically not a member of the board and isn’t at JC Penney. In addition, a lawsuit in and of itself does not mean that Macy’s claims are justified, says Lys. 

Despite the common issues that JC Penney and other retailers face, the CEO overhaul does not have clear implications for boards at other companies, says Dabney, who sees this case as unique.

‘Here you have investor Bill Ackman, who decided to step out of his investor role and take on a more operational role -- being on the board and approving strategy decisions --and it didn’t work out,’ she says.