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J.C. Penney, Sephora Make Up A New Strategy

J. C. Penney Co. Inc. has again asserted its ingenuity, as it breaks away from the pack of often-floundering department stores.

Penney has agreed to open up the prestigious, European cosmetic chain, Sephora, as stores-within-stores—first at new Penney stores with a subsequent rollout at many existing stores. The move adds a strong brand to Penney’s while giving it a foothold in the high-profit cosmetics business and helping broaden its customer base.

“Our customer spends approximately the same amount each year as the typical Sephora customer,” said JC Penney CEO Mike Ullman in a conference call with investors “She has the desire and the wherewithal to shop Sephora as it exists today.”

The deal represents a new strategy for Penney. It primarily employs proprietary brands for apparel, but this brings an established brand into its stores. Sephora carries its own line in addition to other cosmetics and has built an identity with its glitzy locations. Penney’s move emulates the strategy employed by Federated Stores Inc., which just last week signed a deal to bring Martha Stewart products to Macy’s stores. It is also in stark contrast with Sears Holding Corp., which appears to be letting Stewart walk away from its relationship with Kmart after their contract ends.

Ullman, who used to head LVMH Moet Hennessy Louis Vuitton, which owns Sephora, helped grease the wheels for the deal. Sephora will open stores ranging from 1,500 square feet to 1,800 square feet in size that will carry a more limited selection than its standalone locations. Ullman described it as “the best of Sephora.”

The rollout will be gradual. New stores will come on line starting in September 2006. All new Penney’s stores in 2007, about 30, will feature Sephora stores. In late 2007 and 2008, Penney will begin retrofitting older stores and add Sephora locations at a total of 1,000 stores. Visually, the stores will carry the glam look at Sephora’s standalone locations.

Penny will carve away from the center cores of the existing stores, primarily in the accessory sections. “You will look through Sephora into the fine jewelry section as you walk through the door,” Ullman said. “In other stores, we will have to relayer some merchandise categories. We think given the productivity of the category. It’s worth the time.”

Penney analysts lauded the deal.

“The announcement of a long-term agreement places Penney on the threshold of attaining its goal,” of carrying leading cosmetic brands in its stores, wrote Oppenheimer analyst Bernard Sosnick. “Unlike Penney’s unsuccessful prior efforts to launch cosmetic lines, Sephora has an aura of authenticity based on its striking stores in malls and other key locations.”

The deal solves what has been a long-term conundrum for Penney, which has struggled, but failed, to build a cosmetics business since the 1980s. Sephora is already a proven operator, so there is little risk. For Sephora, the deal puts the company on the fast track for expanding its reach in an environment where most retail centers are operating at near capacity. Sephora operates 125 stores, 34 in malls, with the standard prototype being 4,400 square feet.

Financial details of the relationship were not announced.

-- Beth Karlin & David Bodamer

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