Signposts of Success in a Turnaround Play

Jason Stipp: For Morningstar, I am Jason Stipp. I am reporting from the Value Investing Conference in New York City. I am here with Lloyd Khaner. He is from Khaner Capital, and he looks at turnaround plays and opportunities that they present for investors. Thanks for joining me, Lloyd.

Lloyd Khaner: Sure. My pleasure.

Stipp: So you talked a little bit today about what you look for in a turnaround play. Top-line, what are some of the top things that you look for when a new management company is going to be supposedly turning around company? What do you like to see?

Khaner: Well the first thing I look at is the history of the management team that is coming to turn around the company. I want to see an experience of success, and especially success turning around companies.

And then cost-cutting. First they got to start cutting costs, and then to redirect the capital in ways that will help the company grow going forward, at the same time correcting current problems they have. Stabilize the situation and then move forward.

Stipp: Now I assume that when you're investing in turnarounds, the timing is obviously very important. When you get in, when you get out. What do you look for as a good entry point to get in on the turnaround, and then how long do you wait to see results, or when have you seen the results and gotten the bump? How do you work out the timing?

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Khaner: Well usually, once I get confidence in management that they are going along the right path that I think is the right path, and they have cut their unprofitable sales, and I see the margins start improving, usually then I will make the investment.

There is also a matter of valuation, even early on. Most people don't like the stock. It's probably not doing very well. It's probably been traded down a great deal, and then I will start, but give myself about 10 percent downside so I can continue buying the stock if it continues to trend lower, which turnarounds often do early on.

Stipp: OK. Sort of a timely question for you. Obviously, the last year in the market we have seen quite a roller coaster ride. But we also have experienced a rather extended down market. What sort of things do you look or in management decisions in a down market that would give you a sense whether they're really doing well in a very critical time for the company?

Khaner: If they can maintain a lower level of spending, conserve their cash, and at the same time reinvest enough so they continue moving the company operationally forward, invest in R&D, get the new products, but at the same time understand that it's going to be a low-growth environment or a no-growth environment for a while. So again, just protect that capital, but at the same time, think about the future.

Stipp: Sure. Last question for you. Three examples of some of your top A-list managers that have on your radar right now.

Khaner: Well, Stephen Angel at Praxair. He's been there for a while. He's outstanding in the industrial gas space. Len Goldberg in reinsurance, a reinsurance company that he runs called Greenlight Capital Re, also outstanding. And Howard Schultz, who everyone knows at Starbucks, came back in January of last year to turn around Starbucks. And he's extraordinary in the whole restaurant and food industry.

Stipp: Great. Well thanks so much for joining me Lloyd. It was a pleasure talking with you.

Khaner: Oh, thank you.