How to Spot the Worst-Managed Companies

Management is critical to a company's success. And it's often a good place to start your evaluation of whether one company would make a better investment than another -- especially within the same sector or industry.

Here's a primer on how I identify the poorly run players in a specific business, plus my three picks for the worst-managed U.S. companies of the year.

My Criteria

While not all the companies on my list suffer from every one of the following problems, they meet at least one or more of these negative characteristics which make them lousy investments, and potentially excellent short sales.

My main checklist:

1. Poor financial condition. Heavy debt loads, large amounts of goodwill and poor cash flow are common among poorly run companies. As a result, their balance sheets are in poor shape. The inability to shore up balance sheets could spell further danger in the future. Take a look at Charter Communications ( CHTR). This company has nearly $20 billion in long term debt with virtually no cash on hand.

2. "Second Banana Syndrome." Some of the companies on my list are not what would you refer to as "best of breed." Most of them are in an industry or sector that has at least one more dominant competitor. For example, Circuit City ( CC) is a distant second place electronic retailer to Best Buy ( BBY). In the smart phone technology category, Palm ( PALM) has fallen to second or third place behind Research In Motion ( RIMM) and Apple ( AAPL).

3. Ineffective management. Successful companies will have management teams which not only innovate, but can also manage during times of stress. In fact, innovation does not simply mean the introduction of a single "cool" product, such as (the now struggling) Sharper Image ( SHRP) did with the Ionic Breeze Air Purifier. Effective innovation and management is about being able to transform a company into a provider of a well-balanced and diversified line of products.

Look at the success of retailer Dick's Sporting Goods ( DKS). While it may be the top retailer of golfing products and apparel, the company also sells a wide range of sporting goods and apparel. As a result, I believe Dick's Sporting Goods will be able to survive an economic downturn. Other retailers will not be so lucky. In retail (and in many other businesses), when it comes to navigating a difficult economic environment like the one we're in now, inventory management will be a critical key to success.

4. Strategic mistakes. This can take many forms. One of the most damaging are large acquisitions which turn out to be costly mistakes. Take Washington Mutual for example. The company acquired Providian, a subprime-type credit card issuer for $6.5 billion in 2006. ( 2008: " JPMorgan Chase Takes Over WaMu")

Six Flags ( SIX) has invested heavily in capital expenditures ("capex") in both its theme parks to build up related holdings such as restaurants and hotels. These strategies have not resulted in increased park attendance and cash flow which management had anticipated from the increased capex.

My List of the Worst Managed U.S. Companies of 2008

  • Macy's (M)
  • General Motors (GM)
  • Time Warner (TWX)
  • Macy's. This retailer is burdened with over $9 billion in long term debt and there is no indication that the company will be able to make a dent in paying down that debt as we head deeper into negative economic territory. Yet Macy's has continued to expand through the opening of new stores. In 2005, Macy's acquired May Department Stores. The company is still integrating this acquisition and made a strategic blunder to change May's popular Marshall Field's brand into Macy's to the ire of this Midwestern retail institution's faithful customer base. If Macy's can manage its inventories during what is bound to be a poor holiday shopping season, then the company might survive. If not, then M may have a more difficult future to manage.

    General Motors. GM has a "unique" business model: Build cars that the public yearned for when gas prices were below $1 and scrap plans for electric and energy-efficient automobiles. Then try to reverse that strategy (once time may have run out). Then finance cars at very low interest rates to entice customers to buy them at signifcantly discounted prices. And throughout this whole process, grow debt.

    Other management missteps: Have the highest cost of manufacturing in the industry, continue to pay for expensive labor mistakes made in the past, and allow foreign competitors to take away a once dominant market share.

    So what's GM's plan to correct their course? The company is in discussions to merge with another also-ran car company, Chrysler.

    Put it all together and GM is clearly one of the worst managed companies in the U.S. today. And its stock is trading at multi-decade lows.

    Time Warner. I have been kind to Time Warner in the past. I thought that CEO Richard Parsons was an admirable fellow. However, he could not salvage what was left after one of the worst ever corporate mergers ever -- AOL Time Warner in 2000.

    I don't believe that Time Warner, under Jeffrey Bewkes, Parson's successor, will be able to return to the pre-AOL dominance that it once enjoyed. The glory days under the leadership of the late Steve Ross are no more than a distant memory for the company. Saddled with $37 billion of debt and not enough assets to sell to pay down the debt, Time Warner remains in financial hell. And in my opinion, cost cutting will not help the company manage its way out of debt as well. I see the delay of the next installment in the Harry Potter movie series as indicative of the operational problems at Time Warner.

    With better management and improved economic conditions, there is a chance that my 2008 vintage of poorly managed companies could turn themselves around. However, those are not bets I would be willing to make. GM is a special case and is likely to be supported by the U.S. government, much in the way the government rescued Chrysler in the 1970s.

    Your Homework

  • Take at fresh look at the three companies on my list and understand why they have performed poorly.
  • .

  • Identify other companies that are poorly managed that meet the criteria spelled out above.
  • At the time of publication, Rothbort had no positions in the stocks mentioned, although positions can change at any time.

    Scott Rothbort has over 20 years of experience in the financial services industry. In 2002, Rothbort founded LakeView Asset Management, LLC, a registered investment advisor based in Millburn, N.J., which offers customized individually managed separate accounts, including proprietary long/short strategies to its high net worth clientele.

    Immediately prior to that, Rothbort worked at Merrill Lynch for 10 years, where he was instrumental in building the global equity derivative business and managed the global equity swap business from its inception. Rothbort previously held international assignments in Tokyo, Hong Kong and London while working for Morgan Stanley and County NatWest Securities.

    Rothbort holds an MBA in finance and international business from the Stern School of Business of New York University and a BS in economics and accounting from the Wharton School of Business of the University of Pennsylvania. He is a Term Professor of Finance and the Chief Market Strategist for the Stillman School of Business of Seton Hall University.

    For more information about Scott Rothbort and LakeView Asset Management, LLC, visit the company's Web site at www.lakeviewasset.com. Scott appreciates your feedback; click here to send him an email.

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