Socially-Reponsible Turnarounds

03/27/2017 2:50 am EST

Focus: STRATEGIES

George Putnam

Editor, The Turnaround Letter

Intangibles that go beyond traditional financial measures, such as how companies protect the environment, promote fair treatment of people and practice good corporate governance are becoming mainstream ingredients in analyzing companies, observes George Putnam, editor of The Turnaround Letter

A common term for this approach is “ESG” investing, which stands for Environmental, Social and Governance.  It is also sometimes called “sustainable,” “socially responsible” or “impact” investing.

We firmly agree that ESG analysis is an important tool for successful long-term investing. We not only want to understand a company’s current ESG status, but also where it is headed. 

In many cases, we have found that companies with weak but improving ESG practices can be outstanding investments. Turnarounds in ESG practices often go hand-in-hand with turnarounds in financial results.

Below are two companies that score well on ESG practices and also have strong elements of a turnaround in their financial performance. 

VF Corp (VFC), a highly regarded maker of enduring branded clothing like Lee and Wrangler, North Face , Timberland and Vans, has struggled with slowing revenue and profit growth. 

While its adaptation to an increasingly internet-based retail environment has been impressive, many of its brands are maturing. Its shares have declined over 30% peaking their highs in 2015. 

The company earns some of the highest ESG scores among its peers.  Management is taking a more aggressive stance to re-invigorate its brands, and there is the potential for more strategic changes. 

VF has a conservative balance sheet, produces over $1 billion of free cash flow and sports a 3.2% dividend yield along with a below-market earnings multiple.

Whole Foods Markets (WFM) is the nation’s largest natural and organic foods supermarket with nearly $16 billion in sales. It is a leader in ESG practices in its industry. 

Attractive new locations are scarce and competition from other organic stores and traditional grocers are pressuring traffic and margins. 

WFM shares are down 50% from their 2013 highs. The company has recently taken a more aggressive approach to fixing its problems: improving in-store execution and re-directing efforts toward its new “365” format that offers lower prices and smaller stores. 

The turnaround is supported by good free cash flow and a minimal debt burden.  Trading at 7.9x cash flow and offering a 1.8% yield, Whole Foods shares could provide a healthy return for patient investors.

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