Warren Buffett once quipped, “Turnarounds seldom turn.” That might be a wise aphorism to keep close to your heart, because the promise of a turnaround can be a costly lesson for investors.
Turnarounds aren’t always what they seem. There’s something alluring, exciting about a comeback story. But not every fallen angel regains her wings.
Especially when the whole thesis revolves around a superstar CEO. Success in the past doesn’t guarantee success in the future, especially in an unfamiliar context or industry altogether.
Take for example, JCPenney, the once-iconic American retailer that failed to reinvent itself and suffered a steady decline. The dream of a turnaround attracted a wide investor base, including renowned fund managers Bill Ackman and Steven Roth. They had sky-high expectations and teamed up to buy more than 26% of the company.
The dream of a turnaround grew when they hired a superstar – Ron Johnson, the man who ran Apple’s highly successful retail stores.
And why wouldn’t they?
However, past victories don’t guarantee future success. In a vastly different retail landscape, Johnson couldn’t replicate his Apple strategy.
Here’s what Johnson did:
- He stopped using constant price cuts and coupons to drive traffic. Instead, Johnson wanted to offer easy-to-understand “fair and square” pricing.
- Create a retail destination inside JCPenney stores with 100 boutiques filled with branded stuff and a town square.
- Focus less on private label brands, even though they generated 50 percent of sales and billions in revenue.
This move drove JCPenny’s core group of customers away and failed to attract the new customers the company so desperately needed.
Despite his best efforts, JCPenney’s sales declined and he quit. And the dream of a turnaround turned into a nightmare for investors.
Here’s the takeaway: Be skeptical of turnarounds. Be doubly skeptical when the whole thesis depends on a superstar CEO replicating past success. Turnarounds might be exciting, but remember, as Buffett cautioned, they seldom turn.