George Schultze is the founder of Schultze Asset Management. He is widely recognized as an expert on distressed investing & is often quoted in the media. He is the author of The Art of Vulture Investing and a frequent speaker at industry events. He is a joint graduate of Columbia Business School & Columbia Law School.
Russ Alan Prince: You call yourself a vulture investor. Can you explain what you mean by that?
George Schultze: That’s a good question because it’s a term that is widely misunderstood but basically refers to those who invest in the securities of companies in distress, a condition usually caused by taking on too much debt. As I explain in my book, The Art of Vulture Investing, in the natural world, vultures, by performing a dirty job cleanup job, act as the ultimate recycling agents. In the investing world, “vulture investors” perform the same cleanup function, helping to recycle capital from dead or dying companies into more productive uses.
The goal of vulture or distressed investing is to identify companies trading at levels below their fundamental value or where a positive emergence from distress is expected. It’s a style of investing that looks to take advantage of inefficiencies in the market and can deliver strong returns in both bull and bear markets.
The key to successful distressed investing entails doing solid and comprehensive research that pays attention to the fundamentals coupled with an understanding and analysis of macroeconomic trends.
Prince: With fixed income paying next to nothing and an erratic equity market, how can investors put their money to work in this environment?
Schultze: It’s definitely a challenging time for investors. Equity markets are likely to remain highly erratic for some time. Government bonds pay less than the current rate of inflation. And going to cash is no solution since inflation steadily eats away at its purchasing power.
For sophisticated investors, commodities may provide somewhat of a safe haven. Companies that have commodities exposure on the long side with clean balance sheets and reasonable cost structures should continue outperforming. The trick is to find them, which isn’t going to be accomplished by just picking an ETF that tracks commodity indices.
With commodities, it is especially important for the investor to understand what he is buying, which is rarely the case when accessing commodities through an ETF. Commodities can be extremely volatile because the underlying futures markets can move up and down by large percentages on any given day.
Precious metals, particularly gold and silver have been used for thousands of years as a hedge against inflation and the risk that fiat currencies will lose value due to lax monetary policies. There are also opportunities to be found in virtually any commodity market right now.
Of course, a lot depends on which commodity is under consideration, but time spent researching a particular market and the companies in it before investing can be well worth the effort. Commodity producing companies with the lowest cost of production will usually come out on top, provided that they also have a clean balance sheet that can weather lots of storms.
Prince: Distressed investing is your area of expertise. When companies are in distress, how do you determine which ones are likely to be winners in the end?
Schultze: I think that successful distressed investing is both an art and a science. Where the science comes into play is in doing deep fundamental research. You not only have to be able to read a balance sheet but also understand what all those numbers mean. You have to be able to analyze debt ratios and EBITDA and other fundamentals of the business.
The art is in knowing what to do with the product of all that scientific research. You have to be able to look at secular market trends and try and figure out what they mean. You have to understand the distressed company’s place in its industry and its industry’s place in the overall economy.
Everything we do is based on our research. We start by looking at industries and companies that are experiencing dramatic change, which can often lead to distress. That distress can lead to different opportunities to invest before, during, and after bankruptcy.
The focus of our firm is on event-driven and distressed securities investing. We have the ability to invest long and short, up and down the capital structure of US companies. We tend to find the best opportunities come from companies going through some kind of corporate event. That could be restructuring due to a Chapter 11 filing, launching a spin-off, or an IPO from a startup.
Because we do our own research and analysis of the companies we invest in, we’re able to find arbitrage opportunities that we believe can generate superior risk-adjusted returns for our clients. But of course, even with the best research sometimes distressed investors get it wrong.
RUSS ALAN PRINCE is the Executive Director of Private Wealth magazine (pw-mag.com) and Chief Content Officer for High-Net-Worth Genius (hnwgenius.com). He consults with family offices, the wealthy, fast-tracking entrepreneurs, and select professionals.