Whats Wrong With General Electric (GE)?
What’s Wrong With G.E.?
G.E. ‘s 3rd quarter 2017 results confirmed what many smart investors and analyst have been saying for the past five years, the stock is a value trap. From the outside looking in the company had all the makings of a business that could create a highflying stock, but its never happened. While the stock market has been on a tremendous bull run over the past nine years, in that same nine year span GE’s stock has just been ehhh for a lack of a better word. It truly was a value trap.
What’s a Value Trap and Why Did Analyst and Investors Think G.E. Was and is a Value Trap?
So a value trap in the stock market is stock of a company that meets certain criteria and looks great on paper, but in the real world the company fails to materialize what’s on paper. A company may have a tremendous amount of assets, a low P/E and P/S ratio compared to its industry and sector averages, and closest competitors. And the company’s stock price will be trading at a lower price than its competitors creating this sense of value. This sense of value is what draws investors in, trapping their investment in a stock that eventually underperforms the market. After a significant amount of time the company hasn’t been able to maximize its assets, its stock price, P/E and P/S are still lower than its competitors and the industry and sector averages.
What has G.E. Been Doing to be classified as a value trap?
If you’re of a certain age you remember the G.E. “We bring good things to life” ad campaign. In those days if felt like something G.E. was in everyone’s home, whether it was a G.E. light bulb or G.E. appliances. Bringing it back to present day, G.E. is a different company. After the financial crisis the company shook a few things up. Synchrony, a GE company and one of the largest providers of private label credit cards was spun off from G.E. in 2015. G.E. sold its appliance business in 2016, and is currently looking to sell its light bulb business. It’s not the same old G.E.
Today G.E. operates in several different markets and is among the world leaders in some of the markets they operate in. There is the GE Power Business. 30% of the world’s power comes from GE Power equipment. Then there is GE Aviation, which is a world-leader in providing aviation jets, turboprop engines and components as well as avionics, electrical power and mechanical systems for aircrafts. Then there is GE Healthcare, GE Digital, GE Renewables, Baker Hughes GE, GE Transportation, GE Energy Connections, GE Additives, Current, Powered by GE, GE Lighting, GE Capital, and GE Global Research. There is a lot going on at GE.
So What’s Wrong with G.E.?
Some believe it’s all of those different business and divisions that were just named. Many analyst and investors believe the company would be better off breaking G.E. up into several smaller companies. But before we get to breaking the company up let’s look back at the management, under performing companies are usually tied to underperforming management.
Jeff Immelt led G.E. from 9/7/2001 to his retirement on 8/1/17. It was a tough run for Jeff Immelt, being named CEO only four days before the 9/11 attacks. Immelt took over G.E. while America was struggling with the burst of the dot.com bubble and had to maneuver the company through 9/11. Then there was the financial crisis to deal with, and the drop in oil prices. However in that same span of Immelt running G.E. the Dow Jones Industrial Average has increased 128%. The stocks of Honeywell and United Technologies, some of G.E.s closest competitors have increased by 285% and 262% respectively. While Honeywell and United Technologies were able to navigate the ups and downs of the economy and markets, G.E. under Immelt was not.
A New Beginning
John Flannery was named the new CEO of G.E. and Jeff Immelt feeling comfortable in Flannery’s understanding of the company retired three months earlier than expected. John Flannery is known as a turn-around guy. He was able to turnaround G.E.s Healthcare business when he took over the division. But can he do it again?
Flannery admits that GE has not performed well for its owners but he believes going forward, the company will create the most value from a core portfolio of businesses. From Flannery’s recent interviews core business focus and cost cutting is what he will use to right the ship at G.E.
Flannery has stated that within G.E. there are too many resource intensive businesses with no prospects. Flannery wants G.E. to renew its focus on healthcare, aviation, and energy.
The recent cut to G.E.’s dividend from $0.24 to $0.12 cents per quarter shows that Flannery is serious about making cuts. Flannery believes the dividend cut is right decision in order to align the company’s dividend payout to its cash flow generation, which makes sense. This announcement sent the stock price reeling again. G.E. is one of the most widely held stocks in the world. Many retirees living on a fixed income rely on G.E.’s dividend payments to supplement their income.
For 2018 Flannery has put G.E.s focus on building a strong cash position, balancing capital allocation, limited M&A, R&D investment, and disciplined financial policy.
Many analyst and investors wanted and a more aggressive approach from Flannery, like breaking up the company to extract the value. Flannery noted in one interview that there was a time when people wanted G.E. to sell its aviation business, and now it’s a very successful business under G.E. Flannery feels the issues that G.E. faces now were some of the same issues that he faced when he took over the Healthcare business and as mentioned before he was able to turn that business around.
Flannery believes G.E. has the customers and the revenue, but they have to run the business better and mange the company’s assets better. A few years ago G.E. had a 2018 outlook of $2.00 per share, now expectations for 2018 E.P.S at $1.00 - $1.07. G.E. also plans to borrow $6B to fund its pension plans, which will add to the company’s already huge debt load. Flannery admits the turnaround is going to be a heavy lift, and many analysts agree with him, downgrading the stock even more once G.E. released its 2018 outlook.
The Seville Report’s Thoughts on G.E.
Understanding what Flannery wants to accomplish at G.E. an investor will need to keep in mind that G.E. is not a one year fix. G.E. is a big ship and pivoting the company and moving in a new direction will take lots of time. We like Flannery’s plan to cut cost. Cutting cost to us is the easiest thing to do for any underperforming company. We expect to see divisions within G.E. shut down, or downsized or sold off. We also expect layoffs to come as well. How the market reacts when this occurs is anyone’s guess.
We believe a concentration on cost and better management of the company’s assets as John Flannery stated can be the start of better days for G.E. The patient investor will be rewarded by G.E. but it wont be next year. We believe G.E.s stock will continue to drop and base between $8 and $12 before increasing. If you’re a believer that you buy when there is blood in the street, then now is the time to buy G.E. However, if someone were to invest in G.E. now they should have a three to five year outlook.
We hope this adds value to your investing. If you want to find out more about The Seville Report, go to Sevillereport.com. Leave us your email to get updates.