Author Topic: GE - General Electric  (Read 64315 times)

tiddman

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GE - General Electric
« on: November 22, 2010, 12:47:29 PM »
I was interested to hear that Berkowitz has taken a position in GE, I have actually been looking at it myself.

Not much needs to be said about GE's core businesses.  They are generally all solid manufacturing businesses and generate above-average returns on both equity and invested capital, and they tend to be in the top 2 or 3 in each of their markets.  I particularly like some of the business units in terms of margins and growth prospects, such as their energy and infrastructure lines.  GE doesn't have the magic it had when Jack Welch was in charge, but much of his wisdom is institutionalized in the corporate culture.

However, GE got into trouble in the credit crisis, for two reasons I believe, 1) they are wholly dependent upon the credit markets for liquidity, routinely rolling over $50+ billion in debt and commercial paper per year, and 2) their finance units grew to be as large as the rest of the company and got into trouble along with most other banks.

Until I looked, I didn't realize how much debt they carry.  Overall debt/equity is around 2:1, that's book value of around $175 billion, and about $335 billion in debt.  Most of the debt is at GE Capital, which reports about $500 billion (!) of debt + deposits.

This makes Buffett's $3 billion preferred investment look like a drop in the bucket.  GE Capital runs a debt:equity of about 6, I haven't looked at the details but I assume that Buffett's investment was injected into GE Capital to support ~$15-18 billion of financing as a stop gap when GE had liquidity problems in late 2008 when the commercial paper markets froze.  GE is completely dependent upon the commercial paper and debt markets for liquidity.

At the end of 2007 when the fit was just hitting the shan, GE carried only $16B in cash + equivalents (including I'm guessing a lot of "equivalents" that didn't turn out to be so equivalent). Given the size of their operations, I guess a liquidity problem wasn't too hard to predict (in retrospect of course).  Since the Buffett investment, they've gone into liquidity-lockdown mode, have cut the dividends, decreased originations in their lending units, got a bunch of bailout money, sold off some assets, etc. and cash + equiv. are now up to $78 billion, which I'm guessing is by far the most cash the company has ever carried.  I guess that's what happens when Uncle Buffett takes an equity interest in you.  Predictably, ROE is now around 10%, down from the 18-20% that GE ran in the heyday, and they are if anything overcapitalized.

Today, revenues and earnings almost across the board are down due to the weak global economy.  The stock is under the stigma of government bailout (they participated in the TALF and TLGP programs).  Investors are also discouraged by the decreased dividends.  Returns on equity are at record lows due to the retention of cash, and financing is more expensive than in the past due to losing their AAA rating and some expensive financing they had to get during the crisis, including the 10% rate they're paying Buffett on his preferreds.

However, all of these trends seem likely to reverse in the relatively near term (1-3 years).  The global economies are stabilizing and it is probably safe to assume that GE is still an above-average business in most of its markets.  They will gradually wean themselves off of government assistance, which should have a positive affect on the stock (look at GM).  After a couple of years of de-levering, they should be able to reverse this trend and carefully lever back up, which will allow them to deploy their excess liquidity and increase returns on equity.  More than many other companies, they stand to benefit from rock-bottom interest rates as they rolls over their debt.  

Going forward, they are talking about backing away from financial services, which at one time generated half of their earnings, and to get back to their bread-and-butter manufacturing businesses.  This sounds like a good idea to me since they probably got too far into the financial businesses during the heyday.   So as things turn around, could GE be a way to play a broad economic recovery?  The stock is trading at around 10x cash flows and the same valuation as it had in 1997.
« Last Edit: June 07, 2011, 03:02:49 PM by Parsad »


ExpectedValue

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Re: GE
« Reply #1 on: November 22, 2010, 01:07:31 PM »
My gripe with GE is that they've always been a bit sketchy with their accounting.

I think a year back, they were fined by the SEC for using acquisitions to juice quarterly EPS.

Plus, during the financial crisis, if they had been forced to mark their loans they would have been in dire straits. I think the thing that saved them was the fact that as a conglomerate, they were able to apply cash flow accounting principles to their problem loans rather than M2M.

The other thing I worry about is the fact that they're going to face some stiff competition to do deals going forward. Especially when they are competing with Chinese firms that are backed by the state, this is particularly true in some of the alternative energy areas.

tiddman

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Re: GE
« Reply #2 on: November 22, 2010, 01:39:51 PM »
I have the same concerns about their accounting.  It was an open secret that the company "managed" earnings under Welch's regime, and I seem to remember he even mentioned it in his book.  The issue with the recent SEC investigation wasn't so much accounting issues, as outright fraud -- for instance managers of the business unit booked locomotives as sold before they were, pulling profit into a quarter.

I do think that the SEC investigation and subsequent penalty probably had a positive impact on GE, and one thing they stopped doing is giving specific EPS targets every quarter, which is one of the drivers for "reaching" for earnings in a period.

At the end of the day though, these mis-deeds are not a big deal over the long term, a few $100 million in profit over a couple of years isn't very material, and moving earnings from one quarter to another becomes meaningless with a long term view.  Investors probably can't assume that reported numbers are 100% accurate, so there could be come loss of trust, but not enough to undermine the overall quality of the business IMHO.

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The other thing I worry about is the fact that they're going to face some stiff competition to do deals going forward. Especially when they are competing with Chinese firms that are backed by the state, this is particularly true in some of the alternative energy areas.

In what industries do you mean?

Myth465

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Re: GE
« Reply #3 on: November 22, 2010, 01:41:47 PM »
Seems like a tough way to make a buck (buying a mammoth like GE). As far as the industries I believe he is referring to Wind turbines and the like. China has an advantage because the government is picking winners and backing them, while we are letting ours twist in the wind.

tiddman

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Re: GE
« Reply #4 on: November 22, 2010, 01:44:32 PM »
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Seems like a tough way to make a buck (buying a mammoth like GE)

Well what is the downside then -- what are the odds that GE stock will be where it is or lower in say 5 years?

rogermunibond

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Re: GE
« Reply #5 on: November 22, 2010, 01:45:10 PM »
WInd turbines and locomotive engines are 2 that come to mind.  CFM, the GE/Safran jet engine JV, landed a big contract with COMAC for the new Chinese made jetliner - so that area is safe for now.

frog03

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Re: GE
« Reply #6 on: November 22, 2010, 01:47:50 PM »
The global economies are stabilizing

I am really not sure about this one.  Remove the stimulus and clearly the economies are far from stabilizing.  In Europe alone, we have seen already three countries essentially bailed out (Iceland, Greece, Ireland).  Portugal and Spain may be next.  Bailing Spain or Italy out certainly is not going to be any picnic...

Obama is spending like it is going out of style, Michigan, California and several other large states are essentially bankrupt.

Maybe I have been following Sprott too long but a combination of declining government spending, increased taxes, and deleveraging does not augure too well for a statement like you are making.

Regarding Berkowitz, he has a great track record but his heavy bet on financials (this is really what GE is after all) may or may not pay off.

tiddman

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Re: GE
« Reply #7 on: November 22, 2010, 02:20:54 PM »
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Remove the stimulus and clearly the economies are far from stabilizing
...
Obama is spending like it is going out of style

Guess these two statements go hand in hand... damned if you do, and damned if you don't.

Uccmal

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Re: GE
« Reply #8 on: November 22, 2010, 04:09:53 PM »
GE still has alot going for it.  There is the non-capital business such as:
Medical Systems - long term sales and servicing agreements - quality and service are paramount
Power Systems - turbines etc.  - huge business
Motors
Alt Energy - mentioned above
Water treatment - relatively new and growing
Military related

In Capital there are a number of business that are not directly connected to mortgages Commercial or otherwise:
Fleet Services - Worlds largest auto fleet - leasing
Modular trailers
Credit companies - i.e. they own the receivables for the Hudson's Bay Company in Canada

One of the big ones operates at the interface between Capital and industrial - they finance their own customers to buy industrial products.  When done well this works well.     

GARP tending toward value

Uccmal

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Re: GE
« Reply #9 on: November 22, 2010, 04:17:29 PM »
GE has people installed at high levels in at least the US and Canada partly due to their military and nuclear history.  They are among the first to know about major government contracts and likely have some influence over projects right through the process from inception to execution. 

The US government is no less likely to support GE and its ilk, than China is supporting its own home grown industries. 

I used to work at GE and got a feel for the organization dynamics and the tight connections with Government.  Kind of like the Goldman Sachs of Engineering and Industry.

I hold Ge via 2012 Leaps and am now switching over to 2013 leaps - $17.50s.  I am taking a small haircut on the rollover to the longer term Leaps at the moment.  Earlier on I did very well on 201011 Leaps bought in February 2009.
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