Investment idea generation.

Blog

Our thoughts.

General Electric: The Right Move?

General Electric (GE) has done it, it has cut its dividend. Finally. Now the conversation can move to something more constructive, such as how does GE get its business actually growing?

GE decided to cut its dividend by 50%. This is only the second time that GE has cut its dividend since the Great Depression. A necessary move as GE tries to figure out how to ‘grow’ again. This widely held stock has been grossly underperformer for investors for a couple years now.

But something drastic had to be done. This could be a turning point. The large shareholder base of retirees is feeling the pain and many are dumping the stock. But now GE has some $4 billion a year to reinvest (the money it will save from the dividend cut). GE has changed up the C-suite drastically and the boardroom after John Flannery took over for Jeff Immelt as CEO.

Making moves.

GE is also looking to slim down - in what could end up being a break-up of sorts. The company will try to sell some $20 billion in assets and businesses over the next couple years. The company is even considering exiting the Baker Hughes business - a business that it bought thinking it was taking advantage of the downturn in the oil market. The move is to become a modern industrial giant focused on power plants and jet engines - getting back to its roots. However, the overhang is that its core businesses are struggling, such as the power business. It really is a conundrum. And it might get worse before it gets better. Under Immelt, GE laid out a plan to generate $2 in earnings per share for 2018, but now it’s expecting to make just a $1 per share.

The dividend had to go, as GE isn’t generating enough money to pay its dividend and keep the business going. Despite the dividend cut, GE is still paying a solid near 3% dividend yield, which should remain attractive to retirees and mutual funds.

However, the big overhang ...

The last time that GE cut its dividend was during the financial crisis when no company was doing well. Now, GE is cutting its dividend at a time when nearly every company is doing well. The broader economy is bustling, but GE has its own internal struggles. Company-specific issues that need some tender loving care.

That’s what Flannery is hoping to offer. And that’s what activist investor Trian Partners is pushing for. Trian has had an activist stake here for a couple of years. With Flannery at the helm, it’s finally time for ‘true’ change. While most are focusing on the dividend cut, the big news is that GE is moving to focus on just three businesses - power, aviation, and healthcare. The rest of the businesses can be sold off or sold over the next couple years. This includes slimming down its digital and software business (read: getting back to its roots), which includes laying off software division employees.

A smaller company will need to pay a smaller dividend. And GE is heading smaller. The focus on the aviation, power, and healthcare is a focus on the biggest businesses. The aviation business generates 33% of operating profits, power 28%, and healthcare 18%. The rest of the businesses - including oil and gas, renewables, transportation, etc. are just a distraction at this stage.

So while this might upset some retirees, it’s necessary. The way I see it, retirees could have enjoyed the hefty (near 5%) dividend for another couple years but risked losing twice as much as the stock price continued to lag.

For the near-term, however...

Is GE a good stock for the next year or so, though? Not really. 2017 is a ‘reset’ year for sure, and by all accounts so will 2018. The heavy portfolio review that Flannery is installing is certainly a positive, but it’s embarking on a multi-year journey that will likely mean several years of mediocre performance for the stock.

And all this is happening amidst a solid global economy. The aviation business makes up a third of operating profits and has done well on the back of healthy corporate jet orders. But that can only prop the company up for so long. The power business will take until at least 2018 to see a turnaround and that’s nearly 30% of operating profits. There’s a number of secular headwinds working against the power business, which includes a decline in demand for coal and gas-fired power plant turbines. If we do see a bear market over the next couple of years, GE will be in even more trouble. For now, the dividend cut was positive, but there’s still just too much uncertainty going forward.