Making Sense of GE...

What in the world is going on with General Electric? Once one of the world’s most revered companies known for producing managers par excellence, now it looks like a disaster. The Lex column in the Financial Times just called GE “a rolling train wreck of unexpected and expensive blunders.” Its stock is off 40% the last six months.

With all the bad news, it’s hard to know what to think. Do you pity GE, mock it or buy the stock?

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Some would say that GE has been languishing for some time, but the real misfortunes started last October when new boss John Flannery hosted his first quarterly earnings call as CEO and delivered the news that the Power division’s profits had plummeted. He also announced that the entire company’s operating cash flow for the year would be close to $7 billion, rather than the $12 billion expected previously. Ouch. That was quite a shortfall. The stock went down more than 6% that day.

In November, Flannery announced a 50% cut in the dividend – only the second cut since 1938. Earnings guidance for 2018 was lowered substantially, from $2.00 to $1.00 – 1.07. In addition, Flannery announced that GE would divest a dozen businesses, possibly exit from its 62.5% stake in oil services company Baker Hughes, and shake up the composition of the company’s board. Shares dropped 7% that day.

In the first week of December, GE announced it would cut 12,000 jobs from the struggling Power business. Then came the big slam in January: GE said it would need to pay $15 billion over the next seven years to cover liabilities from its legacy insurance business. The size of that payment was a shocker. Shortly after, the SEC announced it was investigating GE’s accounting practices.

Now Flannery says he’s looking at all options and that nothing is off the table – including breaking up the company.

What else could possibly go wrong? There’s no way to know. But certainly, these last few months have made everyone wonder about the quality of information flow from GE. When there are this many surprises, people start wondering why we didn’t know some things earlier and what else lurks beneath the surface. They also wonder if management itself has enough of a grasp on what is going wrong.

The Economist recently suggested that “GE’s flow of financial information has become fantastically muddled” and that management itself may still be in the dark. In spite of the 200 pages of financials released each quarter, The Economist questions if GE is gathering the right information at all. It’s still hard to answer key questions: “How much cash flow does GE sustainably make and where? How much capital does it employ and where? What liabilities must be serviced before shareholders get their profits?” And if you don’t know what’s happening within your businesses, how do you fix the problems? The Economist compares the situation to the fog of war, when U.S. generals focused on the wrong metrics during the Vietnam War.

The good news is that GE is trying to move in the right direction. New CFO Jamie Miller announced last fall that she is rethinking all the financial metrics the company uses and is looking for a “back to basics” approach for cleaner, more transparent reporting. CEO Flannery also is focused on remaking GE into a “smaller, simpler” company -- which is a welcome direction, but will take some time.

Conglomerates always are hard to understand. Having a complex array of businesses can mask problems, increase the chances for capital misallocation and make valuation of the whole hard. But there are successful conglomerates too. Remember that Alphabet and Amazon also have complex sets of diverse businesses.

We believe that more transparency and less complexity are achievable, lighting the path toward better capital allocation at GE. Clearly mistakes have been made, and expectations are low. But turnarounds can happen for those with the patience to stick around. If you look at GE’s rival conglomerate Siemens, it has been able to right itself in recent years. But it took quite a while.