After being on a toboggan slope since July 2016, General Electric Co.(GE, Financial) may be making a comeback. The share price, battered by the Covid-19 crash last spring, dropped to a low of $5.83 in May 2020. Since then, it has more than doubled to $12.54 at the close on Feb. 26; here's a 10-year price chart:
Of course, it's had many false starts in the past since peaking at $56.11 in September 2000. Will it be different this time? There are some reasons to think so.
What is General Electric?
It began in 1889 as the Edison General Electric Co., following a merger of several electrical companies connected with the famous inventor Thomas Edison. Since then, it has gone through multiple configurations via acquisitions and divestitures.
It grew into a giant industrial conglomerate while Jack Welch was CEO between 1981 and 2000. However, investors began losing confidence in the company soon after he left. After hitting a high of $56.11 in September 2000, the share price began a long downward slide to $6.28 in September 2020. The grizzly story is summed up in this 25-year price chart:
But the long slide wasn't just the consequence of stock crashes, it was mainly the result of the way the company was managed by Welch's successor, Jeff Immelt. When he announced his retirement in June 2017, the stock promptly jumped 4% higher.
Immelt was briefly replaced by John Flannery, who had been head of the health care division. Then, in October 2018, the board announced Lawrence Culp, previously the head of Danaher Corp. (DHR, Financial), would be the new CEO.
Culp brought with him the secret sauce that made Danaher, another conglomerate, a success—its lean manufacturing and cultural practices. One of his early moves, to help improve GE's balance sheet, was to sell the company's BioPharma unit to Danaher, a $21.4 billion deal. And in June 2020, the company announced it would divest itself of its 37% holding in the giant oilfield services company Baker Hughes (BHI, Financial). Based on prices in effect at the time of the announcement, that would be worth $5.5 billion to GE.
These moves provided cash that will help reduce long-term debt levels:
The board has been pleased with Culp's progress, and last August renewed his contract until 2024. That contract stipulates that if the GE share price rises to $31 before then, he will receive 7.5 million shares, which at that price would be worth $230 million. There are also lesser incentives for smaller price gains, as long as the stock price is up at least 50%.
Getting back to the company itself, GE operates in five segments (with 2020 revenue shown, except for GE Capital):
- Power: $17.589 billion
- Renewable Energy: $15.666 billion
- Aviation: $22.042 billion
- Health care: $18.009 billion
- GE Capital earnings: $(1.800 billion)
Financial strength
Since debt is a big issue for GE, let's look at the cash-to-debt ratio to get an idea of how those two metrics compare. At 0.59, the ratio remains below 1.00, which would signal there is not enough cash in hand to pay off all the debt.
The orange bar also suggests GE's ratio is below the industrial industry's 10-year median, which is 1.03. Yet, when we look at a comparison with its immediate peers and competitors, GE has the second-best ratio.
We also should challenge the yellow bar under the company's own 10-year history. Yellow suggests the Feb. 26 reading is comparable with GE's 10-year median, but that's not really the case.
The company's current cash-to-debt ratio of 0.59 is 79% better than the 10-year median of 0.33. That's a substantial improvement and confirms the trend we saw in the long-term debt chart above.
Beyond debt, we need to be concerned about its profitability. As this 10-year chart of earnings per share shows, it has sprung back after a long decline:
Coincidentally or not, the turnaround began in the first year of Culp's tenure. He became CEO in December of 2018, and by December of 2019, the company had turned a loss of $2.47 per share into a loss of just one cent per share. Then despite a rocky 2020, earnings per share moved into positive territory with GAAP earnings of 59 cents per share.
The Piotroski F-Score is not strong because it failed on five out of nine criteria: quality of earnings, leverage, shares issued, gross margin and asset turnover.
The weighted average cost of capital versus return on invested capital remains negative, with a WACC of 6.13% and an ROIC of 1.06%. However, should the company continue to improve its profitability, that ratio might be reversed.
Profitability
As we saw in the Piotroski F-Score discussion, margins are an issue for GE. But while the gross margin may have slipped in 2020, the net margin has been improving:
Note that the net margin improvement began when Culp moved into the corner office.
Return on equity is quite robust.
What's happened with the growth of revenue and Ebitda? We've seen that earnings per share has turned around and is now profitable. When we look at 10-year charts of revenue and Ebitda, we see the former continues to decline while Ebitda has turned around and begun to improve:
Dividends
The dividend is relatively low compared to the S&P 500 average and the chart that follows is ugly. However, the good news is that the cuts stopped in 2020, despite last year's financial challenges:
The dividend payout ratio is low at just 7%, so there is lots of room to raise it if or when the company regains ongoing profitability.
As for shares issued and repurchased, it appears the company has at least stopped the serious dilution that had taken place:
Valuation
The GF Value chart concludes that GE is significantly overvalued.
The price-earnings ratio suggests less overvaluation. At 22.26, it is below the industrial industry average of 25.91 (based on trailing 12 months). It is higher than its own 10-year median of 17.6.
We are not able to calculate a PEG (price-earnings to Ebitda growth) ratio because Ebitda per share over the 12 months that ended Dec. 31 ($1.24) was higher than earnings per share.
Similarly, GE's low predictability rating, just one out of five stars, means no reliable results can be calculated with a discounted cash flow analysis.
Gurus
By the last quarter of 2020, the guru investors were buying more shares than they were selling:
Of the 28 gurus who held positions in GE at the end of 2020, these three had the biggest stakes:
- Hotchkis & Wiley had 115,863,308 shares, after reducing its stake by 29.48% during the fourth quarter. That represented 1.32% ownership of GE and comprised 4.38% of its own assets under management.
- Richard Pzena (Trades, Portfolio) of Pzena Investment Management held 89,859,216 shares after an addition of 0.71%.
- The T Rowe Price Equity Income Fund (Trades, Portfolio) slightly reduced its holdings, by 0.3%, to 41,275,000 shares.
Conclusion
Could the once-mighty General Electric be coming out of its decades-long slump? That's where the facts seem to be leading us. We've seen several improvements in metrics since Culp took over at the end of 2017. Most importantly, its earnings have turned a corner and gone positive. Some results in 2020 were muted, but it still seems Culp and a more disciplined GE are turning a corner.
The valuation situation is murky, but it seems the current price probably rests somewhere between modestly overvalued and significantly overvalued. With a steep climb in the share price since last September, we can expect investors will need to pay a premium for this stock.
For that reason, value investors will look elsewhere, as will income investors who aren't likely to see a healthy dividend for some time. However, it may suit growth investors who see potential in GE stock.
Disclosure: I am currently assessing GE and may purchase shares in the next 72 hours.
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