If you’re debating what to do with GE after its big report, here are five arguments on each side of the trade.
Growth matters: The fundamental reason investors cheered GE’s report was that it put up the profit it needed to. The industrial giant beat first-quarter estimates — and, better still, reaffirmed its full-year guidance. The company also posted a 7% increase in total revenue. When there are so many stocks that get kicked around for losing money and seeing sales slide, those numbers should prove that GE is capable of modest growth from its current levels. Sure, it may never get back to results from a decade ago. But growth is still growth.
Bargain valuation: GE now trades around 13 times forward estimated earnings. Furthermore, most analyst models basically zero out GE Capital and don’t value that arm at anything at all. With all the negativity of the last few years, it’s very likely that GE’s stock price has finally gotten so low that it’s attractive. Heck, even Warren Buffett as mused that his Berkshire Hathway BRK.A, -0.26% BRK.B, +0.02% would consider buying GE at “the right number.” Given that shares were trading at their lowest level since 2009 right before the earnings bounce, it may be time for bargain hunters to take a serious look at this industrial stock.
Aviation and health care look strong: GE’s aviation business saw a 7% jump in revenue but an impressive 26% increase in profit on the quarter. Health care recorded a 6% increase in the top line and an 11% increase on the bottom line. These are two areas where GE is depending on growth as it moves out of other divisions, so strong results from these core segments is encouraging.
No cash crunch: General Electric’s dividend reductions were borne out of simple math, where it needed the cash to restructure and run its operations. This set of earnings shows the cash crunches of the past are fading, with free cash flow of as much as $7 billion and potential asset sales that could generate as much as $20 billion in the near future. Those divestitures don’t include GE’s big stake in Baker Hughes BHGE, +0.03% which will deliver billions more down the road. All this hints that fears of a cash crunch may be a bit overblown at present.
Cyclical strength: Given the strong economic outlook, GE has the benefit of a nice tailwind across many business divisions. Broadly speaking, the global outlook for airlines, energy and health care looks good after tax cuts in the U.S. and continued improvement in many overseas markets. So if GE simply continues to fix its leaks, a rising tide should lift this boat simply by virtue of cyclical economic trends.
Returns are still bleak: Maybe there is some superhero trader who caught a falling knife by buying GE exactly at its 52-week low in early April. However, everyone else is sitting on deep losses, including a decline of about 18% year-to-date, and a 12-month decline of about 50%. GE has a long way to go if it wants to prove it’s in an uptrend.
No news is not good news: Contrary to The Wall Street Journal’s recent headline, simply not posting another round of ugly numbers is not enough for GE. Where is the long-awaited turnaround plan, or proof that things aren’t simply less bad then in prior quarters? Particularly troubling was the earnings call, where CEO John Flannery said “we continue to review and evolve our thought process regarding the best structure or structures for the company” and “we expect to have something more to share with you on that within the next couple of months.” What the heck has he been doing for three decades at GE, including the last nine months as CEO, if he still needs time to look around? Simply stepping over a low bar after chronic declines is not leadership — and hints at more of the same troubles to come.
Power tells the story: Investors have long written off GE Capital as having any positive influence on shares. But GE’s biggest division, its power unit, remains an important driver of success — and it just suffered a 38% drop in profit year-over-year. The future is equally bleak, as orders plummeted 29%. I suppose investors can once again hope that the current pain is creating a low bar for results down the road… but if that’s all this stock has to offer from its most important business unit, that’s quite discouraging.
Analysts aren’t fooled: Maybe a rosy headline or two about the earnings beat has fooled casual investors, but Wall Street’s analysts aren’t buying that there is hope for GE. As one J.P. Morgan analyst bluntly told CNBC, “There’s absolutely no change to our thesis here” as he hung an $11 target on the stock. Elsewhere, analysts at Cowen maintained a price target of $12. Tellingly, both figures are below even the stock’s 52-week low.
Risky dividend: After two dividend cuts in eight years, investors may think GE would be crazy to reduce its payouts yet again. But even this reduced dividend isn’t safe — and there is rampant speculation that the remaining payout could be eliminated altogether in the coming months. Even if it isn’t, there isn’t much wiggle room for increases amid costly restructuring plans, particularly if General Electric starts missing those profit forecasts (as it has in the past). You can get a yield in the ballpark of 3% in hundreds of other stocks that are more likely to maintain or increase their payouts... so you better have a reason other than the dividend to invest. Unfortunately, with GE there isn’t one.