Ask ten different investors to describe the current health and outlook of industrial giant General Electric Company (NYSE:GE), and odds are good you’ll get ten mostly different assessments. Part of that is because the company posts several different operational metrics every quarter, and part of that is just because GE stock has been a little fuzzy of late about what it’s trying to do, and how it’s doing it.
As it turns out though, one professional — analyst — isn’t having as tough of a time handicapping General Electric stock.
An honest, unbiased look at where the company is going and the plausible future for its dividends had to lean pessimistically.
Perhaps worst of all, the company itself may have driven the final nail in its own coffin.
GE Stock: The Math Doesn’t Add Up
The short version of a long story: Two weeks ago, General Electric’s CEO Jeff Immelt sport at this year’s Electrical Products Group Conference. It’s not what he said, but what he didn’t say that rattled owners of GE stock. That is, Immelt backed off on his certainty that the company would earn $2.00 per share this year, this time characterizing the organization’s 2017 profit outlook as “going to be in the range” of that $2.00 mark.
That’s CEO-speak for “yeah, it’s probably not going to happen.”
Right on cue, analysts updated their outlooks and opinions on the company… most of them in a pessimistic direction. It was Deutsche Bank analyst John Inch who delivered the most grounded and realistic thoughts on the matter though. He noted:
“While we believe investors had expected GE to abandon $2.00+, the company kept $2.00/share at the high end of its 2018 framework — dependent on additional cost contingencies. We believe $2.00, up > 21% yoy, to be unrealistic, even as just a high point in the range. In turn, assuming GE does not present a 20c + 2018 EPS guidance range, the company’s framework for earnings remains too high, in our opinion.”
“Per GE’s cash guidance of $27bn (CFOA) in 2017-2018 (total $25-29bn), this implies $13bn CFOA (midpoint target this year) and $14bn next year. After subtracting capex of ~$3.5bn and required pension of ~$1.8bn/yr for 2 years, FCF of $7.7bn in 2017 would fall short of the required ~$8bn of common dividend funding and just above next year. Note, too, that $7.7bn would equate to roughly 85 cents of free cash flow this year and roughly $1.00 in 2018. However, GE pays out 96 cents in annual dividend, or significantly more than the 85 cents of 2017E Industrial FCF and roughly in-line with the $1.00 in 2018E. Considering that proceeds from Capital dismantlement and asset sales eventually go away, this high dividend payout would not appear sustainable …
We believe the stage is being set for GE to cut its common dividend, likely as part of an earnings “reset” lower and possibly in conjunction with eventual future leadership change.”
And it’s in that light some questions have to start being asked, the first of which is exactly how ‘close to the line’ is General Electric operating?
As is so often the case, a picture tells the tale.
Yep, That’s Close Alright
A picture really is worth a thousand words.
Below is a comparison of General Electric’s dividend, per-share earnings (GAAP and operating) and per-share cash flow. Spoiler Alert: It’s not an image for the faint of heart, especially for those that rely on GE’s dividend. No matter how you slice it, funding for the dividend somehow looks like it’s withering away awfully fast.
The proverbial bearish thesis on GE stock became a slam dunk case, however, when General Electric responded to Inch’s number-crunching. An official statement from the company read:
“The Deutsche Bank alert is totally wrong — the analysis is faulty. The GE dividend is safe. We will generate $12-14B of cash flow from operations this year and we have $8 billion in cash on our balance sheet as of the end of first quarter. In addition, we just did an investor presentation at EPG where Jeff outlined that we will buy $11-13 billion in stock back this year and we have $8-12 billion unallocated cash in our framework. We clearly stated that the dividend remains a priority – we would prioritize the dividend over buyback.”
It’s proof that sometimes the best thing a company can say is nothing at all.
General Electric forecasted it would produce between $12 billion and $14 billion in cash flow this year, but that’s essentially what John Inch said with his estimated figure of $13 billion worth of cash flow this year and $14 billion next year. There’s nothing ‘wrong’ in that.
That wasn’t the red flag in the official corporate comments though. It was the wording of the response to Inch’s numbers that are so alarming.
In simplest terms, GE conceded — albeit loosely — it’s eyeing its cash balance for the purpose of paying its dividend. It also conceded that, if forced to make a choice, it would prioritize dividends over the $11 billion to $13 billion buyback of GE stock.
The question is, isn’t the per-share earnings target at least partially predicated on the stock buyback reducing the number of outstanding shares (because the current earnings trajectory just isn’t going to reach the levels they need to)? The follow-up question: After several years of restructuring, shouldn’t the company be past the point where it dips into the till to pay dividends rather than pay them from operations? The idea arguably shouldn’t even be on GE’s radar.
Bottom Line for GE Stock
Never say never. General Electric may well be able to muster some sort of miracle and earn its way out of trouble. Realistically speaking though, there’s nothing on the near-term radar to suggest the next twelve months are going to be radically different than the past twelve months have been. A deal to sell $5.8 billion worth of goods in Vietnam, even if replicated elsewhere, will take time to bear fruit.
If we’re being brutally honest about GE stock and its dividends, John Inch’s doubts actually make a lot of sense.
As of this writing, James Brumley did not hold a position in any of the aforementioned securities.