Once upon a time, General Electric (NYSE:GE) was among the bluest of the blue-chip companies. The company’s light bulbs and appliances were fixtures in American homes. General Electric stock was treasured by investors as the company was a Dividend Aristocrat — a company that had increased its dividend for over 25 years. Today, GE stock is struggling to find direction.
The company may be a phoenix getting ready to rise from the ashes. Or, if a recent report is true, the GE stock price could fall into the penny stock range as the company attempts to stave off bankruptcy.
So which GE should investors put their trust in? And more importantly have they completely lost patience with more rumors of trouble at this once-iconic company?
GE Stock Cannot Afford More Bad News
On July 31, GE posted second-quarter earnings that easily beat analysts’ expectations. The results came in at 17 cents a share on revenue of $28.83 billion. Both EPS and revenue were lower on a year-over-year basis, but the news sent GE’s stock price climbing to $10.45 per share. This is right in a range that has provided some resistance for the stock in 2019.
Then on August 16, forensic accountant Harry Markopolos issued a scathing report that accused GE of $38 billion in accounting fraud. In his report he compared the violations at GE to be “on par with those of Enron and WorldCom.” According to Markopolos, the company has huge, hidden losses in its long-term care (LTC) insurance business. which is part of its GE Capital unit.
GE’s stock price, which was already losing momentum, fell below $9 per share on the news – – a price that had been serving as support for the stock. As of this writing, GE stock was trading at $8.11 per share, putting it down for about 14% in the past three months. The Dow Jones Industrial Average — which once upon a time included GE shares — is up 4.7% in the same period.
GE’s New Sheriff is Plugging the Leaks
I hold to the belief that the unknown is worse than the known. The problem for GE investors in the recent past is there have been far too many surprises that gave investors the feeling that General Electric has something to hide.
However, it seems the steady drip of bad news that preceded new CEO Larry Culp has come to an end. In a recent article, my InvestorPlace colleague Will Healey pointed out that investors appreciated how quickly GE revealed issues at GE Aviation due to the delays from Boeing (NYSE:BA) related to their grounded 737MAX. But if GE wants to restore investor confidence, it will need Culp to be more than a competent plumber.
Cautionary Tale for Investors
The industrial giant spent much of the late 1980s and 1990s expanding into ancillary business units including buying the NBC television network and expanding its GE Capital division into the consumer segment. However, even as the “the house that Jack built” (a reference to long-time CEO Jack Welsh) saw its market cap exceed $600 billion and its stock approach a record high near $60 per share, there were some analysts speculating that General Electric had strayed beyond the bounds of its core industrial competencies, particularly with GE Capital, which then accounted for the bulk of the company’s profits.
When the financial crisis hit, those investors were proved right. When liquidity dried up, GE needed an infusion of capital from Warren Buffett to calm investors. Perhaps the real reckoning arrived in 2009 when the company cut its dividend for the first time in 70 years. To its credit, GE has taken the right steps to divest toxic assets and is moving forward as a “digital industrial” corporation. But as the Markopolos report shows, the journey is taking two steps back for every one step forward.
What’s Next for GE Stock?
Unless the claims of accounting fraud are true, I believe GE weathers that storm. What really seems to concern investors is cash flow. On the conference call following the earnings report, Culp said that GE has a better-than-expected outlook for its industrial cash flow. Since 2013, GE’s operating cash flow has been shrinking. The main culprit was a decline in the cash it was booking from its core four businesses. Their Cash Operating Return on Assets (COROA) — a metric that measures how much cash a company generates each year from all of the assets invested in the business — is 2.7%.
Prior to becoming CEO at GE, Culp held the same position at Danaher Corporation (NYSE:DHR) from 2001 to 2014. In his last two years, Danaher’s COROA was 11.3%. That track record provides optimism. However, Culp is selling investors on the idea that while the troubled insurance unit is a mess, the rest of GE’s industrial business is solid. To some investors it remains to be seen if that story has a happy ending.
As of this writing, Chris Markoch did not hold a position in any of the aforementioned stocks.