Don’t look now, but General Electric (NYSE:GE) is trading at its highest level in eight months. That’s right, GE stock is trading at or above $10. Long-time shareholders must be absolutely giddy.
So, is this a sign that GE has finally climbed over its own wall of worry? Or is the industrial conglomerate merely drafting off an extremely buoyant stock market?
Here’s a look at both sides of the argument.
GE Stock Is on Its Way
The company reported its third-quarter results on Oct. 28 and they were better than expected.
GE had Q3 2020 sales of $19.42 billion on the top line, 3.7% higher than the consensus estimate. It had adjusted earnings per share of 6 cents on the bottom-line, well ahead of the 4-cent loss analysts were expecting.
Probably the nicest news was on the free cash flow front.
“We are managing through a still-difficult environment with better operational execution across our businesses, and we are on track with our cost and cash actions,” CEO Lawrence Culp said in a statement. “While our work continues, GE’s transformation is accelerating, and we expect Industrial free cash flow to be at least $2.5 billion in the fourth quarter and positive in 2021.”
How has this changed from previous quarters?
When I last wrote about GE in early October, I argued that its renewable energy push would have little impact on its free cash flow in the near term.
“When you consider that GE had almost $30 billion in free cash flow in 2005 and only $2.5 billion in the trailing 12 months, the odds of renewable energy providing much of a catalyst in the near term are slim to none.”
Well, its free cash flow for the trailing 12 months increased from $2.5 billion to $2.62 billion over the past six weeks. Now, Culp is suggesting the industrial free cash flow in the fourth quarter to be at least $2.5 billion.
That’s less than in the $3.9 billion in Q4 2019, but at least it’s positive. In fiscal 2019, GE had free cash flow of $2.68 billion. At the end of September, it used $2.4 billion in free cash flow through the first nine months of fiscal 2020. If it hits the $2.5 billion FCF estimate, GE will generate positive free cash flow in fiscal 2020.
Even permabear JPMorgan analyst Stephen Tusa called its Q3 2020 results promising.
If you bought in May, you have to feel good about the traction gained in most of its operating units.
GE Shares Will Come Back to Earth
When you consider that GE stock appreciated by almost 60% over the past three months, you have to think that the markets were telegraphing its latest results. The question is, where does it go from here?
Based on trailing 12-month sales of $83.9 billion, GE is trading at 1.1 times sales. It hasn’t had a multiple this high since 2017. Of course, at that time, it had sales that were 50% higher, operating income that was 13 times higher, and operating cash flow 1.6 times greater.
Meanwhile, the markets as a whole started 2017 with a Shiller price-to-earnings ratio of 28.1, much lower than the Nov. 24 ratio of 33.2.
InvestorPlace’s Matt McCall recently discussed some of the reasons why he can’t get excited about GE stock.
“General Electric can fix its problems over the long term. Truth be told, I hope it does,” McCall wrote on Nov. 16.
“It’s just that when a company loses its footing like this, it’s not an asset that I gravitate toward. GE didn’t just get caught up in the coronavirus selloff. Cash-flow and balance-sheet issues buried the company long before Covid-19.”
However, he does believe that the company is unlikely to retest the lows it saw in May, suggesting GE stock may settle in around $7 or $8 until it delivers catalysts that can send it on its next leg up.
It’s a Little of Both
It’s easy to see that GE’s financial position is improving. It doesn’t hurt that the Boeing (NYSE:BA) 737 Max was cleared to fly. If Boeing can sell the plane, post-crisis, that will be excellent news for GE Aviation.
I’m like my colleague. Despite the evidence provided by Q3 that suggests GE is on the mend, I know that there are many other better options available in the industrials sector.
If you must buy, at least buy GE stock when it’s trading in single digits to provide yourself with a margin of safety.
On the date of publication, Will Ashworth did not have (either directly or indirectly) any positions in the securities mentioned in this article.
Will Ashworth has written about investments full-time since 2008. Publications where he’s appeared include InvestorPlace, The Motley Fool Canada, Investopedia, Kiplinger, and several others in both the U.S. and Canada. He particularly enjoys creating model portfolios that stand the test of time. He lives in Halifax, Nova Scotia. At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.