General Electric (NYSE:GE) has made it very clear in its detailed 2021 outlook statement it expects to produce serious free cash flow (FCF) during 2021. It will use that to pay down debt and improve its balance sheet. As a result, look for GE stock to make a major move up this year as FCF rises and debt falls.
On March 10 the company outlined its plan to transfer $34 billion in net assets from GE Capital to AerCap Holdings. This effectively moved its capital aviation services business out of GE Capital and in return received $24 billion in cash, plus a $1 billion note. In addition, GE will still own 46% of the merged aviation capital company. This will give it participation in the upside in that industry without having it on the GE balance sheet.
Although this results in a $9 billion loss, it can write off a portion of that, plus it can pay down its debt to just $32 billion. Moreover, the company said it expects to generate $2.5 billion to $4.5 billion in industrial free cash flow. That will go a long way to paying down debt, especially if it grows over time.
I suspect that over the next year, GE stock will start to reflect this improved outlook for the company.
What Analysts Say
An analyst at Seeking Alpha wrote an article arguing that, contrary to what some analysts say, the deal will allow General Electric to afford its debt. He believes its proforma pretax earnings “will improve after shedding money-losing GECAS (GE Capital Aviation Services) and paring $24 billion in debt.”
Bank of America’s analyst Andrew Obin believes that the deal will simplify GE stock’s story, according to CNBC. By completely eliminating GE Capital as a separate reporting item, he argues that debt will fall by $30 billion including existing cash. Moreover, since GE will still own 46% of the merged aviation capital entity, there is still upside. He raised his target price to $14 to $15.
According to CNBC, GE’s credit rating might change with S&P Global Ratings. This will depend on how much debt the company will have after the deal closes in about a year. Moreover, GE will still have $26 billion in GE Capital assets, not including the insurance assets. Its long-term care business has been the cause of major earnings issues in the past as well.
The Financial Times says that this is part of CEO Larry Culp’s de-risking strategy for the company. He has already reduced debt by $16 billion in 2020. This deal’s $30 billion debt reduction along with the 46% stake in the Irish company AerCap will give GE stock upside. The FT article quoted Dan Babkes, senior research analyst at Pzena Investment Management as saying the deal was “compelling.” Pzena held a large stake in GE at the end of 2020.
However, not all analysts see things this way. As of March 31, TipRanks.com reports that 13 analysts have a $13.50 price target on GE stock. This represents a potential gain of just 2.7% on Mar. 26, with GE stock at $12.99.
What To Do With GE Stock
If the company can indeed achieve the industrial free cash flow of between $2.5 billion and $4.5 billion this year, it will likely help push GE stock higher. However, value investors will still want to see some kind of solution for the loss-making long-term care insurance business.
So far GE is not talking about paying a dividend. The company has not even brought this discussion up. Instead, management seems to think that its recently shareholder-approved plan for a 1 for 8 reverse stock split will help revive their stock.
I read the recent March 23 proxy statement (page 60) reasons management gave for the reverse split. Essentially management believes it wants to be like all the other S&P companies its size. The heart of the matter seems to be this statement:
“Of companies in the S&P 500 with a market capitalization between $50 million and $250 billion as of December 31, 2020, GE is the only company with more than 7.5 billion shares outstanding, only two companies have 5 to 7.5 billion shares outstanding, and 66% of companies have less than 1 billion shares outstanding.”
In other words, GE doesn’t want to be the odd man out. This makes no financial sense whatsoever. The GE stock price is low because the company has performed poorly in the past several years. The company seems to think that now that it has sold assets it does not need to have so many shares outstanding. It won’t affect the performance of the stock in the future.
So far there is no date set for the 1 for 8 reverse split. GE has the whole next year to decide when to do it, if at all. Maybe they think by making the stock go up 8 times, individual shareholders won’t realize they have lost a lot of money in the past five years. But that is probably too cynical of me.
In any case, the new debt reduction deal and the projection of free cash flow this year will act to push GE stock up. Maybe they won’t have to do the reverse split after all.
On the date of publication, Mark R. Hake did not hold a long or short position in any of the securities in this article.
Mark Hake writes about personal finance on mrhake.medium.com and runs the Total Yield Value Guide which you can review here.
