General Electric – Halloween Hobgoblins from Past

When he was climbing the corporate ladder at General Electric at the end of the last century, former Chairman Jack Welch earned the nickname Neutron Jack because of his policy of eliminating the ‘bottom’ 10% of his employees and selling or closing entire companies that were not in the top 2 of their industries.

When he became Chairman, Jack Welch adopted a softer, media friendly persona, became a regular presence on cable television business news programs, and eventually became one of the most recognized corporate executives in the US.

As Chairman of GE, Welch was most famous for never missing an earnings projection. At the time, this feat was lauded on cable television news, and cringe inducing from many of the professional analysts and investors who followed GE. This was, to paraphrase Emerson, the type of foolish consistency that is a hobgoblin of little minds.

There was no way that earnings projections for a company of the size and complexity of General Electric could, or should, have ever been that accurate. Costs and earnings among the various General Electric companies were obviously being inappropriately shared, shaved and managed so that the short-term (and short-sighted) goal of not disappointing on quarterly numbers was met.

Once Welch was gone as Chairman from GE, the truth inevitably came out. It turns out that, as many had suspected, quarterly earnings reporting routines within the GE empire at times were equivalent to corporate fraternity hazing rituals. Orders from above, no matter how illogical, were to obeyed or else. Ultimately, the SEC took GE to task for accounting fraud.

Welch is still a highly visible figure. But his former credibility is much diminished. He is a symbol of the negative aspect of big companies, the conniving bully who lied and forced others to lie to the point of breaking the law, made a ton of dough and got to keep almost all of it.

Jeff Immelt, Welsh’s successor, left office earlier this month and his legacy seems to be panning out similar to Welch’s. Immelt was chosen in no small part to continue Welsh’s role as the visible chairman of one of America’s most revered corporate brands. Immelt, tall and distinguished, was an immediate fixture in business news magazines, cable television, and numerous Presidential and other blue ribbon corporate committees.

Now that Immelt is out the door, there has been an avalanche of bad news at GE. On October 20, GE reported disappointing earnings and cut its estimate for the remainder of 2017 by about a third. GE’s shares are down 35% year to date, while the S&P 500 has risen about 15%.

Investors are expecting an announcement about GE’s dividend on approximately November 13. Given the dramatic deterioration in GE’s business, there is a significant probability that the dividend could be frozen in place or cut. This could result in further fall in share prices as investors who are primarily interested in the dividend find that GE no longer meets their income hurdles.

Further complicating things, GE still seems to have an institutional arrogance with respect to its accounting. According to a Wall St. Journal report on October 31, 2017, (“GE Numbers Game Puzzles Investors”), many professional following GE, including the SEC, are frustrated by its “customized earnings metrics”.

In its most recent earning report, GE provided four versions of its earnings. GE also provides customized measures for revenue, margins and cash flows. Apparently in both 2016 and 2017, the SEC admonished GE about its confusing reporting and in both instances GE agreed to adjust its disclosures.

Much like Welch before him, Jeff Immelt’s personal reputation has taken a serious body blow almost immediately after leaving the throne at GE. Immelt apparently liked to travel the world with two corporate jets, one of which was empty and immediately available in case the other jet had mechanical problems. News of this dramatic personal extravagance is particularly damaging coming as it does when GE’s core businesses are struggling.

There does appear to be some good news at GE however. Trian Fund Management, a fund run by activist investor Nelson Peltz, has won a board seat at GE and will press for changes. Having an activist set of eyes that have not grown up in GE’s dysfunctional corporate reporting culture should help it at least get to a point where professional investors and analysts can read and rely on earnings reports.

GE is not in a position for a quick rebound. Much of its core earnings problems are a function of a global economy that has limped along for ten years. For instance, GE is well-positioned to dominate the nuclear energy industry, an industry desperately in need of infrastructure maintenance investment. However, the global economy has not cooperated in this regard. Other fine companies in the nuclear space, such as Westinghouse Nuclear and small specialty metal fabricators such as TSM in Korea, have gone bankrupt waiting for the infrastructure spigots to open. Unfortunately for these companies, this infrastructure spigot does not appear ready to open any time soon.

GE is now in a position similar to what it was in the pre-Jack Welch days. Hard changes lay ahead. Significant parts of what is there now will be sold or closed. Disappointing cash flow and activist owners at GE will hasten the end of the worst of its self-indulgent and deceptive reporting practices. Sunlight may not be the best disinfectant, but it is free and it works. At GE, more of it fast would work wonders.

About Chris Donnelly

Christopher J. Donnelly, is an experienced attorney, bond analyst and fixed income strategist, with years of experience in structured finance, distressed bonds and bond related litigation in a variety of industries and the emerging markets. He is a graduate of Rutgers University (BA), The University of Pennsylvania (JD) and New York University, (LLM in Taxation). Chris is a Managing Director of Straacom, LLC and can be contacted at cdonnelly@straacom.com. Straacom provides strategic research, analysis and communications for publication and on assignment for private clients.

One comment

  1. For an investor with a ten year perspective buy, sell or hold?

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