GE Shareholders Have More to Worry About Than Mexican Tariffs

Will Ashworth

Fri, Jun 7, 2019, 5:21 AM

In the trailing 12 months ended March 31, GE generated negative FCF of $4 billion on $121.1 billion in revenue. On an adjusted basis, it had negative FCF of $1.2 billion, significantly higher than its expectations. That caused GE stock to jump on the bullish news. It has since given back some of those gains.

Advertisement: High Yield Savings Offers

Just as important, GE’s FCF usage was $500 million lower than in the same quarter a year earlier. Early in the multiyear transformation, it’s at least heading in the right direction.

However, before you get too excited about industrial FCF turning positive anytime soon, the timing of business was the biggest reason for the improvement.

Culp still sees industrial FCF usage to be as high as $2 billion in fiscal 2019.

“We expect free cash flow to return to positive territory next year and accelerate thereafter in 2021 as the headwinds diminish and our operational improvements yield results,” Culp stated in its Q1 2019 conference call. “Longer term, as I have said previously, from an aspirational perspective, we should see the opportunity over time for our free cash flow margins to be at least double the mid-single digit rate that we saw in 2018.”

That’s good news.

The bad news is that it’s much lower than it was in 2000. Back then, the industrial conglomerate could do no wrong.

In 2000, GE’s FCF margin was 24%, based on $15.5 billion FCF and $63.8 billion in industrial revenues: two-and-a-half times the best-case scenario in 2021 and beyond.

Culp calls 2019 a “reset” year. You better hope he’s right or it’s six dollars and change again.

The Power Business Is Losing Steam

J.P. Morgan’s Stephen Tusa first pegged GE stock as a ticking time bomb back in May 2016. Recently, he’s offered critical thoughts about the power business and how the company was handling the division’s actual problems.

“We believe a full accounting of the situation with a closer look at the data, even a rudimentary review, supports our view that GE is indeed losing market share in a stable [heavy-duty gas turbine market], Tusa stated May 15 in a note to clients. “We see nothing here to change our negative view on Power, more so evidence of a company that appears to manage to headlines rather than on-the-ground fundamentals.”

Tusa is suggesting that Larry Culp and his version of GE is more sizzle than steak.

In late May, InvestorPlace’s Tom Taulli took GE to task, labeling its power business the company’s biggest headwind. He suggested that its 2015 acquisition of Alstom SA has hurt the company in a significant way.

So, take the two viewpoints together, and you get a power business that’s doing much worse than GE’s letting on. While CEO Larry Culp pretends to be transparent with investors, he’s not telling us the whole story. That should raise eyebrows on GE stock, considering that Power generates about 20% of its overall revenue.

The Bottom Line on GE Stock

My colleague makes another point about GE stock that you ought to consider before diving in.

If a recession strikes, the power business and GE Capital could be in for a world of hurt. That means Culp not only can’t make any mistakes in this multi-year turnaround, but he also has to hope that the economy cooperates.

In the tenth year of this economic cycle, a recession looms closer than ever.

On a scale of one to 10, Mexican tariffs rate a “two” in terms of GE’s current problems. Frankly, if I were CEO, I’d rather have that as my top concern. GE’s most significant issues are more profound.

At the time of this writing Will Ashworth did not hold a position in any of the aforementioned securities.