The trouble is that GE’s timing on this move couldn’t be worse. Oil prices have recently crashed into a bear market, down as much as 26% off their recent October highs. As a result, Baker Hughes’ price has cratered and yet GE still felt the need to immediately cash out a large chunk of its position in the company. That indicates that the company’s other fundamentals might be in bigger trouble than we know.

In fact, those deteriorating fundamentals are precisely why JPMorgan thinks that GE isn’t done falling, by a long shot. According to JPMorgan’s analysis (which I agree with) GE might end up plunging another 28%, to $6. That would be lower than in 2009 when GE bottomed at $6.66 after being bailed out by both Buffett and the Federal Government (without which it would have been bankrupt).  

 

The Company’s Stock Could Fall MUCH Further

GE has been dismantling itself for years now, but under its last revealed turnaround plan said it would end up owning just three core businesses: aviation, power and renewable energy. The reason for holding onto just those three businesses is that they all use turbines, which GE believes it can leverage its R&D across all three business units to maximize long-term profitability.

However, in wind turbines (which makes up 89% of the company’s renewable energy sales, GE is now facing rising cost pressure from big rivals. In fact, since GE is 4th in wind turbine market share it actually lacks the economies of scale to maintain strong profitability in that unit. But wait it gets worse.

GE Power, the energy generation division, just announced a $22 billion write-down, which is so large that both the SEC and Justice Department are now investing the company for potential accounting irregularities. In Q3 Power reported a $630 million loss, and its the continued declines in both revenue and cash flow from that division that is the reason that YTD free cash flow for the company is -$335 million. Note that as recently as 6 months ago management was guiding for free cash flow of $6 to $7 billion. Last quarter that was revised down to $6 billion and now management is saying it’s going to miss that by a wide margin (but is not offering any actual figure).

Free cash flow is what’s left over after running the company and investing in future growth. It’s what funds dividends, buybacks and repays debt. GE’s FCF has fallen off a cliff and JPMorgan analyst Stephen Tusa estimates that by 2020 six of the company’s remaining eight business units will be generating zero (or negative) free cash flow.

Even with GE unloading so many assets (some at fire-sale prices) to pay down its debt, its FCF is falling even faster and could soon turn negative. That could create the terrible scenario in which the company’s leverage ratio (debt/EBITDA) actually increases and it continues to get more credit rating downgrades. S&P has already downgraded GE’s credit rating from A- to BBB+ and Moody’s has put its rating under review for a possible downgrade. But while GE’s credit is still three notches above junk according to the rating agencies the bond market disagrees. Recently GE’s bond prices have collapsed (right after the desperate Baker Hughes deal was announced) sending their yields firmly into junk bond territory.

Basically, the bond market is fast losing confidence in GE’s turnaround story. Mutual fund managers feel the same with Bloomberg reporting on Nov 12th that fund managers were dumping larger and larger blocks of stock “as fast as possible”. With so many rats fleeing this sinking ship investor might want to avoid buying the ship, even for a token amount.


About the Author: Adam Galas


Adam has spent years as a writer for The Motley Fool, Simply Safe Dividends, Seeking Alpha, and Dividend Sensei. His goal is to help people learn how to harness the power of dividend growth investing. Learn more about Adam’s background, along with links to his most recent articles. More...