Is GE's Jeff Immelt The Next CEO To Get 'Retired'?

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 |  About: General Electric Company (GE)
by: Brian Gilmartin, CFA

When we previewed General Electric's (NYSE:GE) earnings on July 16, '13 on this site, we brought up the point that given the fact that GE has dramatically underperformed the SP 500 for the last 13 years, when GE peaked out at $60.75 in September, 2000, and the fact that the non GE Capital businesses are still not growing, you would have to think that Jeff Immelt was on the hot seat, in terms of his job.

We repeated that same theme on our weekend blog update (about 3/4's of the way down the post) and then noted that CNBC brought two analysts on this afternoon, Monday August 26, to discuss the same topic.

While our Microsoft blog note from August 8, and our post here on SeekingAlpha on MSFT both preceded the recent Microsoft news, the fact is Microsoft was an easier call given its cash position, and the fact that MSFT now has more cash on the balance sheet than it did when it declared its special dividend in 2003. In addition MSFT is adding an average of about $3 bl in cash to the balance sheet every quarter.

GE is a tougher stock analytically, and outside of GE's stock performance, which is pretty important, the reasons to replace Jeff Immelt are less clear cut.

We don't want to re-hash our points from the earnings preview, but GE Capital is still one-third of GE's total operating profits, and is shrinking to boot. Now GE management has long said it wants to downsize the GE Capital business. We looked at some old GE 10-K's, and in December, 2000, GE Consolidated was just $400 billion in assets at that time, and GE Capital was 50% of revenues.

The fact is when i look back at the 2000 10-K, GE Capital was almost 4(x) the size of GE Industrial (or basically what is non GE Capital ) at $370 billion in assets versus $96 billion in assets.

Today, as of June 30, 2013, total GE assets are $660 billion, while GE Capital's assets were valued at $521 billion. (Proportionally, GE Capital appears to be the same size today to GE proper, as it did in late 2000.)

Here are a few points, some controversial, for GE and the GE Board to consider:

1.) How do you "downsize" or de-emphasize a business that is 80% of your assets, 30% of your second-quarter '13 revenues and roughly one-third of your operating profits, both today and going forward ?

I've actually tried inquiring of bank credit analysts and the rating agencies of GE Capital's importance to financial services in general, and I've read (but couldn't get a straight answer from anyone) that GE Capital on its own, is the 5th-largest financial institution in the US.

To me, that is like trying to "de-emphasize" a brain tumor, or the elephant parked on your chest.

Forget the Washington and Obama Administration's narrative and embrace GE Capital, or spin it off.

2.) In the 1980's and 1990's bull market, the bull market where GE traded from a low of $4.50 in late 1990 to the $60 peak 10 years later, the SP 500 was led by Financials and Technology. From 2000 to present days, the sector leaders were Energy, Consumer Discretionary and Basic Materials. GE's acquisition of Lufkin could be very smart, or not. Did GE "buy high" in the oil and gas sector, even though the U.S. is discovering more oil and gas domestically ? With the emphasis on Power & Water, is GE fighting the last war, and becoming the operational and business equivalent of the Obama Administration's feel-good initiatives ?

3.) To its credit, and off the March '09 generational lows, GE's stock is up 316%, versus Honeywell's 350% and UTX's 276%, so the post Financial-crisis returns are competitive (through August 26, '13, and excludes the dividend) for the stock and shareholders.

4.) GE's Q2 13 was actually better in terms of the Industrial margins, which came in 50 bp's better than expected, with Power & Water doing better than the difficult first quarter. Still, forward revenue estimates continue to decline. Also if you look at the effective tax rates - 10% consolidated - for GE proper, they continue to be quite low, and therefore overstate earnings.

GE's 10-year EPS and revenue growth

EPS

EPS gro

y/y

Rev

($'s bl's)

Rev

gro

2017 (est) $2.20 7% $179 4%
2016 (est) $2.06 3% $172 9%
2015 (est) $2.00 10% $158.2 5%
2014 (est) $1.82 10% $151.3 3%
2013 (est) $1.66 9% $146.2 -1%
2012 $1.52 11% $147.3 0%
2011 $1.37 19% $147.3 -2%
2010 $1.12 12% $149.5 -4%
2009 $1.03 -42% $156.8 -14%
2008 $1.78 $182.5
Click to enlarge

5.) As the above table shows, and as GE shrinks the balance sheet, it is hard to see how it grows any faster than mid-single-digits, which means that revenue estimates will likely continue to decline. As you can see from the column 5, revenue growth for the next 5 years is expected to be higher than the last 5 years, even though total assets are shrinking and GE Capital is being de-emphasized.

Conclusion: whether Jeff Immelt keeps his job or not, may not matter. GE needs to drive growth even as it seemingly talks down the largest segment of the business. We think the stock is worth at least $30, even under the current state, the high $20s at minimum. The appointment of Keith Sherrin as GE Capital CEO is pretty interesting: you would think as GE CFO, Keith would be in line for the top job, or at least a top 3 candidate, so Sherrin moved laterally in the organization, perhaps in preparation for what, a potential divestiture or spin-off ?

We could speculate endlessly, but if Steve Ballmer, who has known Bill Gates since Harvard (college days), can be shown the door, certainly GE's CEO is eligible. Jeff Immelt was dealt a tough hand with 9/11 and then the Financial Crisis, but the way GE Capital was growing, maybe in 2007, GE should have been renamed GE Bank & Trust.

Something has to give.

Disclosure: I am long GE, MSFT. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.