General Electric: A Near $2 Million Insider Purchase Is A Strong Buy Signal

| About: General Electric (GE)

Summary

The company is exiting much of its financial businesses to focus on its industrial businesses through restructuring, cutting-edge technology, and research and development.

The company is combating decreasing margins due to the effects of low oil prices and slow global growth by doubling its restructuring spending.

The company’s restructuring efforts will affect all of its businesses, with a focus on its oil and gas business operations, whose profits decreased 19 percent in fourth quarter 2015.

The company’s increased restructuring effort and its transformation into a company that manufactures sophisticated equipment and the software for such equipment will benefit investors.

Investors should follow insiders to collect an over 3 percent dividend while the company reduces costs and transforms into an industrial company and away from its financial businesses.

Has there been a more frustrating high-profile company for an investor to own shares in over the last 20 years than General Electric (NYSE:GE)? While we could find shares in companies that have been equally frustrating over that period of time, as GE shareholders since 1996, we find it difficult to find any high profile company with as stellar a reputation as GE perform so poorly over the same time period. In fact, during the 2008-09 global financial crisis, the company's GE Capital division was said to put the well being of the entire company at risk. Further, we would go so far as to say that GE's poor performance would have led to its removal from the Dow Jones Industrial Average ("DJIA") index if the company was not the sentimental last remaining original member of the DJIA.

Despite all of the adversities GE has faced, however, we have held the company's shares as we have developed a long-term investor's attitude that companies have upturns and dry spells over their history. With that said, we believe that the company's dramatic and near-total exit from its GE Capital business is a likely turning point for improved shareholder returns over the intermediate and long term. We believe that our forecast of improved shareholder returns is supported by a dramatic increase in insider purchases of GE shares over the last year or so.

GE is in the midst of a large-scale restructuring initiative to create a company that is simpler to operate and easier to maneuver in fast changing markets. In particular, the company is moving from a traditional conglomerate with diversified business interests in financial services, media, industrial and technology-based operations to concentrate on its core industrial manufacturing businesses. In 2015, GE announced asset sales of $104 billion as part of its effort to focus on its manufacturing businesses such as aviation engines, drilling machines, generators, medical equipment and scanners. As the company exits much of its GE Capital businesses, it expects operating earnings from its industrial businesses to be about 90 percent of its total operating earnings by 2018, an increase from 58 percent in 2014. A recent step in that direction was GE's fourth quarter 2015 completion of its share exchange with Synchrony Financial (NYSE:SYF) that reduced the outstanding number of GE shares by about 6.6 percent. Another step in building up GE's industrial businesses was the company's recent finalized acquisition of Alstom's energy assets. The company expects the acquisition of such assets to provide an excellent return on capital, supply chain efficiencies and cost synergies. In addition, such acquisition will significantly expand the company's European presence and will make it one of the largest global manufacturers of power plant equipment.

GE's transformation, however, comprises more than just its exit from much of its GE Capital business. In 2015, GE announced an agreement to sell its appliance business to the Swedish electronics manufacturer Electrolux AB, but the companies did not complete the deal due to a lawsuit filed by the U.S. Department of Justice for antitrust concerns. GE, however, was able to reach an agreement to sell its appliance business to the Chinese consumer electronics manufacturer Haier Group in early 2016.

We believe that GE's ongoing transformation away from the highly regulated financial markets towards its core competencies in the industrial business market are steps that should have been taken long ago. We also believe that such transformation will reward long-suffering and new GE investors. While investors wait for the company's transformation to show more recognizable results that investors appreciate, they will be rewarded with a 3.30 percent dividend (that is likely to increase again in late 2016) and share buybacks. As GE once again becomes more known as an industrial company and the oil and gas markets improve, it will be rewarded with a price to earnings ratio more in line with an industrial company rather than a financial company. We should note further that GE also has the option to break the company up further to unlock shareholder value as the company's shares likely have been assigned a "conglomerate discount" that assigns a lower price to the earnings ratios for a company that operates in many markets. Finally, we cannot underestimate the multiple substantial GE insider purchases in 2015-16 and the significance of such purchases in signaling such insiders' belief in the company's ongoing transformation to improve shareholder returns over the intermediate and long term.

A significant insider purchase

One of the most positive signs to a potential investor in a company's stock is multiple insider share purchases on the open market. In January 2016, Alexander Dimitrief purchased 65,272 GE shares at $28.04 for a total cost of $1,830,226. This substantial purchase is in addition to substantial insider purchases earlier in 2015 by numerous insiders including: 1) Mary Schapiro purchasing 7,000 shares at $27.22 for a total cost of $190,540; 2) Francisco Dsouza purchasing 36,500 shares at $27.26 for a total cost $994,990; 3) Marijn Dekkers purchasing 20,000 shares at $26.93 for a total cost of $538,600; 4) James Rohr purchasing 20,000 shares at $27.15 for a total cost of $543,000; and 5) William Beattie purchasing 400,000 shares at $25.00 for a total cost of $10,000,000 and another 400,000 shares at $25.24 for a total cost of $10,096,000. GE has been struggling with global economic weakness, the overhang of weakness in the financial markets and plunging oil and gas prices and the company's share price reflects that struggle. As noted above, however, GE is in the midst of a radical transformation away from the financial markets by divesting most of its GE capital business to focus on its industrial businesses. Despite ongoing global economic weakness and severely depressed energy prices, we see the significant insider purchases of GE shares as a vote of confidence with respect to the benefits of GE's transformative actions and cost control activities for GE's intermediate and long term prospects. With GE's shares weakening from their 52-week highs due to an overall market sell-off, potential investors have the opportunity to buy GE shares at a slightly higher price than such insiders.

Our view

As noted, GE is exiting the financial business markets and is increasing its investments in its industrial businesses through restructuring, cutting-edge technology, and research and development. We believe that the company's transformative actions should have taken place years ago, but we welcome them now. In GE's latest quarterly results, it recorded a decrease in margins even thought it has engaged in strong cost-cutting and business simplification efforts. In an effort to bolster margins, the company announced during its recent earnings report that it would double its 2016 budget for restructuring spending to combat the effects of low energy prices and slow global growth that deeply depressed its earnings in 2015. In particular, GE plans to spend $3.4 billion on restructuring measures in 2016. The company's 2016 restructuring efforts will affect all of its industrial businesses, with a concentrated effort on its oil and gas business operations, whose profits decreased 19 percent in fourth quarter 2015. Specifically, GE will double its cost reductions in its oil and gas business (which supplies equipment to energy prospecting and production companies) to almost $800 million in cuts in 2016. Overall, however, GE's restructuring efforts will include consolidating real estate holdings, improving supplier relationships, increasing manufacturing plant efficiency and decreasing overhead and product costs. The company will fund much of its increased restructuring activities with proceeds from its above-noted $5.4 billion sale of its appliance business.

GE's increased restructuring effort to combat global economic and energy price weakness arrives as it continues its transformation into a digital-industrial company that manufactures sophisticated equipment and the software to run and monitor such equipment. In addition, the company made the rather dramatic step of moving its global headquarters in the U.S. from Connecticut to Boston. We believe that the company's ill-timed strong move into the oil and gas market in recent years will continue to adversely effect the company in the near term due to continued falling energy prices. The company's restructuring efforts will somewhat soften continued weak energy markets, but the cyclicality of such markets should benefit the company in the intermediate and long term. In any cyclical market such as the energy market, deeply depressed prices cause weaker companies to exit the market or declare bankruptcy. Depressed energy prices also reduce investment in energy source exploration. Adding up all of the reduced competition and energy source exploration typically results in higher prices for oil and gas in the intermediate and long term, thereby benefiting GE. Further, we should note that GE plans to cut as much as 6,500 jobs in connection with its Alstom energy asset acquisition.

GE's forward price to earnings ratio is about 19.25 based on 2016 earnings estimates of $1.51 and about 16.45 based on 2017 earnings estimates of $1.77. We should note that GE's earnings estimates for 2016 and 2017 have fallen slightly in recent months. We believe that the extensive insider purchases of GE shares over the past year or so are a sign of confidence that GE's transformation away from its GE Capital business towards its industrial business roots will benefit GE over the intermediate and long term. With GE's shares trading at a price slightly above the prices paid by GE's insiders, potential investors have the opportunity to collect an over 3 percent dividend while the company reduces costs, integrates its Alstom energy assets, awaits a recovery in the oil and gas markets, and benefits from its transformation away from its financial businesses. Currently, investors do not fully recognize the likely benefits from GE's transformational actions, but insiders do.

Disclosure: I am/we are long GE.

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.