General Electric (GE) stock has climbed nearly 41% over the past year, reaching levels not seen since its 2008 crisis, and sharply outpacing the 22% rise of the Dow Jones industrial average. On top of this, engineers at GE's Global Research are looking at superconducting MRI magnets from GE's health care imaging machines to develop turbines that have nearly twice the power capacity as the largest models today.
Despite this, I believe that General Electric is overrated and that its stock price is still too expensive. I would not hold this stock for too long, because it is greatly tied to global economic activity, and any crisis on the international stage could have great effect on its earnings.
Sales in General Electric's aviation and health care arms fell by 19% last year. This was because most major industrial companies experienced weak demand in Europe for their equipment as a result of the continent's economic crisis. To tackle this problem, General Electric implemented plans to cut its administrative cost in the face of an uncertain global economic environment. It also purchased enough shares to lower its share count below 10 million - its level in 2008.
General Electric has competitors in almost every sector of its operations. This has cut operating profit to less than 2%, and the margins are thin. For example, companies like Siemens (SI) and Eaton (ETN) are fighting General Electric for a market share in the power management business. In transportation, Caterpillar (CAT) is a threat. Toshiba, Philips, Siemens, and others are competitors in the health care sector. To make matters worse, most of General Electric rivals are as rich and powerful as it is. And they seem to react after it makes an initiative.
Recently, General Electric acquired part of Abbott Laboratories for more than $8 billion. The deal was designed to beef up General Electric's medical technology sector and restate its strategy to combine early diagnostics with information technology. In retaliation, Siemens bought Bayer's diagnostic business for $5.4 billion and US manufacturer, Diagnostic Products. Later, it bought GSD, a Berlin-based IT provider for medical technology. General Electric had shown interest in buying it.
Furthermore, General Electric operates in too many sectors where competition has made margins paper thin. For example, its energy management business is used by utilities, oil and gas companies, and marine companies. Due to the intense competition in the sector,the profit margins are thin. In the power management sector, margins are also under pressure due to the austerity in Europe. In aviation, General Electric expects to have 35,000 engines in use by 2015, but it does faces competition from companies like Rolls Royce, Pratt and Whitney, and others. While General Electric expects to make profit in the sector, it believes the growth will be minimal, especially since the military portion of the business has become less robust with U.S. budget cuts in defense spending.
General Electric is also under performing in the energy sector. Its diverse and large business here has not enabled it to adjust to changing market conditions, sometimes forcing it to reduce exposure to low-margin business. Over the past few years, it has off-loaded many assets to streamline its strategic operating model, which is to invest in core, high performing growth business where it has deep experience and broad capability to grow..
This is not to say I don't like General Electric. I find much to like in the company. In the last annual report, net income increased to $3.49 billion, or 33 cents per share, from $3.22 billion, or 22 cent per share, a year earlier. Revenue rose 2.8% to $36.35 billion from $35.36 billion, almost meeting Wall Street expectation of $36.35 billion. The company experienced significant gains in the energy infrastructure arm, where sales went up 12%. General Electric strengthened the arm in 2010 and 2011 with an $11 billion wave of acquisitions largely in the oil and gas business. It is spending $2 billion on renewal energy patents and assembling a wind turbine that will stand a third the height of the Eiffel Tower. The glass fiber composite blades of the turbine will stretch out more than 50 yards and sweep an area larger than a football field.
General Electric is also putting pressure on its rivals. It threatens Royal Philips' leadership in the home health care business by partnering with Intel (INTC) in a $250 million deal to develop home health care products. It expects to benefit from a market estimated to grow to $7 billion this year. It acquired part of Abbott Laboratories, annoying Siemens AG in the process. It acquired a retail finance portfolio from Citigroup (C) to add $1.6 billion in managed assets, hoping the deal would immediately add to earnings.
However, I have doubts about the company. Compared to the industry's price-to-earning ratio of 13.30, General Electric's figure of 19.78 seems high. Equity on this company is rich on a price-to-sales basis since shares trade are at approximately 20 times earning, which is a reasonable valuation for the company's double-digit growth projections in the next two years.
I'm not impressed by the yield at 2.5%, nor the earnings per share forecast of $0.56 for 2012. At a price just above $21, I think the stock is too expensive. Though I know there is an upside to the stock, I don't suggest buying until it falls below $19. General Electric appears to have some momentum to its operation, but it's not one to hold, because valuation matters, regardless of how often pundits say that growth will justify price.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.