Dueling Fools
Generals at War
February 10, 1999

General Electric Bear's Den
by Rick Munarriz ([email protected])

GE, we bring good things to hype. I have taken a shine to that peppy little slogan and by the time I'm through with my bearish bent I think you might come to agree with me. By now I'm sure Selena has gone over the many General Electric subsidiaries. Did it fly for you? Should a company that makes aircraft engines really be peddling home equity loans? Peter Lynch had a great expression for convoluted conglomerates like this. He called it "diworsification." You want to manufacture industrial machinery while providing major network programming? Bam! Here's a diworsification label for you, wear it well.

The bullish argument may very well be that the aging Jack Welch has excelled at making this disjointed collection of divisions sing. I would have to agree. But the balance seems so delicate that I wouldn't want to be holding shares of GE the day Jack steps down. And like Seinfeld, George Clooney, or an overheated GE oven, Jack will one day bid GE farewell.

Finding a new juggler as proficient as Jack at handling this subsidiary menagerie won't be easy. Enjoy Jack's brilliance today. Fear for its absence tomorrow.

But if you think I'm going to give Jack all passing marks and simply rely on pointing to a dark and not all too distant future as the only reason one should stay away from General Eclectic, read on.

Are you sold on these divisions to begin with? Years ago I was impressed with the prospects for NBC. If the sofa were to swallow yet another one of my remotes I would be content to live off Must See TV. But then a GE light bulb went off in my head. Broadcasting, from the network's perspective, is a no-win situation.

If NBC ever gets a hit on its hands, like Seinfeld or ER, the cast demands millions per episode and the advertising bonanza gets whittled away. In some cases, like the recent ridiculous bidding war to broadcast pro football games, broadcasters are willing to lose money as long as they get the sporting vehicle to build a desirable demographic base for the rest of the day. Geesh, as if sofas really do swallow remotes.

Besides, when I was a little kid, I grew up in the era of Battle of the Network Stars. You only had three viewing options and even placing third still won a decent piece of the pie. With cable and mini-dish systems expanding the programming alternatives, technology has been a great leveler for the broadcasting industry. The pieces got smaller. And, sure, GE is in there with MSNBC and CNBC, but it faces ever-growing competition in those niche offerings.

One of the best performing segments until now has been aircraft engines in which GE accounts for half of the market. The future is not all clear skies here. The airlines have been locked into price freezes over the last year and a half because of oversupply. While some are now coming back with meager hikes, nobody wants to commit to new jets. GE's hope on that front, as well as the other cyclical fronts like materials and industrial, which are already struggling with lower sales, is dimming.

Others, like the prominent financial services division, seems to be on top of the world, but the moment interest rates head back up it's going to be the mother of all undertows tugging at the financial sector. And, last I checked, interest rates can only fall so much farther.

Like all good bearish cases, this ultimately ends in valuation hibernation. It's hard to find companies in the sectors that GE participates selling for close to 40 times earnings like GE does today. Financial services companies like American Express <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AXP)") else Response.Write("(NYSE: AXP)") end if %> trade at half that multiple. Airlines like United <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: UAL)") else Response.Write("(NYSE: UAL)") end if %> and AMR <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: AMR)") else Response.Write("(NYSE: AMR)") end if %> trade at a fifth of that ambitious GE multiple. So why should GE trade at a steep premium to all of them rather than a slight premium to the mean?

Earnings are expected to grow 14% this year and 13% next year. That's the way it has been -- growth in the low teens -- over the past few years. If I can take you back to 1994, things made sense then. The stock had a PE ratio that matched its conservative earnings growth. The company initiated a massive $17 billion stock buyback. GE knew how to spot a bargain. It bought. This past summer, with shares of GE trading at more than twice that multiple, but growing at the same leisurely pace, what did the company do? It sold. It had a $1.2 billion offering for institutional investors. Buying when the company did in 1994 proved to be a sound move. Selling in 1999, on the heels of the company, might prove to be a sound move as well.

Remember, when General Electric meets Major Correction on the battlefield, you will most definitely want to run for cover.