Wednesday, March 18, 2009

Future Bailout: General Electric?

Several years ago, my wife worked for an executive who was so enamored with Jack Welch, star ex-CEO of General Electric, he bought everybody a hardback copy of his autobiography Jack, Straight Talk from the Gut. I managed to read about half way through but it didn't contain any real information and had a distasteful amount of self-praise.

I don't like braggarts, yet you couldn't argue with the growth and stock price during his reign at GE. However, he was obviously planting the seeds of failure, by getting away from the core product and building it's lending arm GE Capital. As Michael Brush reports in MSN Money today, it's the finance arm that's dragging down the company.
Here's a simple comparison that shows how far General Electric has strayed into lending from its core businesses: In the late 1980s, its financial division, called GE Capital, accounted for about 20% of overall earnings. By 2007 that had grown to 55%.

GE didn't make the transition by lending more money to customers buying wind turbines or medical imaging equipment.

Its lending division now has $660 billion in assets that include loans to developers of shopping malls and office space, subprime loans to United Kingdom homebuyers, credit cards loans, and loans to businesses and consumers in emerging market countries such as Poland, Turkey and the Baltic states.

As the economy worsens and unemployment rises, more of these loans are bound to go bad. This could be a big challenge for General Electric because it is company with a huge chunk of assets -- that $660 billion loan book.

The company is in trouble? Well, we all know what that means....
Credit rating agency Standard and Poor's last week downgraded GE one notch, to AA+, and described the company's outlook as "stable" but said the outlook could be lowered if cash flow drops enough. S&P says that could happen if sales revenue falls more than 5% this year, which is not too far-fetched. GE already predicts this year's revenue will be flat to down 5%.

Ultimately, investors may have to count on Uncle Sam to save GE. "They have a lot of debt coming due in the next couple of years," says Jenkins, of Evolution Securities. "The only way they can fund themselves is with government support. They will be on the same life support system as most of the other financial institutions."

It's amazing that they could take one of the most successful companies in the world and pretty much ruin it, for the sake of getting better returns for a decade. They moved away from the stuff they knew how to do, to becoming a bank and disaster resulted. And Joe Taxpayer will have to bail them out.

If anything good comes out of this, it's not much, but people will have to stop worshipping Jack Welch and other slick CEO's who went after the fast buck.

UPDATE: Some excellent points in the comments:

Funny you mention this. In Robert Prechter’s book, Conquer The Crash, he describes GE as a reflection of the USA. GE used to make their profit from production. GE made things that lasted a generation. GE turned itself into a bank, and started making profits from finance.

GM is the same story. They lose money on car production but make money (until recently) through GMAC on finance.

The US government borrows money from Asia, so people can buy things made in China. This is a financial scheme.

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