What's Pulling GE Down


By Diane Brady For proof that the stock market has no havens these days, look no further than the General Electric. A company that traded at $50 a share one year ago has since sunk to around $28. Even in the dire days after September 11, when everything from its aircraft engine business to ad sales at the NBC unit looked in jeopardy, GE (GE) stock dropped only into the mid-30s. So what has changed?

To some extent, the fate of GE simply reflects the skittishness of the overall market. Investors are running scared from large, complex companies -- and they don't get much more complicated than GE -- that deal with pension income, special-purpose entities, and intricate accounting techniques that now have a bad name.

And as one of the most liquid stocks in the market, GE is often first to feel the impact of massive redemptions. When foreign investors or others want to cash out of the U.S. market, fund managers turn to shares they can liquidate quickly. That has dealt another blow to GE in recent days. Mix in the skepticism of Corporate America following the most recent spate of scandals, and it's clear that shares in GE are unlikely to soar in this environment.

WILL THINGS GET WORSE? Still, that doesn't mean it's merely a victim of broader market trends. Even bullish analysts don't expect GE stock to increase much above $35 in the next several months. And a return to 2000's $60 highs could be a long way off indeed. A big reason is that its power-systems unit, a critical driver of growth in recent years, is heading down. The jet-engine business is also negotiating a tough market.

What's more, the drop-off in orders at both units could be more severe than expected, according to Scott Davis of Morgan Stanley. "They're selling to some very large, balance-sheet-challenged companies like Calpine (CPN)," notes Davis, who has an "equal weight," or neutral, rating on the stock. "Things could get much worse before they get better."

One thing that may have unnerved some investors was GE's recent announcement that its Employers Reinsurance Corp. business will post a loss of $240 million in the second quarter, with the unit taking a $350 million aftertax charge adjusted from prior-year estimates. In this environment, any type of "adjustment" -- however justified -- is bound to raise eyebrows, according to John Inch of Merrill Lynch.

POCKETS OF STRENGTH. "People are looking for cleaner stories," says Inch, who has a buy rating on the stock. "Some of them will ask if there's more to come." It doesn't help that GE expects to record an aftertax loss of $110 million in the second quarter due to losses on WorldCom (WCOME) bonds.

Even so, some good news is coming out of America's most valuable company these days. Its economy-sensitive or "short-cycle" businesses are starting to do well. Divisions like appliances and plastics are posting better numbers, while NBC leads the networks in ad sales, which have also picked up.

Chief Financial Officer Keith Sherin recently said GE expects to earn about $4.4 billion, or 44 cents a share, in the second quarter. That would be a jump of about 13% from a year earlier. Analysts generally expect earnings growth of at least 10% for the year.

SMOOTH SUCCESSION. Meanwhile, some of the clouds hanging over GE show signs of dissipating. Its controversial reliance on short-term debt or commercial paper, which is more volatile than locking in long-term rates, has been cut back to about 34% of overall debt from almost half at the end of 2001. Increased transparency and disclosure has also given investors a greater understanding of how GE makes its money.

Even the change in management hasn't been as traumatic as some had predicted. Jack Welch, the iconic and much-celebrated chairman who stepped down mere days before the terrorist attacks last fall, did add a luster that's hard to replace. But new Chairman Jeffrey Immelt is fast winning new recruits and, observers say, positioning GE for long-term growth.

Michael Regan of CS First Boston is impressed. "I like what I see with Jeff Immelt, in terms of focusing on technology, cutting expenses in the back room, and getting more of his people out to deal with customers," he says. "But no matter what he does in the short term, power systems is still going down."

"A RARE DISCOUNT." Too true. Such cyclical problems are likely to cap any explosive growth in share price over the coming year. Still, even a $7 jump over the next 12 months or so would translate to gains of about 25% over the current price. That's enough to make Lawrence Horan, director of research at Parker/Hunter Inc. in Pittsburgh, buy up shares at $29 in recent days.

"I'm looking for stocks to double in three to five years, and I feel confident that GE will do that," says Horan. His rationale: GE is trading at a rare discount to the Standard & Poor's 500-stock index and "is the best-run company out there."

For investors who've witnessed the implosion of one blue-chip name after another this year, such assurances may not hold much weight. They may need more confidence in the overall market, or airtight proof of stellar days ahead for GE, before they'll venture back into the shares. At the very least, the motivation to buy GE in this market is more likely to be good value than impressive growth. Brady is an associate editor for BusinessWeek in New York


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