GE Accelerates Asset Disposal

We think this a necessary move by new GE CEO Larry Culp. We see it as a better deal for BHGE, given that GE is forced to negotiate from weakness and BHGE’s stock is undervalued (our fair value estimate for BHGE is $32 against the Nov. 12 closing price of $23.64). We believe this may be a better deal for a potential buyer of GE’s BHGE stake in the public markets. That said, given GE’s high debt burden and year-to-date industrial free cash flow of negative $335 million, we think Culp is wise to unwind assets. We continue to believe the fair market value of GE’s assets net of liabilities represents significant upside to the current stock price around $8. Given the relatively small impact on GE’s value, we don’t expect a large change in our fair value estimate; we anticipate the changes will amount to dimes on our current $16.30 fair value estimate.

However, we are increasing our uncertainty rating to very high from high to reflect the challenges in projecting GE’s results. Breaking the lockup agreement with BHGE, cutting the quarterly dividend to $0.01 per share, and selling competitively advantaged assets (the healthcare and locomotive businesses, for example) show the extreme measures GE needs to take to spare its balance sheet further shocks, and the cone of uncertainty surrounding our estimates has increased from prior levels.

With this move, GE is accelerating the timeline for asset sales, and all options are on the table. This was punctuated by Culp’s urgency in a Nov. 12 CNBC interview in which he quoted John Wooden, saying, "Be quick, but don’t hurry." We think this is an acknowledgement that leverage remains too high and can threaten GE’s financial health over the long run. Cash burn is also a concern, and we’re confident that Culp has acknowledged the problem.

In the short term, according to Culp, the firm has about $20 billion in “cash on hand” (he is referring to the $20 billion disposition program that included the expected close of distributed power in the fourth quarter of this year and transportation by early 2019), as well as over $40 billion of bank lines, net of offset provisions. According to a footnote in GE’s third-quarter press release, these credit lines are committed and primarily consist of $20 billion from an unused syndicated credit facility extended by 36 banks expiring in 2021 and about $19.8 billion in an unused syndicated credit facility extended by six banks expiring in 2020. Based on Culp’s CNBC interview, $2 billion from these lines has been drawn since the press release.

The remaining portions of the deal include an agreement to form a joint venture to provide aeroderivative engine services and product management to the oil and gas and industrial space. The joint venture agreement is in force after the later of July 3, 2019, or the date GE no longer owns 50% of BHGE’s outstanding common stock. We see the joint venture as a vote of confidence by both management teams in the strategic rationale that originally brought the companies together--that BHGE would be stronger with shared access to GE’s technology.

Ultimately, we think Culp’s sense of urgency is warranted, and we see him untethered from the restraints from predecessors Jack Welch, Jeff Immelt, and John Flannery, who were longtime company insiders. In our view, the board chose one of the best CEOs to run an industrial conglomerate. While we believe Culp will stick with the broad strategic plan set out by Flannery in June, we expect that he will flesh out the details of the plan and is open to changes in execution. With the firm’s borrowing costs rising and its credit default swap spreads widening, Culp’s challenge will be to realize the value of GE’s assets through separations or spin-offs before the firm burns off too much cash.