General Electric Co. investors eager to find out when the finance unit will resume sharing some of its free cash with the parent company, one indicator of renewed health and safety, will have to wait until the Federal Reserve finishes an inaugural review.
Before the financial crisis of 2008, GE Capital paid about 40 percent of its earnings, or as much as $8.6 billion one year, to the parent company. Allowing the internal payment to resume would signal confidence from the Fed, which became the unit’s regulator in July. For now, GE officials say they’re constrained on how much they can disclose at today’s investor meeting.
“I understand why investors want to see either the white or the black smoke coming from the Vatican rooftop,” GE Capital Chief Financial Officer Jeffrey Bornstein said in an interview before the meeting in Norwalk, Connecticut. “I just think, unfortunately, that’s really not the way it’s going to work.”
GE stock has fallen 37 percent since credit markets froze following the bankruptcy of Lehman Brothers Holdings Inc. in September 2008, raising concerns about risk to the value of GE Capital’s holdings.
Chief Executive Officer Jeffrey Immelt responded with a plan to reduce risk by shrinking the portion of GE profit from GE Capital and reining in certain kinds of lending. He also focused on expansion in manufacturing businesses, which investors typically value more highly than finance.
“To return to better balance it can’t just be about shrinking Capital, it has to be about industrial kicking into gear ultimately,” said Jeffrey Sprague, co-founder of Vertical Research Partners in Stamford, Connecticut.
To preserve cash, GE Capital lowered the internal dividend in late 2008, then suspended it in 2009. Keith Sherin, the parent company’s chief financial officer, said in October the company wants to restart the payment in 2012, a move that would require Fed approval.
The odds of meeting that goal are promising, analysts including Steven Winoker of Sanford C. Bernstein and Co. and Deane Dray of Citigroup Inc. said in notes to investors.
Winoker said the finance unit may send $3.9 billion to the parent company in 2012 and less than $7 billion in 2013. Partly because of that, he raised the target price for GE shares to $21 from $19 and boosted its rating to “outperform” from “market perform.”
The Fed may complete its review in the first six months of next year, Winoker said. GE Capital is positioned to meet capital requirements the Fed set for banks even if it resumes a 40 percent internal dividend next year, Dray said.
How much company officials can disclose about the regulatory process is limited by law. GE Capital has been preparing for more than a year for the Fed’s arrival, dedicating hundreds of people to work with the agency, Bornstein said.
Regulators are “doing all that due diligence you would expect that they would be doing: what the businesses are, what the products are, what our loss performance has been,” Bornstein said. “They’ve obviously started looking at our stress test routines, and how we think about capital and our capital planning and business planning.” A Fed spokesman declined to comment.
While the agency’s review continues, GE executives will probably focus at today’s meeting on progress in reducing overall lending, growth plans in areas such as loans to midsize companies, the wind-down or sale of some real-estate assets and repayment or refinancing of $81 billion in debt coming due in 2012.
Red vs. Green
The company plans to shrink the percentage of total profit from finance to about 30 percent, from as high as half before the financial crisis, in addition to curbing lending.
At the end of 2008, GE Capital had about $550 billion in ending net investment, a measure of a finance company’s assets. About 20 percent of those were labeled “red,” indicating GE Capital planned to sell or wind them down because they were less profitable after the crisis or in areas where the company lacked expertise or heft.
Three years later, GE Capital expects to meet its goal of shrinking to $440 billion in assets ahead of its 2012 schedule, with red assets making up “at the most, 10 to 15 percent of the pie,” Bill Cary, chief operating officer for GE Capital, said in an interview.
GE Capital funds its operations mostly through debt markets rather than deposits or trading like investment and conventional banks. In advance of next year’s debt maturities, the parent company has amassed a cash pile of about $83 billion and $54 billion in backup bank lines, eclipsing the $41 billion in commercial paper. The commercial-paper balance is about 60 percent lower than its 2007 high.
By the end of 2012, GE Capital’s cash balance will be closer to $50 billion, Sherin said in October. GE Capital plans to issue $25 billion to $30 billion in debt this year, and executives have hinted at a similar level in 2012.
For bond investors that kind of debt shows vulnerability at what some refer to as GECC, the acronym for General Electric Capital Corp.
“As long as GECC has access to the market, they’ll be fine,” said Bonnie Baha, portfolio manager at DoubleLine Capital in Los Angeles. “But there’s no guarantee that access will always be there. And that’s the biggest concern. It’s not a concern unique to GECC, it’s a concern to any credit that’s in a liquidity squeeze.”
GE Capital CEO Mike Neal said the unit should fare well if a squeeze occurs. He has attempted to armor the business against potential challenges such as the European sovereign-debt crisis. The company holds about $300 million in Greek and Italian bonds combined, Sherin said in October.
“What we’ve tried to do is, within reason, make this place strong enough to withstand anything that’s kind of reasonable that might come out of this,” he said in an interview. “We do have a lot of cash. We’ve reduced our reliance on short-term borrowings by a lot.”
As GE Capital exits red businesses, it’s redoubled its focus on “green” businesses, those it plans to keep.
The largest of those is lending to midsize businesses with $10 million to $1 billion in revenue, where executives say they have a competitive advantage because of know-how that extends from finance to areas such as consulting contracts, bulk tire purchases and writing software that shaves time off of deliveries.
‘Needed to Win’
For private-equity firm Riverside, based in Cleveland, GE’s expertise in evaluating a target company without large traditional assets such as factories and equipment made the lender a logical choice in this summer’s acquisition of Sunless Inc., an Ohio company that makes spray-tanning booths and airbrush equipment.
“It was a competitive situation for us to buy it, and we needed to win that competition,” co-CEO Stewart Kohl said. The purchase was made possible by the willingness of GE Capital lenders “to jump on a plane on a moment’s notice to visit the company with us, to roll up their sleeves to do the work, to come back quickly and say, ‘Here’s what we think we can get done,’ then to deliver on that and do it all in a time frame that would let us prevail.”