Industrials

Brooke Sutherland is a Bloomberg Gadfly columnist covering deals. She previously wrote an M&A column for Bloomberg News.

General Electric Co. doesn't like to be called a conglomerate and its frenzied pace of divestitures over the past few years has made the term less and less appropriate. But there's an outlier to its rediscovered industrial roots, and that's the health-care division.

GE Healthcare is a massive business with about $18 billion in annual revenue. And it's a fairly good one, with leading market share in imaging, a growing life-sciences arm and intriguing digital possibilities around data-based health-care facility management and virtual-reality exams that can help improve diagnoses. It's just not very industrial, especially in the modern sense of the word. 

Big League
Health care is one of GE's biggest businesses. As a stand-alone company, its revenue would be on par with Thermo Fisher and surpass Boston Scientific and Zimmer Biomet.
Source: Bloomberg
Danaher acquired Cepheid in November 2016 and that will add to its revenue going forward. Abbott Labs closed on its purchase of St. Jude in January.

With Siemens AG, Danaher Corp. and Royal Philips NV taking steps to isolate their health-care businesses from more traditionally industrial operations, a number of analysts and investors have questioned whether GE needs to do the same. Just last week at a JPMorgan Chase & Co. conference, Richard Laxer, who heads up what remains of GE Capital, was asked how that business' equipment-financing strategy would change in the event health care is no longer part of the company's core industrial operations. Hint hint.

It's a fair question. CEO Jeff Immelt once billed health care as GE's "biggest single opportunity" as he funneled M&A dollars and conference call air-time to the division.  But recently, the company's acquisition of Alstom SA's power assets, the combination of its oil and gas operations with Baker Hughes Inc., and the company's mismanaged growth expectations have hogged the spotlight. As big as the health-care unit is, it's tended to get lost in the shuffle -- or taken for granted. There also just aren't many inherently obvious reasons why mammography systems and ultrasound machines need to be sold by a maker of jet engines and locomotives. 

That said, I don't think the case for a GE health-care spinoff is as clear-cut as it was for some of the company's other unloved or overlooked businesses. Think about what it's gotten rid of: appliances were a low-margin operation where GE didn't command top billing, NBC Universal was a distraction and the GE Capital lending and real estate assets nearly killed the company during the financial crisis and then kept it from making full use of its balance sheet. You can't really say the same about health care.

Comeback Kid
Last year brought better growth and a meaningful margin improvement for GE's health-care business.
Source: Bloomberg
Operating margin calculated as segment profit divided by segment revenue. GE named John Flannery as head of its health-care division in October 2014.

Margins have gotten better since John Flannery took over the division in 2014 and growth is showing signs of improvement. Barring a potential slowdown in health-care equipment purchasing amid the current regulatory uncertainty, it's a fairly consistent business that throws off a lot of useful cash flow.

The fact that it's not a problem child -- the health-care unit exceeded its cost-cut goal last year with $450 million of savings -- may ironically be one reason people don't pay as close attention. The industrial giant likes to tout its faster-growing life-sciences division, but it's tiny by GE standards with just $4 billion of revenue and some investors may forget it's there."

GE may not command the same kind of valuation as the life-sciences-focused Danaher, but separating out health care won't necessarily help it get there. JPMorgan analyst Steve Tusa pegs GE's sum-of-the-parts in the low $20s, a discount to its current $30 share price. By some counts, GE also trades at a higher valuation than both Siemens and other industrials that don't have health-care operations. 

Side by Side
JPMorgan analyst Steve Tusa doubts there would be much value created from a further breakup of GE. Tax dis-synergies and underfunded pension obligations may also complicate the matter.
Source: Bloomberg
For GE, the data is calculated based on the company's share price as of Friday and reported 2016 industrial cash flow from operating activities of $9.9 billion. Excluding deal taxes and pension funding, GE reported industrial CFOA of $11.6 billion, which would imply a multiple of about 22. Tusa estimates a multiple of 28 relative to his estimated GAAP 2018 free-cash-flow projection of $1.10 a share. All other data is based on the price to trailing 12-month free cash flow multiple as calculated by Bloomberg and may not be exactly apples to apples.

Perhaps getting investors to appreciate the health-care business is just a matter of time. The planned spin-off of Siemens's health-care assets will be an interesting test case that could help highlight the value of what GE has. The unit's stable, cash-generating assets could also become a more obvious fit if GE decides to focus on those kind of businesses with a more definitive separation of its oil and gas operations. Health care also wouldn't have to compete with that time-suck for attention. 

Something to Prove
GE has essentially performed in line with the broader industrial sector after announcing its massive GE Capital break-up, prompting speculation that activist investor Trian Fund Management might push for a CEO change
Source: Bloomberg

But in the meantime, if GE is going to keep health care, simply touting the business more could help sell investors on its reason for being. It's one of the parts of GE that's doing well right now and Immelt and the rest of the brass should be talking that up, particularly those better-than-expected cost cuts. GE's health-care-focused investor day was helpful, but that was a year ago and the (unprompted) explanation from Flannery as to why the unit deserves to be under the GE umbrella could use repeating. The sales pitch rings truest when GE talks specifics about shared technologies -- i.e., how health-care imaging analytics are used to help a maintenance engineer working in GE's power division.

And if that doesn't work, valuation math is a pretty good sales pitch. 

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

  1. Immelt actually ran the health-care division prior to becoming CEO. Once in the top post, he acquired medical-imaging chemical and equipment maker Amersham Plc for $10.3 billion in 2004 and even tried to acquire part of Abbott Laboratories diagnostic-equipment business in 2007, among other deals. 

  2. A big life-sciences acquisition would get investors' attention. Considering the valuations life-sciences businesses are commanding these days and less-than-fond memories of Amersham, it might not be the kind of attention GE wants, though.

To contact the author of this story:
Brooke Sutherland in New York at bsutherland7@bloomberg.net

To contact the editor responsible for this story:
Beth Williams at bewilliams@bloomberg.net