GE: Lights Out for Subprime Biz
A 10% jump in profits during the second-quarter hardly amounts to chump change, but General Electric (GE) is likely to look a lot better to some investors after shedding its troubled subprime mortgage unit, which it announced plans for on July 13.
The shares advanced 1.28% on July 13 to $39.50, after having touched a 52-week high of $40.17 earlier in the session.
The Fairfield (Conn.) conglomerate reported earnings of $5.4 billion, or 53 cents a share, for the June quarter, compared with $4.9 billion, or 48 cents a share, a year ago. Led by strong gains in its infrastructure and commercial finance businesses, revenue rose 12% from the year-ago period.
GE said it was exiting the subprime mortgage business, after taking writedowns of $500 million in assets in the first quarter and $182 million in the second quarter. The announcement comes just days after Moody's Investors Service downgraded $5.2 billion in subprime mortgage debt, including loans underwritten by GE's WMC Mortgage Corp. GE said it sold $3.7 billion of loans during the second quarter.
The company also boosted its 2007 stock buyback program to $14 billion.
"It almost feels like [the subprime mortgage business] is discontinued," with only $1.1 billion in loans remaining on its books, said Christopher Kotowicz, an analyst at A.G. Edwards & Sons. "I can't imagine they're going to get a lot of money for it."
GE has been winding down the mortgage business and letting employees go for months, underwriting just enough new business to prove it's still able to do so, he added.
"We don't know what the initial investment was. They never told us. We don't know what return they got on this thing," he said.
Since it could be argued that WMC Mortgage Corp. may have been a rationale for some investors to avoid GE's stock since the subprime debacle came to light earlier this year, Kotowicz called the plan to sell the business "addition by subtraction."
But the losses in the mortgage unit raise the question of whether there's similar risk in some of GE's other businesses, namely its credit business, which might face additional challenges if the U.S. economy slows down in the months ahead, Kotowicz said.
"The credit card business probably has a lot of clients who are of lower credit quality, so they'll have to manage that as well," he said.
But in general, GE's businesses turned out stellar results, with infrastructure profits up 23% and commercial finance profits improving by 18% over the second quarter of 2006.
During a conference call to discuss the quarterly results, CEO Jeffrey Immelt said the U.S. is still on the cusp of realizing growth in its combustible natural gas turbines, with increasing commercial interest not yet turning into actual orders.
Each turbine costs between $20-$40 million just for the equipment, before figuring in additional potential revenue from providing installation, service and spare parts, said Kotowicz, who predicted GE would start to get orders by the end of this year.
The renewed fervor to find ways to cut carbon emissions amid fears of irreparable environmental damage has done a lot to revive interest in natural gas turbines, which fell out of favor for a few years after it became apparent that utilities weren't that keen to retire less efficient coal-fired power plants. Industrial and population growth, and the need for cooling in areas where the density of power generation has increased has also boosted demand for gas-fired turbines, Kotowicz said.
GE's wind business is benefiting from the same concerns about global warming.
Earlier this week, GE and Abbott Laboratories (ABT) called off an $8.1 billion deal that would have combined two units that make medical diagnostic equipment.
Kotowicz doesn's own shares of GE but A.G. Edwards and/or its affiliates did receive compensation for non-investment banking services within the past 12 months.