GE Ignores $100 Billion of Cash to Borrow $7 Billion
General Electric Co. (GE) is refinancing $5 billion of debt even as it expects to generate $100 billion of cash in the next four years, showing confidence in its ability to invest at returns four times its borrowing costs.
The biggest maker of power-generation equipment sold $7 billion of bonds yesterday at an average 2.58 percent yield in the parent company’s first issue in almost five years. That compares with a 12 percent return that Chief Executive Officer Jeffrey Immelt said last week the Fairfield, Connecticut-based firm generates on its capital.
The offering allows the company to use the cash it brings in for stock buybacks, dividends and acquisitions. While Immelt seeks to pare debt at GE’s finance arm, the offering may boost bonds of the parent by 22 percent to $11 billion next year.
“It’s a no-brainer,” Jody Lurie, a corporate credit analyst at Janney Montgomery Scott LLC in Philadelphia, said in a telephone interview. “It costs nothing to issue, so why would they use cash on hand” to pay off maturing obligations?
GE borrows at lower rates than the average for U.S. investment-grade issuers, whose bond yields dropped to an unprecedented 2.85 percent yesterday, according to Bank of America Merrill Lynch index data. That compares with 2.62 percent for GE, which includes yields on obligations of its finance arm GE Capital.
“GE and GE Capital have always been opportunistic about accessing markets and pre-funding maturities,” Seth Martin, a spokesman for GE, said in an e-mail. “This GE issuance is consistent with that strategy, particularly with interest rates at historically low levels.”
GE Capital, the financing arm, has issued $21.9 billion of corporate bonds worldwide this year while facing about $80 billion in maturities, according to Bloomberg data and a December 2011 GE investor presentation.
By adding $3 billion of 2.7 percent, 10-year bonds and equal $2 billion portions of 0.85 percent, three-year debt and 4.125 percent securities maturing in 2042 to its balance sheet, GE will be paying bondholders to push out its debts even after Immelt told analysts and investors he expects the company to generate about $100 billion of cash through 2016, according to a transcript of a Sept. 27 meeting at the company’s leadership center in Ossining, New York.
“GE probably figures they have better uses for their cash at this point than paying off parent-level debt,” Kathleen Shanley, an analyst at bond research firm Gimme Credit LLC, said in an e-mail. “It is logical for the company to want to refinance this offering, especially given the current rock- bottom interest rate environment.”
Investors who purchased the bonds at issue prices have seen total gains of more than $150 million in less than a day. GE’s 2.7 percent securities have increased about 1.8 cents on the dollar to 101.5, yielding 2.53 percent at 10:55 a.m. in New York, according to Trace, the bond-price reporting system of the Financial Industry Regulatory Authority. The 30-year, 4.125 percent bonds are up about 5 cents to 104.6 with a 3.87 percent yield.
GE may also be taking advantage of low interest rates to raise domestic funds while avoiding U.S. repatriation tax on the cash the company holds overseas, according to Janney Montgomery’s Lurie and Alan Shepard of Madison Investment Holdings Inc. About $53 billion of the company’s $74 billion of cash and equivalents were held outside the U.S. as of June 30, according to a quarterly regulatory filing.
“Companies with substantial cash balances outside the U.S. are looking to get it back here cheaply,” Shepard, whose Madison, Wisconsin based firm oversees about $16 billion including GE debt, said in an e-mail. “With rates as low as they are, debt issuance is a straightforward way to do it.”
GE had $8.6 billion of cash at the end of June, compared with $66.3 billion held by GE Capital, the filing said.
Most of the new cash generated through 2016 will be used to reward shareholders through equity dividends, stock buybacks and acquisitions, Immelt said. While free cash flow at the company declined 21 percent to $20.7 billion last year, the money available to reward equity owners and to use to reduce debt is above the $16 billion recorded in 2009, Bloomberg data show.
GE Capital also resumed cash transfers to its parent company in May that were suspended in the aftermath of Lehman Brothers Holdings Inc.’s collapse. It paid a special dividend of $4.5 billion and initiated a quarterly payout of $450 million.
Restarting the internal dividend was a milestone in GE Capital’s recovery from the financial crisis, during which the unit suffered credit losses of about $32 billion, according to a presentation prepared for the company’s April 25 annual meeting. Immelt has said he wants to shrink the division’s balance sheet and decrease its share of GE’s earnings.
Moody’s Investors Service cut its debt rating on GE one step to Aa3 on April 3, citing “heightened risk” from the finance unit, whose own grade is lower than the parent company’s for the first time in two decades at A1. The reductions concluded a review begun March 19 after Moody’s revised the criteria for financial company ratings.
The new rating reflected “the impact of GE Capital’s higher risk profile on GE,” in part the funding arm’s reliance on access to debt markets, Moody’s said. S&P rates GE and General Electric Capital AA+.
GE Capital operating profit of $2.12 billion in the second quarter accounted for 36 percent of the total, according to data compiled by Bloomberg. That compares with 48 percent in all of 2007, before credit markets froze. The company’s goal is for the financial unit to contribute as little as 30 percent of earnings, according to a presentation at the analyst meeting.
“We’ve got more discretionary cash around the company than any time I can remember,” Immelt said. “We think that’s the right place to be, disciplined buybacks, smart share repurchases, focused acquisitions. We’re going to have a lot of cash and we’re going demonstrate superior capital allocation.”
Immelt is working to boost GE shares that cost more relative to earnings and sales than the Standard & Poor’s 500 index even after a decade of lagging returns by focusing on units that make jet engines, diesel locomotives and medical imaging equipment to exploit infrastructure demands in faster- growing emerging markets.
GE’s price-to-earnings ratio of 16 compares with an index value of 14.7, and its 1.7 sales multiple exceeds 1.4 for the S&P 500. The company had lost 18 percent including reinvested dividends since Immelt took the helm on Sept. 7, 2001 through last week, compared with a 65 percent gain for the S&P.
While GE may resort to debt-financed shareholder rewards if its current strategy doesn’t meaningfully boost its stock performance, yesterday’s bond sale still leaves the company with an “extremely healthy” financial profile, Hitin Anand, an analyst at CreditSights Inc. in New York, wrote in a report.
“It lets the cash generation be there for other things,” Anand said in a telephone interview. “Not having any debt in this market environment would just not be a prudent capital structure decision for them.”