Why We Remain Bullish On GE

by Trefis Team
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General Electric’s (NYSE: GE) stock price fell nearly 20% in the last three months due to management changes and concerns over profitability. The Baker Hughes acquisition also played a role in the decline, as many investors had issues with the idea of increasing the company’s exposure to the oil industry given the volatility in oil prices. Additionally, downgrades by JP Morgan and Deutsche Bank also influenced investors to some extent. However, we believe that GE is currently udervalued and should bounce back despite the concerns we discussed above. The strong growth in GE’s aviation, power, and renewable energy businesses is likely to continue due to growing demand and international expansion. GE’s margins are also generally higher than its peers, and the company continues to work on cost-cutting measures. Additionally, GE will benefit from its investments in the industrial internet of things.

Why GE’s Stock Price Fell

GE’s stock price fell from nearly $31 to $24 in around three months. The stock started to decline after GE’s CEO Jeff Immelt announced that he was stepping down effective August 1 after nearly 16 years as the company’s CEO. GE agreed to buy Baker Hughes last year, and investors had hoped that oil prices would bounce back after the OPEC deal to cap production. However, crude oil prices did not increase even 6 months after the OPEC deal. As GE’s dependence on the oil industry has increased with the completion of the Baker Hughes deal, investors have expressed concern due to the continued weakness in the oil industry. Additionally, analysts from JP Morgan and Deutsche Bank lowered their ratings on GE’s stock recently, stating that the company’s fundamentals are worse than they expected and that GE could cut its dividends going forward.

So Why Are We Bullish?

We believe that GE’s stock is unlikely to tank much further, as the market has already priced in the abovementioned factors. Here’s why we are bullish on GE:

  • Strong growth in the aviation industry will drive growth: Aviation accounts for nearly 33% of GE’s industrial sales, and the revenues for the segment have grown by nearly 8% annually in the last 10 years. The number of commercial flights is expected to increase by nearly 5% in 2017 and sustain this rate due to improving macroeconomic conditions and growth in global trade. Given the $33 billion backlog of GE Aviation and GE’s fuel-efficient engines such as LEAP, we believe that GE aviation is likely to maintain its high growth rate going forward.
  • Strong organic growth at GE Power and GE Renewables: GE Power and Renewables have grown immensely in the last few years, primarily because of the acquisition of Alstom’s energy business. However, the margins and revenues at these segments grew organically in the first half of 2017 due to GE’s expansion in emerging economies. The most notable recent example is Bangladesh, where GE won a contract for a major gas power plant. We expect these segments to continue to expand internationally due to GE’s vast international presence as well as acquisitions in these segments.
  • GE’s margins are better than industry average: Barring Renewable Energy and Healthcare, GE’s margins are generally much higher than its peers due to its vast supply chain and international exposure. Additionally, GE is considering restructuring and cost cutting programs in the coming months to reduce costs by about $2 billion by the end of 2018. The cost cutting program may include corporate job cuts and shutting down underperforming plants. We believe that in the long run, GE will be able to increase its profits and help its stock bounce back.
  • Digital investments likely to pay off: Currently, GE’s Digital revenues primarily come from its Power and Healthcare segments, but we expect other segments to contribute significantly going forward once its investments start to pay off. GE should also be able to gain a first-mover advantage over its peers as it is investing enormously in its Platform as a Service (PaaS) Predix platform and applying the solutions to its industrial segments on a pilot basis. The industrial internet of things market is expected to grow at a CAGR of about 8% and reach $196 billion by 2022. Thus, we remain optimistic about this business as GE has built its own digital infrastructure instead of outsourcing it.
  • Other factors: GE derives a significant portion of its income from its international operations, and the strength in the U.S. dollar relative to other relevant currencies in recent years has suppressed GE’s profits. Starting in 2017, the dollar has shown some weakness which might help GE boost its near-term profits from currency translations.

For our model and valuation, please refer to our complete analysis of General Electric

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