The 2017 Dud of the Dow award is already looking in the bag for General Electric (NYSE:GE). The industrial conglomerate is the worst-performing Dow Jones Industrial Average stock this year... and the race ain't even close.
Already, nervous investors and skeptical analysts are furiously debating whether a dividend cut is in the cards for the beaten-down giant. Here's what people are saying, and what you can expect.
Flannery's mum, but the heads are talking
New CEO John Flannery has pledged a full review of GE's operations, and will report back to investors on Nov. 13. He's done an excellent job so far of playing his cards close to the vest. And that includes his plans for the dividend. In a recent statement to CNBC regarding the rumors of a dividend cut, GE spokeswoman Deirdre Latour was as vague as she was brief:"The dividend remains a top priority."
Another GE spokeswoman, Jennifer Erickson, used almost-identical language in another statement, before refusing to answer any further questions:"Dividends remain a top priority."
Nobody was satisfied. But GE is in a quiet period prior to its release of Q3 earnings on Friday, so don't expect anything further from it before then. Of course, that hasn't stopped many, many people from weighing in on whether or not they think a dividend cut will occur.
Will they/won't they
JP Morgan analyst Stephen Tusa was among the first to call a dividend cut "increasingly likely," citing the company's declining earnings. Goldman Sachs analyst Jeff Ritchie agreed, after a "fresh look at GE's fundamentals" convinced him that there was no easy fix to the company's problems.
But Jeff Sprague of Vertical Research Partners disagrees, asserting that GE will maintain its dividend to prevent an exodus of retail investors from the stock. Writing in Forbes, Jim Collins suggests that General Electric should cut its dividend, but says that its new management "probably won't do so," because the company still has a good credit rating, and a dividend cut would be a move of last resort.
GE last cut its dividend during the financial crisis of 2009, as its massive GE Capital lending division experienced huge losses. That 68% cut has generally been viewed as a necessary response to conditions at the time. But is a cut necessary now?
What's at stake
Since the financial crisis, GE has divested most of its GE Capital businesses, as well as some of its other product divisions, like appliances and water treatment systems, and refocused on its core industrial units. However, those businesses' departures, coupled with weaknesses in the energy and transportation sectors, have meant that the company's overall revenues and operating earnings have dropped, while the dividend has not. Currently, GE is yielding about 4.2%: the second-highest Dow dividend yield after Verizon's.
Meanwhile, the total dividend payout has been eating up more and more of the company's total cash from operations. Although cash from operations was still enough to cover the dividend in FY 2016, this year the company's dividend payouts have exceeded it, meaning GE has less to spend on growing its business. Ultimately, that's unsustainable.
GE can do one of three things to solve the problem: Cut the dividend enough that it can be covered by current cash from operations; increase cash from operations so it can cover the existing dividend; or raise money in some other way to make up the difference.
Something's gotta give
If Flannery decides to cut the dividend, the stock's price would almost certainly drop even further than it already has this year. Some analysts think it could even hit $20 per share... or lower. Others think the market is already pricing a dividend cut into the share price, but these voices are in the minority. However, such a move would bring GE's dividend more in line with its Dow peers, and free up cash to help Flannery grow the business through acquisitions, investment in current activities, or restructuring.
If GE doesn't decide to cut the dividend, and Flannery instead lays out a plan to increase cash from operations, he'll have a tough road to hoe. GE is a massive company with 295,000 worldwide employees, and numerous intersecting business lines. It is already falling short of its earnings projections, so absent a major move like selling off the company's healthcare unit or making a clean break from the semi-autonomous Baker Hughes, (NYSE:BHGE), in which GE owns a 62% stake, it's hard to see how the company could quickly turn its fortunes around.
Lastly, Flannery could opt to keep the dividend, outline a clear, medium-term plan for earnings improvement, and fund the dividend in the interim through debt, spending some of its $14 billion cash hoard, or allocating less to share buybacks or other items. This is probably the path of least resistance and might result in a temporary share bump as dividend investors breathe a sigh of relief. It would, however, increase the pressure on management to show results and might do nothing besides kick the can down the road.
As CEO, Flannery now has a Hobson's choice to make. Whether he cuts the dividend or not, he's sure to infuriate some investors. But it's important to reiterate that nobody knows for sure which way he's going to go. Which means nobody knows for sure which way the stock will go. Because of that, selling now seems premature. But holding on is risky.
GE still has plenty of strengths, including a strong global brand, a powerhouse aviation division, a big competitive moat, and a massive backlog. Flannery's mission -- now that he's chosen to accept it -- is to leverage these strengths into a winning corporate strategy. I think he can do it... but there's always the possibility that a wrong move will prove painful for investors.