Please ensure Javascript is enabled for purposes of website accessibility

General Electric Maintains Guidance, but for How Much Longer?

By Lee Samaha - Mar 15, 2020 at 10:16AM

You’re reading a free article with opinions that may differ from The Motley Fool’s Premium Investing Services. Become a Motley Fool member today to get instant access to our top analyst recommendations, in-depth research, investing resources, and more. Learn More

Management confirmed its free cash flow outlook in a recent meeting, but the COVID-19 outbreak threatens that optimism.

Last year was an exciting one for General Electric (GE -0.03%) shareholders, with the stock putting on a 45% gain -- a performance that made it one of the best-performing industrial stocks of the year. However, one of the key reasons why GE outperformed in 2019 -- handily beating its own guidance -- is going to be prove hard to repeat in 2020. Here's why.

Underpromising and overdelivering

Back on its 2019 outlook day in March 2019, GE management forecasted industrial free cash flow (FCF) in the range of an outflow of $2 billion to zero. It was a startlingly weak outlook at the time, but it ultimately proved too conservative, with full-year 2019 FCF coming in at $2.3 billion.

While it's easy to suggest that CEO Larry Culp was deliberately low-balling guidance in order to beat it, the reality is that GE needed to get back to the days of underpromising and overdelivering -- not least because the two former CEOs, Jeff Immelt and John Flannery, both did the opposite. GE had a guidance credibility issue, and Culp has helped solve it.

A partially disassembled jet engine for a passenger airplane parked in a hangar.

Source: Getty Images

The 2020 version

Fast forward to 2020, and the market awarded GE stock a double-digit increase after a fourth-quarter earnings report which contained FCF guidance of $2 billion to $4 billion for 2020. That's an impressive figure -- not least because GE will lose a significantly cash-generative business in 2020 when it sells GE biopharma ($1.3 billion worth of FCF) to healthcare stock Danaher, and the FCF from dividends from Baker Hughes ($350 million in 2019) as its stake is sold down. Both these events are baked into GE's FCF guidance for 2020.

Moreover, with the Boeing 737 MAX only expected to return to service at the mid-year point -- GE's joint venture with Safran, CFM International, makes the LEAP engine used on the MAX -- GE's FCF guidance for 2020 also has the negative effect of the lack of a full year's production on the MAX.

Putting all this together, GE investors had three reasons to feel optimistic about FCF in 2020 and beyond:

  • GE's implied FCF guidance is probably significantly understating what its underlying run rate of FCF generation could be if the MAX was in full production.
  • The improvement in expected FCF -- considering GE biopharma and Baker Hughes drop out in 2020 -- is actually quite significant.
  • After underpromising and overdelivering in 2019 -- significantly surpassing its own FCF guidance -- investors had cause to believe GE could do the same in 2020.

Enter COVID-19

Unfortunately, there's reason to believe that this bullish prediction is being challenged by events. While most commentators still expect a return to service for the MAX in due course -- something that will boost GE through increased LEAP production and ultimately lucrative aftermarket revenue for years to come -- the COVID-19 outbreak is challenging the notion that GE can sail past its own guidance again in 2020.

For example, at the recent investor outlook meeting, Culp said that the COVID-19 outbreak would lead to a negative effect on FCF of some $300 million to $500 million in the first quarter alone, with $200 million to $300 million of the effect seen at GE Aviation.

However, he maintained the full-year FCF target of $2 billion to $4 billion. This would appear to be good news, but here's the thing. GE's full-year FCF guidance doesn't include any effects for COVID-19 beyond the first quarter, and a raft of data continues to suggest that the overall situation is getting worse.

As you can see below, the growth in new confirmed new cases has shifted from countries in the Far East toward Europe. In other words, it has internationalized. This means any modeling of its effects on the economy and company earnings must now be considered on a global basis, and not just in the Far East -- not great news for GE Aviation.

Confirmed new cases of coronavirus.

Data source: World Health Organization. Chart by author.

What it all means to GE investors

In a nutshell, GE probably didn't reduce its full-year FCF guidance, even as it outlined a $300 million to $500 million effect in the first quarter, because the original guidance of $2 billion to $4 billion was wide enough to encompass it. It's possible that Culp was being as conservative with guidance as he was in 2019.

However, it looks likely that the COVID-19 effects will extend beyond the first quarter, and there will be pressure on earnings and FCF guidance in 2020. All of this means that if you think that GE is going to repeat its trick of underpromising and overdelivering in 2020, you might need to think again.

Invest Smarter with The Motley Fool

Join Over 1 Million Premium Members Receiving…

  • New Stock Picks Each Month
  • Detailed Analysis of Companies
  • Model Portfolios
  • Live Streaming During Market Hours
  • And Much More
Get Started Now

Stocks Mentioned

General Electric Company Stock Quote
General Electric Company
GE
$63.67 (-0.03%) $0.02
The Boeing Company Stock Quote
The Boeing Company
BA
$136.72 (-1.25%) $-1.73
Danaher Corporation Stock Quote
Danaher Corporation
DHR
$253.52 (0.26%) $0.66

*Average returns of all recommendations since inception. Cost basis and return based on previous market day close.

Related Articles

Motley Fool Returns

Motley Fool Stock Advisor

Market-beating stocks from our award-winning analyst team.

Stock Advisor Returns
311%
 
S&P 500 Returns
110%

Calculated by average return of all stock recommendations since inception of the Stock Advisor service in February of 2002. Returns as of 07/01/2022.

Discounted offers are only available to new members. Stock Advisor list price is $199 per year.

Premium Investing Services

Invest better with The Motley Fool. Get stock recommendations, portfolio guidance, and more from The Motley Fool's premium services.