The efforts to combat COVID-19 appear to be pushing the world toward a global recession. Some market watchers are even suggesting that the United States could see a worse economic downturn than the one it lived through between 2007 and 2009. That's a terrible backdrop for any company, including icons like General Electric (GE +6.76%) and Verizon (VZ +0.08%). But if you are looking at perhaps investing in these big-name companies, one is in a better position to weather a recession than the other. Here's a quick primer on what you need to know as part of your decision-making process.
The pain is widespread
General Electric provides industrial products and services to other companies. It is an inherently cyclical business, with demand ebbing and flowing along with activity in the broader economy. A general economic downturn will likely lead to weak performance across key parts of its portfolio. The problem is that, of the company's four main business segments, two -- renewable energy and power -- were already struggling despite the upbeat economy the U.S. was experiencing up until February. The pair posted low-single-digit or negative operating margins in 2019, and burned cash instead of generating it. GE isn't expecting much improvement on either front in 2020.
Image source: Getty Images
Of the two remaining businesses, healthcare and aviation, healthcare is the strongest. It should hold up reasonably well even in the face of COVID-19, with operating margins in the 20% range and positive free cash flow in 2019. General Electric is expecting similar performance in 2020. Then there's the company's aviation business, which also had double-digit margins in 2019 and was cash-flow positive. Although GE is expecting a similar performance in 2020, the consumer aviation market has been dramatically changed by the coronavirus, with air travel at a virtual standstill across the globe. At this juncture, its expectations for this business appear to be pretty optimistic.
Meanwhile, it's worth noting that GE was forced to sell a piece of its strong healthcare business to raise cash for debt reduction efforts. The thing is, GE's business has been struggling through a long turnaround that really started after the deep 2007-to-2009 recession. More than a decade later it is still dealing with a heavy debt load and the lingering impact of allowing its finance arm to expand well beyond its core purpose (helping customers buy GE products). Even if GE manages to cut its leverage in half, it will still be materially more leveraged than peers, and still not done implementing its latest attempt at a business turnaround. Put simply, GE is still a work in progress, and the headwinds are only increasing. Most investors should be sitting on the sidelines here.
A solid core and some mistakes
Verizon, meanwhile, is far from perfect. For example, a few years ago it bought the internet also-rans Yahoo! and AOL in the hope of putting two struggling web businesses together to create one good internet content operation. That didn't go very well, and ended up looking like a waste of shareholder money. On top of that, Verizon has a lot of debt, with a financial debt-to-EBITDA ratio of roughly 2.6 times. To be fair, that ratio is not outlandish and is actually lower than that of its primary competitor, AT&T. But going into a downturn, it is an issue to monitor.
That's doubly important because Verizon has big bills ahead of it as it continues to upgrade its wireless service offerings to 5G. The current low-interest-rate environment suggests that Verizon will be able to keep its interest costs in check for years to come, with the company covering its interest expenses roughly six times over in 2019. Still, a heavy debt load in a downturn is a worry. Unlike GE, however, Verizon's core business of selling cellphone and internet service appears pretty resilient through both good and bad times.
Indeed, being "connected," which is what Verizon allows, is basically a necessity today. So its roughly 95 million retail customers, 25 million business customers, and 13 million high-speed internet customers aren't likely to drop sharply in a downturn. All of those sticky relationships give Verizon a lot of flexibility.
So despite the constant need to keep investing in its assets, it has the cash flow to do so. In fact, even after $18 billion in capital investments in 2019, Verizon had about the same amount of cash flow left over for other purposes. Noting that only $10 billion of the remainder went toward dividends, Verizon is clearly on pretty solid ground financially. And the company's 4.2% dividend yield doesn't appear to be at risk of a cut, either.
And the winner is?
At this point it should be pretty obvious that most investors comparing GE to Verizon should be leaning heavily toward Verizon. It's not perfect -- it just agreed to buy a small video conferencing company in the hope of competing with more entrenched players like Microsoft, which seems like as much of a long shot as buying the remnants of AOL and Yahoo! long after their dominance had waned. This move won't derail Verizon's business, but more conservative investors may be put off by efforts like this, which could be seen as pushing too far beyond the company's core.
GE, meanwhile, is still struggling to turn its business around, and the environment in which it is operating is getting increasingly hostile. That will only make life harder for the company. So, in this matchup, Verizon easily wins the day -- its core business should hold up well, even in a downturn. Add in an over-4% dividend yield and the story gets even better, particularly for income-focused investors. Clearly, Verizon is not perfect, and leverage should be monitored as it continues to spend on system upgrades. But compared to GE, it's a much better option.
