General Electric's (GE 2.28%) management has recently made some extremely positive hints regarding its medium-term earnings prospects. While it wasn't explicit guidance, investors can read between the lines, and doing so suggests there's significant upside potential for the stock. Here's why.
General Electric's implied guidance
There are two things to focus on. The first is CFO Carolina Dybeck Happe's presentation on the investor conference call in March. In the process of outlining the industrial company's debt-reduction plans, Dybeck Happe's indicated where GE's debt levels could be in 2023.
Some simple mathematics indicates that GE's management believes EBITDA could be in the range of $13.2 billion to $14.8 billion in 2023. Those figures are $350 million to $2 billion above the market consensus estimate of $12.8 billion.
First-quarter earnings commentary
The second comment to consider comes from the earnings call given at the end of April. Management had already told investors it aimed for a high-single-digit free cash flow (FCF) margin in 2023 during the investor conference in March. Indeed, CEO Larry Culp declared himself "confident" that GE would hit that target on the earnings call in April.
Furthermore, he went on to discuss a scenario whereby FCF margin could be 8% in 2023, and based on the 2019 revenue base, revenue in 2023 could be "somewhere in the $85 billion to $90 billion range, that gets us to a $7 billion free cash number." Culp used 2019 as a base for 2023 because the latter is when most commentators expect commercial air travel to return to 2019 levels. For reference, the market consensus for 2023 is for a 7.4% FCF margin on $6.56 billion in FCF.
While it's important to note that neither Dybeck Happe nor Culp gave specific guidance on EBITDA or FCF, the implied guidance and commentary suggest figures significantly ahead of Wall Street analysts' projections.
Why it matters
Putting all of this into context, it's worth noting that Culp's tenure has been marked by conservatism in guidance. For example, going back to the investor outlook call in March 2019, management's guidance for industrial FCF was for an outflow of $2 billion to breakeven. In the end, GE reported $2.3 billion in FCF in 2019, a figure $3.3 billion ahead of the midpoint of guidance.
Culp's guidance for 2020, given in March of the same year, called for FCF in the range of $2 billion to $4 billion. Obviously, the COVID-19 pandemic destroyed nearly every company's guidance in 2020, so there's no surprise that GE failed to meet it. GE's FCF would come in at $606 million in 2020.
But here's the thing. GE Aviation was the hardest-hit segment in 2020, and management's guidance in 2020 called for at least $4.4 billion in FCF from GE Aviation. In fact, GE Aviation was at breakeven in 2020.
So, GE "lost" at least $4.4 billion in FCF from GE Aviation in 2020, but overall, FCF came in only $1.4 billion to $3.4 billion below initial guidance. Clearly, combined FCF generation in the non-aviation business was a lot better than management had previously predicted. Again, a sign that GE's guidance has tended to be on the conservative side.
General Electric's conservatism
If GE's management is being cautious with guidance, it would be perfectly understandable. After all, the previous two CEOs ended their tenures tied to the mast of earnings projections that proved overly optimistic. Moreover, the inaccurate forecasting did little for the company's credibility with investors. Furthermore, GE's earnings and FCF have always been lumpy and always will be while it sells high-priced items like aircraft engines, gas turbines, wind turbines, and medical scanners.
In this context, a period of underpromising and overdelivering is precisely what the company needed -- whether it was by design or incidental.
General Electric in 2023
Given the recent history of conservative guidance, it's reasonable to look at the 2023 EBITDA and FCF figures discussed above as realistic targets for the company. To put these figures into context, the midpoint of implied EBITDA guidance is $14 billion which would put GE on an EV/EBITDA multiple of less than 10 times EBITDA in 2023. FCF of $7 billion in 2023 would put GE on less than 18 times its FCF in 2023.
These valuations suggest there's plenty of upside potential for GE stock, provided it can hit these figures.