Investors in General Electric (GE 1.22%) were left with a sinking feeling after the industrial giant released its first-quarter earnings. The earnings were disappointing, but the full-year guidance also left investors underwhelmed over GE's prospects. That said, the sharp correction in the stock will attract value investors. So, is it now time to start buying the stock, or is GE worth avoiding after earnings?
First, a brief recap of the key headlines from the earnings presentations:
- Adjusted year-over-year organic revenue growth of 1% in the quarter, which management said could have been closer to 7% if not for supply chain disruptions, the war in Ukraine, and COVID-19 outbreaks in China.
- CEO Larry Culp lowered full-year expectations on the earnings call when he discussed the company's published full-year guidance and said, "We're trending toward the low end of that range."
- On a segment level, management lowered full-year expectations for GE Renewable Energy and detailed supply chain issues pushing out earnings into the second half for all four of GE's reporting segments.
During the earnings call, CFO Carolina Dybeck Happe was asked where the shortfall in sales came from, and she replied, "That's the impact on the top line. And 5% of that is from supply chain, and we said 1%, we attribute to sort of the China and the Russia situation."
The bears' view
There are two ways to look at it. The glass-half-empty approach sees a company forced to push out earnings expectations into the second half due to problematic conditions (including supply chain disruptions and the war in Ukraine), which are far from resolved. Indeed, there are issues across all four segments.
In renewable energy, profit margins are collapsing across the industry as soaring raw material costs and supply chain issues continue to affect the leading players negatively. In addition, the political uncertainty around renewable energy policy in the U.S. is causing delays in orders in GE's core U.S. onshore wind market.
GE Healthcare reported that revenue came in with a 1% increase. The business was particularly badly hit by the disruptions discussed above, with Dybeck Happe saying: "We estimate that the revenue growth would have been about seven to eight points higher or a year-over-year growth of approximately 9%" on the earnings call. Management plans for pricing increases to help offset inflationary pressures, but they won't have a meaningful effect until the second half.
GE Power had a relatively good quarter. There was a 6% decline in organic revenue driven by lower shipments of its heavy-duty HA gas turbine, but that's in line with management's plans. Dybeck Happe said the segment was on track for its full-year expectations. However, she also noted that Russia contributes 4% of power sales (at a relatively high margin), so there will be a negative effect from sanctions.
Finally, at GE Aviation, management maintained its full-year forecast for revenue growth of at least 20% based on an ongoing recovery in commercial aviation. However, Dybeck Happe said supply chain disruptions created negative headwinds to revenue in the quarter and are "a key watch item as we progress through the year."
All told, GE is under pressure in all four of its segments, and even meeting the low end of its earnings guidance range of $2.80 to $3.50 and free cash flow (FCF) range of $5.5 billion to $6.5 billion could prove a challenge.
The bulls' view
A more positive viewpoint notes that even if GE only hits the bottom end of its guidance range, the stock will still be a good value. For example, based on the current market cap of $85.5 billion, FCF of $5.5 billion would put GE on a price to FCF of 15.5 times when a multiple of 20 times is reasonable for a mature industrial company.
Moreover, aviation is still in a multi-year recovery. GE Healthcare is still world-class and capable of at least a high-teens margin as the supply chain issues eventually ease. GE Power is now profitable again and fully in turnaround mode. Finally, management continues to make progress in raising the pricing of orders in renewable energy, and expects that the benefits of these actions will flow in the second half.
A stock to buy
The pressure is building on GE as it progresses toward a breakup beginning at the start of 2023. However, many of its issues appear to be temporary. GE stock looks like an excellent value merely if it hits the low end of its guidance. As such, the stock remains attractive. Just watch out for geopolitical risk.