In a sense, the headline to this story is a question that already has an answer -- there won't be a General Electric (GE 1.51%) in three years. Instead, by mid-2025, the current company will have broken up and become three companies. First, GE HealthCare will be spun off in early 2023. Next, GE's energy businesses (GE Power, GE Renewable Energy, GE Energy Financial, and GE Digital) will be combined and spun off as GE Vernova. Finally, the remaining business will be renamed GE Aerospace.
So that much is already known. It's the critical question, "what kind of shape will all three businesses be in after a few years?" that investors should really be asking right now.
NYSE: GE
Key Data Points
Why the General Electric breakup matters
It's a good idea to look at all three companies separately because the performance of each one has direct relevance to the others. That's because GE's debt will be distributed across each business, and the amount is likely to vary in relation to how much each business generates in earnings. This is because investors and rating agencies measure net debt in terms of an earnings metric like earnings before interest, depreciation, and amortization (EBITDA).
For an industrial company, a net-debt-to-EBITDA ratio of 2.5 or less is reasonable for investment-grade debt. For reference, GE's net-debt-to-EBITDA multiple was 3.3 at the end of 2021.
However, there's good and bad news on that front.
General Electric's good news
The good news is GE expects a significant pickup in earnings/EBITDA in the coming years, driven by an ongoing recovery in commercial aviation, solid growth and margin expansion at GE HealthCare, and ongoing margin expansion at GE Power. Returning to the investor day presentation in March, here's a look at management's projections for each segment from 2021-2023.
Note the significant increase in profit expected at GE Aviation and the wide range in the earnings forecast at GE HealthCare and GE Power in 2023.
|
Adjusted Operating Profit |
2021 |
2022 (Estimated) |
2023 (Estimated) |
|---|---|---|---|
|
GE Aviation |
$2.9 billion |
$3.8 billion to $4.3 billion |
$6 billion |
|
GE HealthCare |
$3 billion |
$3.1 billion to $3.3 billion |
$3 billion to $4 billion |
|
GE Power* |
$0.7 billion |
$1 billion to $1.2 billion |
$1 billion to $2 billion |
|
GE Renewable Energy* |
($0.8 billion) |
($0.7 billion) to ($0.5 billion) |
Breakeven |
|
Corporate Costs |
($1.2 billion) |
($1.1 billion) |
($1 billion) |
|
Total |
$4.6 billion |
$6.5 billion** |
$10 billion** |
Data source: GE presentations. *Will be part of GE Vernova **midpoint of guidance
GE Aviation is doing fine, and investors can expect the business to continue profiting from the ongoing recovery in commercial aviation.
Now the bad news for General Electric
Unfortunately, despite GE maintaining its headline guidance for 2022, the company is still trending toward the low end of it. Given that the range for operating profit guidance for 2022 is $6 billion to $7 billion, it's reasonable to expect a figure closer to $6 billion this year.
Moreover, management said GE HealthCare's adjusted operating profit "is expected to be approximately $3.0 billion, slightly below prior outlook." That $3 billion figure is some $100 million to $300 million below its original guidance. As previously discussed, GE HealthCare's profit in 2022 is significant because it will color how the market prices the spin-off. Equally important is how management will guide toward 2023 earnings, and I think a figure of $3.7 billion would be good.
Turning to GE Vernova, GE Power is doing fine, and management has engineered an impressive turnaround in the business's fortunes -- and its 2022 outlook was affirmed recently. However, GE Power needs to outperform because GE Renewable Energy is underperforming, with management already telling investors the segment would miss profit expectations in 2022, and there's no guarantee it will be breakeven in 2023 either. A mixture of supply chain issues, ultra-competitive pricing, political uncertainty impacting the U.S. onshore market (GE Renewable Energy's core market), and raw material cost increases have hit its profit outlook.
Where will GE be in three years?
All told, GE will likely be in much better shape in a few years. The breakup will incur $2 billion in separation costs and $0.5 billion in tax costs, and the profit outlook at GE Renewable Energy and GE HealthCare has worsened in 2022.
However, GE's stock still looks like a good value. Working with the good and bad news above, there's still a strong case for the stock. For example, management expects $10 billion in operating profit to translate into $7 billion in free cash flow in 2023. Let's assume GE Aviation hits its 2023 target profit of $6 billion, GE HealthCare hits $3 billion (a very conservative assumption), and GE Power and GE Renewable Energy combined at $1 billion, with corporate costs of $1 billion. In that case, GE's adjusted operating profit will be $9 billion in 2023. That could produce free cash flow of $6.3 billion. Given that GE's current market cap is just $79.4 billion, the stock looks like an outstanding value even if its earnings are a lot weaker than currently expected.
