General Electric appliance image by rafael-castillo Creative Commons license.
So far In 2014, General Electric Company (GE 1.51%) has taken two highly publicized and visible steps toward its goal of increasing industrial earnings to 75% of the company's total profits: the spin-off of its consumer retail finance division via the upcoming Synchrony IPO, and the purchase of French industrial giant Alstom's energy business. Yet a smaller, future transaction may demonstrate more tangibly why the company is revising its business divisions so thoroughly.
Last Friday GE confirmed that it is indeed exploring options for a sale or spin-off of its Louisville-based appliances and lighting division. Creating a joint-venture with another appliances manufacturer is a third option that the company hasn't ruled out.
The iconic appliances division is not an insignificant contributor to GE's top line: with $8.3 billion in annual sales, it comprises 5.6% of total company revenue and 8% of industrial segments' revenue.
Yet the division has struggled during and since the recession, with sales growing at a compounded annual growth rate, or CAGR, of only 1.6% since 2009. And at $381 in segment profit last year, earnings are still below 2009's mark of $360 million.
With such performance, the appliances division is far removed from the revenue and earnings model GE is building. To understand where the company's new industrial benchmarks are forming, we can look at a snapshot derived from the company's second quarter 2014 earnings released this past week. Below are the company's four largest industrial segments:
| Segment | Revenue | Operating Profit | % |
|---|---|---|---|
| Power & Water | $6,292 | $1,133 | 18.01% |
| Oil & Gas | $4,761 | $665 | 13.97% |
| Aviation | $6,090 | $1,197 | 19.66% |
| Health Care | $4,483 | $730 | 16.28% |
| Total | $21,626 | $3,725 | 17.22% |
| Average | $5,407 | $931 | 16.98% |
Source: SEC filings. All dollar figures in millions.
Together, these four segments accounted for 63% of the company's earnings last quarter. We can observe that these segments are quite large: the smallest, health care, garnered $4.5 billion in revenue last quarter. Each segment also throws off robust profits: as a group, these segments averaged 17% of operating profit (before accounting for any corporate items and/or eliminations).
These four lines of business give us a pretty clear idea of where the future of GE lies. It's in powerful industrial revenue streams with enough profit (mid-to-high teens) to allow significant share repurchases and funding of the company's handsome 3.3% dividend, while still providing for investment in acquisitions and capital equipment.
The revenue and returns for "GE Appliances and Lighting" fall well short of this model. While as mentioned above, the segment's quarterly revenue, at $2.1 billion, can't be considered insignificant, this figure doesn't hit even 50% of the next largest segment, health care. The appliances and lighting segment returned only $102 million, or less than 5% operating profit, last quarter. Because the segment is asset-based, with appliance inventory contained within GE's larger consolidated balance sheet, Appliances and Lighting also presumably drags on the company's overall return on assets, or ROA, a measure of how effectively a corporation uses its assets.
Parting with the appliances segment is consonant with what's turning out to be a divest-and-replace strategy for GE. That is, the company is selling off assets with lower returns (such as appliances and the consumer credit portion of GE Capital) and replacing them with higher return businesses -- hence the Alstom deal.
A critical evaluation of Appliances and Lighting also recognizes the reality of GE's size. At $146 billion in consolidated revenues, it's a progressively harder task for any one segment to move the revenue and earnings needles at General Electric. Even should GE invest another $1 billion in Appliances and Lighting as it has done since the recession, it's doubtful that the segment would see enough progress on either a top-line or margin basis to reach the performance of GE's four model segments over the long-term.
When a crisp financial decision has spiritual implications
Image: General Electric Company
Of all the reconfiguring GE has done and has yet to do, divesting itself of Appliances and Lighting will be the clearest and most tangible break with the company's past. Though founded in 1892, GE likes to trace its heritage back a few years earlier, to 1878, when Thomas Edison formed the Edison Electric Light company. The creation of the incandescent bulb was not only a milestone in American industrial history, it was also the genesis of General Electric's brand ubiquity. I grew up with GE appliances in my home and I know that more than a few readers did as well. Should GE sell its appliances and lighting division outright, it will lose a tangible connection with American consumers and truly hasten its destiny toward becoming a primarily industrial company.
Retaining the GE appliance branding through a spin-off or joint venture might be a better decision for this reason. Rather than join the ranks of admired but somewhat abstract companies in the minds of the average consumer (think ABB, Siemens, or Emerson Electric) via a sale, perhaps GE, continuing its consummate deal-making so far this year, can find a way to achieve its sharp financial goals, while keeping its spiritual connection to Thomas Edison, and its household name status, intact.
