Interesting Reading

General Electric

A slipping crown

Mar 13th 2009
From Economist.com

General Electric, a bellwether of American business, suffers a blow

FOR decades America’s General Electric (GE) has worn its AAA credit rating as a badge of pride. The company has also used it to mint money in its financial-services business, GE Capital. No longer. On Thursday March 12th Standard & Poor’s (S&P), a credit-rating agency, stripped the company and its financial arm of their top-notch ratings, downgrading them to AA-plus. That added insult to the injury that GE has already suffered as a result of the deterioration in the quality of part of GE Capital’s loan portfolio.

Despite its image as an industrial behemoth with a reputation for innovating in a wide range of sectors from wind turbines to brain scanners, GE makes a good deal of money from GE Capital’s activities. Last year the outfit generated a profit of $8.6 billion, or almost 48% of GE’s total earnings. By exploiting its AAA rating, GE Capital was able to raise capital cheaply and then deploy it to fund everything from commercial-property and home loans to credit-card lending and insurance. But the chaos triggered by the credit crunch has taken the shine off GE’s cash machine, which has seen some of its property and other loans turn sour. Announcing its decision to downgrade the business, S&P predicted rising credit losses in coming months in several areas of GE Capital’s portfolio.

Although GE’s demotion from AAA was bad news, it triggered a rise in the firm’s shares, which had recently been trading at about the same price as one of the light bulbs that the company makes. No doubt investors were relieved that S&P didn’t make an even deeper cut in the company’s rating. They may also have taken comfort from the agency’s conclusion that GE’s industrial businesses should continue to pump oodles of cash, in spite of the global downturn.

Yet some financial analysts are still fretting that GE Capital’s portfolio may contain more nasty surprises. They point out that the business does not mark many of its assets to their market price—a practice that has blown huge holes in the finances of many big banks. They also wonder out loud whether Moody's, another rating agency, will take a more pessimistic view of GE’s prospects when it finishes a review of the AAA rating that it still assigns to the firm.

Next week GE plans to hold an in-depth briefing on the state of the assets in GE Capital’s portfolio, which it hopes will help to dispel the cloud still hanging over the business. It has also been telling anyone who will listen that it doesn’t expect this week’s downgrade to have a significant impact on its business, though it does plan to keep shrinking GE Capital’s activities so that the unit represents no more than 30% of total profit. Jeff Immelt, GE’s CEO, has said that the overall company will continue to manage itself like a AAA-rated firm, notably by keeping plenty of liquidity to hand. GE is sitting on $48 billion of cash and has already raised over 90% of its long-term debt needs for this year—no mean feat in a dire credit market.

The company also plans to slash its dividend from the second half of 2009, which it reckons will let it conserve an additional $9 billion a year on an ongoing basis. This has made some of the company’s small investors apoplectic; they have grown used to juicy dividend payments. In his annual letter to shareholders published recently, Mr Immelt admitted that GE’s reputation had been “tarnished” because it has failed to live up to its aspiration to be a “safe and reliable growth company”. Resolving lingering doubts over GE Capital quickly will be essential if one of America’s most iconic companies is to regain its shine.

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