GE Stock: In Defense of the Dividend Cuts

Posted On November 15, 2017 3:34 pm

GE stock is plummeting after the company announced a plan to slash its dividend by a whopping 50%, practically crushing one of the biggest reasons to own the stock. Several reports also suggest that GE management is planning to shut down all of the units except aviation, power and healthcare. This will give the company an increased focus and much-needed capital for future growth.

The company’s dividend cut will keep haunting GE stock prices in the short-term, but in the long-term, investors will thank the company’s management for this. GE’s new CEO John Flannery has rightly diagnosed the problem of GE and took the bold step. General Electric’s dividend payout ratio, which indicates the company’s capacity to support its dividends, is well over -300%.

Because of this, GE is bleeding cash and the management could allocate very little budget to R&D, resulting in a lack of new growth catalysts. In the third quarter, General Electric Capital, which used to be the company’s most profitable unit, posted a decline in revenues. Earnings from operations declined by 24% in this period.

In order to sustain its lofty dividends, GE has started to practically liquidate itself. In the third quarter earnings call, the CEO said that GE will sell $20 billion worth of assets in the next couple of years. General Electric’s free cash flow remains negative. Earlier this month, Reuters reported that GE was mulling over selling its aircraft leasing operations.

Wall Street has been irrationally obsessed with GE’s GAAP earnings, while ignoring the problem of free cash flow. But the time has come for GE’s management to take a bold action and save the company from going towards bankruptcy in the future.

However, a 50% dividend cut is not enough to bring General Electric’s free cash flows into positive territory. The company will have to create new growth catalysts and increase its cost cutting. The company already has a $2 billion cost cutting plan for 2018.

GE is still in a transition phase, which was started by the company’s previous CEO Jeff Immelt after the financial crisis. The company is expanding its products and services into new areas. GE stock remains a long term buy for investors who can wait patiently.

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