GE (NYSE)

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General Electric (GE, NYSE)

Every recession catches some businesses unprepared. Call it the unprepared management, luck of the draw or some unforeseen catastrophe in the annals of world finance and trade. Not that businesses that are well prepared for a recession do not suffer hardship, it is a matter of degree. In the early eighties, it was the chemical industry that took it on the chin; big petrochemical facilities were popping up all around the globe at the peak of the cycle and managers were on the war path to out do each other with bigger plants. In the last recession it was the aerospace and steel industry that suffered the most. Of course auto manufacturers keep hoping that they have got the cyclicality minimized but it never happens. A $20,000 price entry may have something to do with that.

Why talk of recession? I hope just as many others that the next recession may never come but we know better and there are problems. Problem is the lack of comfort in the numbers most pundits use to declare recessions. They are usually wrong, often revised and even the masters of the investment universe, the U.S. Fed looks at them with suspect eyes. We could in fact already be in a recession and not know it. Problem number two is that the word recession has but no meaning. What does matter is the profitability of your investment equities? And that is directly related to demand which can't be considered as strong as before. 

The danger however is an excessive and premature panic which may result in nothing but a fear of what may not happen for another year. In fact it could turn around and all my complaints above may in fact be yet to be delivered in this recovery. It is thus premature to throw in the towel and sit with cash or banks and utilities, known as the traditional hedge against slow economy. At the same time it may be foolish to buy industrial stocks that have already made grand progress over the last year. We would be better off with a slow and steady grower that has stood well in previous downturns. General Electric is such a stock. You name an industry and you may find some arm of GE has a position in it. Well known divisions are Aircraft Engines, Lighting and Capital , each profitable and consistent. If there is a Microsoft of the old technology world, it has to be GE, the company keeps growing its revenues and profits, year after year. How do they do it? In one word, it's management. They have a discipline that captures the best of theory and practice of management today. And in another word diversity. They are in practically every profitable nook of the world.

Why wouldn't GE suffer if there was a recession next year? It will. In fact in the 1990-91, it dropped nearly 20% in price but within six months, it recouped all of those losses and made a new high. Secondly while other more volatile stocks have more doubled in this recovery so far, GE is up a modest 10% this year. On a risk/reward basis, GE is the safe bet.

CHARTS:

The P/E chart shows that GE deserves a growth multiple of 40 to 45 times earnings per share. In fact the company is receiving a size penalty of nearly 5 multiple points. While this caution is understandable when there are so many stocks and sectors making new highs, it is unsustainable when there is a dearth of quality blue chip growth companies to pick up. So while a recession may bring lower EPS, it may also reward patient investors in GE with higher P/E ratios making up for at least part of the decline., if any.

We have used the base case to be an EPS of $1.45, its current trailing earnings and a downside of $1.26 should there be a recession lurking behind the next year. As you can see from the value chart, current stock prices in the $57 range already discounts a drop in earnings, for it is unlikely we are going to have a recession and higher interest rates at the same time. Should there be no recession but just the soft landing as in the summer of 1994, a $70 plus is not unimaginable for GE.

SUMMARY:

There will be another recession be it in 2001 or later. The question is not if but when and also not how to hide but with what to face the eventuality. The answer among other well chosen stocks may be GE. Its wide industrial exposure globally and flexible management may be the best protection against substantial drop in value. In fact the current prices already reflect a bearish outlook and represent good value with or without a recession.

Following inputs were used to derive the fundamental P/E; Return on Equity 28% Beta 1.23 Debt/Capital 14% Plowback 60%

Last Updated July 23, 2000