Why Divesting From Financial Services Is A Good Move By GE

As last week was going to an end, General Electric Company (NYSE:GE) announced its plans to simplify its operations by reducing the size of its financial businesses. To achieve this, GE says is will sell most part of GE Capital, the financial arm of the company, over the next 24 months. According to the company, the initiative to reduce the size of its financial businesses is to enable it focus on growing its world-class industrial businesses. Considering that GE Capital accounted for about 42 percent of GE’s total profit in 2014, investors are rightly going to question if this is a right move. I believe this is a right move for the reason I’ll discuss below.

Typically, when such announcement is made, it is easy to want to think that it is a panic move and as such, there is a part of the story that the company is trying to keep away from us. This is not the case with GE. As evidences show, the story is just exactly as GE told it. Therefore, there is no need to read negative meanings to the announcement.

Before going ahead to explain how the story is just the way it was presented, let me take a moment to spell out what parts of GE Capital that is being disposed and what part it will retain.

The company plans to dispose its real estate businesses, consumer lending and leasing segment, and all consumer platform, which included all its banking assets. The company had announced the disposition of its Australian consumer lending business, which offers auto, personal and consolidation loans, mortgages and insurance in an $8.2 billion deal in March

On the other hand, it plans to retain GE Capital Aviation Services, Energy Financial Services and Healthcare Equipment Finance, all of which are vertical to the company’s operations.

One might want to say that GE should have retained its consumer-lending platform since it offers consumer products as well. However, with the economy in a weak state, it is safer to bank on businesses than consumers are. So it’s a good move. Although this gives smaller consumer lenders, like ALM Funding, that offer emergency loans solutions an appreciable growth potential.

In the announcement, GE said:

“GE Capital has been an important part of the history of GE. However, the business model for large, wholesale-funded financial companies has changed, making it increasingly difficult to generate acceptable returns going forward.”

To put it bluntly, GE is trying to say that the since the financial crisis, the economy and its growth has been weak. Combine this with the stricter financial regulations that followed the financial crisis, it is no longer easy to use financial business as leverage for its operations.

Note that GE entered into the financial sector at a time that featured the rise of Wall Street firms and a withering the manufacturing sector. Therefore, the initial entry into the financial space was a move to stay relevant. However, with the party in the financial sector over, it only makes sense for the company to divest itself from the sector and focus on its core business.


Data gotten from GE’s annual reports

As the chart shows, the impact of GE Capital on GE’s total segment profit has been on the decline. And it signals that it is becoming increasingly difficult to be profitable in the financial sector, especially when rendering financial services isn’t the core of the business. You will understand better when you think about the fact that interest rates in the US are at historic low levels. And with such a degrading financial space, and weak economic growth, the value of the financial arm of GE may keep declining. So I see this move as one in which the company is trying to squeeze value off its financial businesses before things get worse.

If there were any untold part to the story, it would be that GE has plans to enter into another sector where the party is just starting. I say this because it is unlikely that GE’s exit from financial services is instigated by a surge in the manufacturing economy. Perhaps GE is planning to grow into a manufacturing plus services company. This way, it would tap into the growth of the services economy in the US. We would have to wait to see what the company will do.

Final word
However, for now, investors, especially those with an eye for long-term income, might want to focus on the income potential that lies ahead with GE. The company said, “There is potential to return more than $90 billion to investors in dividends, buyback and the Synchrony exchange through 2018.”

There are two opportunities here. The first is the opportunity for dividend growth. This is a welcome prospect for investors who have seen dividends from the company cut down in the recent past.

Second, the buyback program will go some way to improve the value of the company, which should help push up its stock price. This will also go some way to push up dividends yield. Therefore, investors should see this as a positive move rather than a panic move.