Saturday, June 30, 2018

Gee Whiz... GE!

      General Electric is an iconic corporation. It was founded 126 years ago in a merger of the Edison Electric Company and the Thompson-Houston Company. It has been a bright and shining star in American Industry. In the early years they produced power generation equipment, all kinds of electrical devices from electric motors, alternators, light bulbs, and various other industrial gizmos. Over the years, they expanded into locomotives, airplane engines, and household appliances of all sizes. They were a blue-chip stock that were almost a must in any portfolio.
     They built a sprawling headquarters, manufacturing, research and development center in Schenectady, NY. I remember in the 1980s when I was studying and working in the field of reliability engineering and life data analysis, it seemed that the seminal books and articles were all written by industrial engineers and statistician at the GE research and development center in Schenectady.
     Jack Welch took over GE in 1981. He ran the company until 2001. He was named The Manager of the Century by Fortune Magazine in November of 1999. He was nicknamed Neutron Jack because, like the neutron bomb, he gutted the company of employees while leaving the buildings intact. He had a very cut, dry, and harsh style. Every business in the GE portfolio had to be #1 or #2 in their market or he would sell-off the business. He routinely fired the bottom 10% of his management team. One way of looking at his leadership approach was that he created a nimble, fast paced, and performance driven management team. Another perspective was that he built a cut-throat culture built on fear and intense pressure that could not be sustained. But Welch was eminently successful taking the market capitalization of GE from $14 billion to $144 billion during his tenure.
     The name Gary Wendt is rarely mentioned regarding General Electric. In fact, there is not much about him in any web-search. People remember Jack Welch but not Gary Wendt who was Welch’s clear #2 for many years. Wendt ran GE Capital, the newest part of GE at the time. It quickly became the part of the company that that was the heart of the Welch management style.
     GE was headquarted in Fairfield, CT two towns over from Wilton where we lived. A lot of their GE Capital Businesses were located in the area, so I knew a fair number of executives. I even interviewed with several divisions when they were about to implement Six Sigma. It was clear that I was not GE material. I could not promise stellar results off the top of my head having done no analysis. That is what they wanted. I thought people were kidding me when they said you had a nanosecond to impress a senior executive. But that was certainly the case.
     When Welch got the Manager of the Century award from Fortune, he was quoted in the article as follows:
I'm not retiring because I'm old and tired. I'm retiring because an organization has had 20 years of me. My success will be determined by how well my successor grows it in the next 20 years. I've got a great management team, and they're ready to get the old goat out of there so they can do their thing. 
To be vital, an organization has to repot itself, start again, get new ideas, renew itself. And I shouldn't stay on the board. I should disappear from the company so my successor feels totally free to do whatever he wants to do.
      Well… in the next 20 years, his hand-picked successor Jeff Immelt, did not do a very good job at all. Immelt retired in 2017. He left a mess for his successor John Flannery who is working hard to restructure the company. When Immelt retired GE’s market capitalization was $252 billion. This month it had fallen to $120 billion. On June 19th, GE was dropped from the Dow Jones Industrial Average (DJIA). Per Bloomberg:
General Electric Co. suffered a crowning ignominy Tuesday as overseers of the Dow Jones Industrial Average kicked the beleaguered company out of the stock gauge it has inhabited for more than a century. 
Once the world’s most valuable company, GE will be replaced by Walgreens Boots Alliance Inc., the Deerfield, Illinois-based drugstore chain created in a 2014 merger. The change will take effect prior to the open of trading next Tuesday. Down 26 percent, GE is the worst performer in the Dow in 2018, as it was last year, as well.
     The DJIA is the oldest, most widely known, and most followed stock market index in the US if not the world. It was originally made up of 12 companies in 1896. It grew to 20 companies in 1916. In 1928, the list was expanded to the current number of 30 companies. The editors of the Wall Street Journal select which companies are in the index. There is no set formula, but the editors look for the biggest, best performing, most economically influential US based companies.
     Here is the original 12 companies.
  • American Cotton Oil
  • American Sugar
  • American Tobacco
  • Chicago Gas
  • Distilling & Cattle Feeding
  • General Electric
  • Laclede Gas
  • National Lead
  • North American
  • Tennessee Coal & Iron
  • U.S. Leather Pfd.
  • U.S. Rubber
     GE was one of the original companies in the index. They were the only one still in the DJIA and… they were dropped. Given they were replaced by the Walgreens Boots Alliance exemplifies how non-industrial the index and our economy have become. GE leaving the Dow was more shocking to me than when GM was dropped in 2009.
     In a June 24 Op-Ed in the Wall Street Journal, General Electric’s Long Unwinding, Andy Kessler wrote that GE acted more like a hedge fund than an industrial corporation. I leave you with this quote from his piece:
[Per Welch CFO, Dennis Dammerman,] “We’re going to take these large gains and offset them with discretionary decisions, with restructurings.” I’ve seen it. I invested in technology companies only to see GE Capital come in and write big checks. It’s an old corporate accounting trick—some called it a honey pot, others a cookie jar. When the investments went public, GE could time the sale of stock for when it needed to book additional profits to make up for a shortfall elsewhere. Jeffrey Immelt took over as CEO at the end of 2001 and kept the Welch legacy going, growing assets at GE Capital to more than $500 billion for a globally expanding business of loans, leasing, factoring, equity finance and insurance.

Mr. Welch had a famous leadership lesson—be No. 1 or No. 2 in any business, or get out. Sadly, as a hedge fund, it was dead last. During the 2008-09 financial crisis, its honey pot was destroyed. GE even took $3 billion from Warren Buffett to meet short-term obligations. Mr. Immelt and GE have been unwinding this hedge fund ever since.

The Securities and Exchange Commission complained about GE accounting in 2009 and earlier this year. Once investors figured out the game, GE stock sold off—meaning its access to capital shrank. That’s what markets do.

No comments:

Post a Comment