Robert

Thank you for posting your SSG for GE.  I have two questions.

1) GE in years past has seen a significant source of its growth coming from GE Capital.  With the current uncertainty in the financial markets and the likely prospect of new rules from the congress to avoid future situations that we are now going through I would expect controls such as limiting the amount of leverage to be used or in other words increased equity.  This of course means lower profits and slower growth.  It is not clear if the $556B of debt ($55 per common share) carried by GE has any significant amount of toxic debt held by many financial firms. So my question is how did you consider the strength of the GE balance sheet and the impact of the future of GE Capital upon the GE SSG?

2) You have utilized a growth rate of 5% and a high PE Ratio of 20.  If your growth estimate is correct  how did you arrive at a future PE Ratio of 20?  Or as the Toolkit 6 Audit reports says Do you want to use a PEG Ratio of greater than 150%?

Dan Hess

Martin

GE is a large complex company and can not be analyzed similarly to a pure manufacturig type company.  A large part of GE is associated with their finance business, namely GE Capital.  With a financial company it is not only common but prudent to have increased leverage (equity to loan ratios) and thus higher debt to capital ratios than would be found in a typical non financial company.  This does make the analysis more difficult since you really need to look at GE as two (at least two) companies and then make a judgment on their combined businesses. 

For many years the finance part of GE provided the bulk of their growth and the proifits.  This has changed recently and in fact GE is now one of the financial companies elgible to receive part of the $700B bailout money (TARP) from the government. This suggests to me an investor needs to understand this part of their business and their exposure to any bad loans.

On the positive side most bank type financial companies are leveraged about 10 to 1.  I have not checked GE Capital lately but I recall they were more conservatively leveraged at about 6 to 1.

This has become a hot topic recently with the media highlighting the problems of financial firms brought about by their holding of mortgages of lower quality and declining home values.  This is an important area but in my view has been blown out of proportion to the risk involved creating some great opportunities in firms that were not overly greedy and dd not take excessive risk.  Some may even be safe investments for your mother in laws money.

Dan

Thank you Robert for posting your thoughtful update on GE.  I printed this discussion earlier this week and I am only now catching up.  I came back to respond to Martin's remark about debt, but I see Dan already did that. 

A simpler way of putting it is, a typical manufacturing company's profits come from the difference between sales and the cost of goods sold.  That means raw materials and labor.  Financial companies are different, in that, their "raw material" is money which they usually borrow.  So their "cost of goods" component includes some additional calculations.  It's the difference between the cost of borrowing that money and the interest they make off loaning that money - minus a small percentage that is set aside for "loan loss" a little insurance policy all banks are required to set aside for bad loans.  So unlike a non-financial company, the debt incurred is not all for business development, but for resale. 

If you use the new sector/industry analyzer, you will find that GE's debt to capital is slightly below the average for money center banks. But unlike money center banks,  GE has enough assets (1.9:1 right now) to cover the interest on their debt 31 times over (per Reuters).  In other words, they have such a strong equity position, they could easily ride out any storm.  That's not to say it won't be a little painful.  But I have no doubt this too shall pass.  Understanding financials is key to knowing which ones to invest in.

All that said, I own GE personally and so does my club.  Per the conference call, GE is guiding 5% annually for long-term sales growth, and I concur with Robert on a more realistic 8% for EPS.  Considering they are paying 6.4% while we wait for them to resume their growth, that puts us nearly our desired potential return.

You've heard Cramer, Buffett, and all the other notable long-term investors tell us that when you can smell the fear, it's time to go shopping!  Our GE is down 55% and our NOV is down 82%.  We are positively giddy over adding to NOV, and we will await the turnaround before we POUNCE on more GE. 

I'm attaching the latest quarterly report from Sheryl, our stock watcher. 

Lynn Ostrem