How Larry Culp Saved GE by Breaking It Up
General Electric will soon be no more, but shares of the three new companies look attractive.
By Al Root
General Electric is nearing the end of its five-year journey back from the brink.
For investors, a looming corporate breakup is only the beginning.
The future looked bleak for GE in October 2018.
John Flannery had just been removed as CEO after a year at the helm.
Profitability was declining.
GE Capital was losing money.
The acquisition of Alstom’s power business had proven disastrous.
And investors were forced to sift through dozens of pages of disclosures to gain a coherent picture of the company’s financial condition.
Worse still, its massive debt load—some $112 billion, excluding cash and insurance liabilities—was growing more unwieldy as free cash flow deteriorated, resulting in downgrades from the major credit-rating firms and a slashing of its dividend to a penny per quarter.
By the end of the year, GE stock had fallen 80% from its 2000 peak and was trading for less than it had during the depths of the financial crisis in 2009.
Into this mess stepped Larry Culp, the retired CEO of Danaher.
Culp had joined GE’s board in April 2018, but now, five months later, he was being asked to do the seemingly impossible—save General Electric, the company founded by Thomas Edison in 1892.
Culp immediately set about selling businesses and paying down debt, before announcing in 2021 that GE would split into three separate companies.
So far the breakup plan is working brilliantly. Since the early 2023 spinoff of GE HealthCare Technologies, which makes medical imaging products, shares of General Electric have gained about 120%, while GE HealthCare has gained 50%.
Both have outperformed the S&P 500S index, which has advanced 30% over the same span.
The final move is due on April 2, with General Electric splitting itself into two.
The parent company will be renamed GE Aerospace, and will be a maker of airplane engines; and the power business will be spun off and named GE Vernova.
Shareholders will receive one GE Vernova share for every four GE shares.
Buying General Electric stock ahead of that split could well pay off handsomely.
There’s a strong case that the two new stocks together will be worth more than the existing shares.
Expect to hear more on that when GE management makes the cases for the new companies during its investor days on March 6 and 7.
The truth is, all three of the new companies will be dominant players in their respective industries and, remarkably, all three will have investment-grade credit ratings.
“With Culp’s visionary guidance, GE began one of the most amazing turnarounds I’ve ever seen,” says Jim Osman, founder of the Edge, which provides research and recommendations about special situations such as corporate breakups and spinoffs.
Getting here hasn’t been easy. GE was a darling of the 1980s and 1990s, at one point becoming the world’s most valuable company.
By 2000, it was worth some $600 billion, but cracks were appearing, such as a growing reliance on financial earnings.
The expansion of GE Capital, whose assets peaked at more than $600 billion in 2008, happened just in time for the 2008-09 financial crisis, and its problems didn’t end there.
“I recall not sleeping a lot,” says Culp about his early days as CEO.
“There was just so much to do, so much to learn.”
Fixing GE also has meant a smaller GE.
Culp aggressively sold off assets to pay down debt.
GE’s biopharma business was offloaded to Danaher for $21 billion in March 2020.
GE’s aircraft leasing business was sold to AerCap Holdings in 2021 for $30 billion.
GE also exited its transportation business, merging it with Wabtec in 2019, while a lighting unit was sold in 2020.
GE exited energy services, and GE Capital is no more—the unit has been effectively shut down.
The results have been impressive.
GE has repaid some $100 billion in debt since the end of 2018, bringing its debt load down to just $21 billion.
What’s more, free cash flow, which had dropped from $5.6 billion in 2017 to $2.3 billion in 2019, has started growing again: GE generated $5.2 billion in 2023 and should produce more than $6 billion in 2024.
The free cash won’t accrue to General Electric, at least not as we once knew it.
Instead, it will go to the two new companies, while all three will bear the GE logo.
GE HealthCare, which has some 50,000 workers, is already independent.
It generated 2023 sales of $19.6 billion, up 7% year over year, and operating profit of $3 billion, up $100 million.
The stock, at a recent $91.92, has been a winner since it started trading on a when-issued basis in 2022 and since Barron’s recommended it in March 2023.
GE’s LEAP engine. COURTESY OF GEGE Aerospace, though, is the crown jewel.
Three-quarters of new single-aisle jets made by Boeing and Airbus carry GE engines, and they’re also found on twin-aisle jetliners like the 787 Dreamliner and jet fighters like the F-18 Hornet.
In total, there are more than 40,000 GE engines in commercial airliners and 26,000 in military aircraft.
The aerospace business shows no signs of slowing down.
Global air travel has nearly returned to prepandemic levels, and growth will require new planes.
Both Boeing and Airbus expect the global airline fleet to grow to some 50,000 planes over the coming 20 years, up from about 25,000 today.
GE’s aerospace sales and orders both grew about 22% in 2023 compared with 2022.
What’s more, every engine GE sells needs to be serviced and cared for.
That aftermarket business accounted for 70% of Aerospace’s $32 billion in sales in 2023, and is more profitable than selling new equipment.
Wall Street expects operating profit margins to expand by about two percentage points over the coming few years, up from about 19% in 2023, as new engines start to hit the shop for scheduled maintenance.
That business should help Ebitda, or earnings before interest, taxes, depreciation, and amortization, hit about $8 billion in 2024, up from $7.2 billion in 2023; it could reach $9 billion in 2025.
“Phenomenally strong aftermarket franchise,” says RBC analyst Ken Herbert. “Massive upside on the horizon.”
Aerospace is so strong that it accounts for most of General Electric’s current value.
While it could be compared with RTX, which makes jet engines, flight controls, and a host of defense products, and trades for 12 times Ebitda, or Safran, a GE partner on the single-aisle jet engines, which trades for about 16 times, a better multiple might be that of aftermarket parts supplier TransDigm Group, which changes hands at 18 times.
Herbert argues that’s the valuation GE Aerospace deserves, which implies a value of about $160 billion based on Ebitda estimates for the coming two years, or about $140 of current General Electric’s share price.
With GE shares trading at $155, that leaves about $15 for GE Vernova.
That could significantly undervalue the company.
Vernova didn’t earn a profit in 2023—it reported a bottom-line loss of $540 million—and likely won’t again in 2024.
Still, that’s an improvement.
In 2018, when Scott Strazik took over the power unit, it posted sales of some $27 billion and an operating loss of more than $800 million.
Operating profit margins improved from minus 3% to about 8% in 2023, as the company exited coal businesses.
The big issue at Vernova has been its wind business.
While Vernova’s power and electrification businesses turn a profit, the renewable-power group, which builds turbines for giant windmills, is losing between $300 million to $400 million a quarter.
The wind business hasn’t been great for anyone.
Vestas Wind Systems (VWS.Denmark) posted single-digit Ebitda margins in 2023 after losing money in 2022.
Inflation and fixed-price contracts, combined with fluctuating energy prices, have made the wind business tough in recent years.
“In theory, [wind] is a business that long ago should have reached some kind of acceptable level of profit margins,” says Neuberger Berman portfolio manager Evelyn Chow.
That hasn’t happened.
What’s worse, the new turbines tend to come with a host of warranty issues as well.
Vernova, though, is more than just wind.
Heading into the investor event, management has provided more financial details, including the fact that it will report in three segments instead of two: renewable wind power, gas power turbines, and the new grid business, which includes transformers, software, and other products for utilities.
Solving for wind should be a big part of the event—cost-cutting and product rationalization are likely to be part of the turnaround strategy—but so should the strength in the other two segments.
In 2023, Vernova’s total sales came in at $33.2 billion, up about 11% from 2022.
The gas-turbine power business generated sales of about $17.4 billion, for Ebitda of $1.7 billion, while the grid business notched $6.4 billion in sales and Ebitda of about $230 million.
While wind had revenue of $9.8 billion, it produced an Ebitda loss of $1 billion, though that was an improvement from 2022’s negative $1.7 billion.
Finding the right comparisons isn’t easy. Tokyo-based Mitsubishi Heavy Industries (7011.Japan) makes natural-gas-powered turbines, just like Vernova, but it also builds carbon capture, hydrogen projects, and warehouses, and its sales have been flat for the past five years.
It currently trades at 11 times Ebitda.
Paris-based Schneider Electric (SU.France) makes transformers and software for the grid, and trades at 16 times.
Siemens Energy (ENR.Germany), which has a wind, gas, and grid business similar to Vernova’s, trades at just five times.
Haliade 150-6MW offshore wind turbines at Block Island Offshore Wind Farm, Rhode Island. REUBEN WU/GEMashing up those three stocks can yield a valuation for Vernova anywhere between $20 billion to $50 billion.
One way to gauge early trading in the stock is to think of anything near the low end of that range as a good deal and near the high end as fully valued.
Another option is to think about the story Vernova will try to tell—that of an American company building big machines, focused on improving profit margins while growing its service and aftermarket business.
That’s not unlike the stories other cyclical manufacturers tell, whether the cream of the crop like Deere and Caterpillar or stragglers like Ford Motor.
The main difference is the operating margins they’re able to produce—17% for the former group and closer to 6% for the latter.
Those differences show up in valuations as well, with Deere and Caterpillar fetching between 12 and 18 times Ebitda, depending on where they are in the cycle, and a range of eight to 12 for the less-profitable, slower growing, companies.
Vernova won’t be at the top, but should grow faster than companies at the bottom.
Putting a multiple of 10 times on expected 2025 Ebitda of $3 billion would yield $30 billion, and adding in Vernova’s expected cash balance of $4.2 billion would give a market value of around $34 billion, or about $31 a GE share.
Continued improvement in wind combined with more demand for wind power could lead to even better margins—and perhaps a higher valuation.
“The future outlook is good,” says the Edge’s Osman.
“Vernova will emerge as a stronger and more focused energy player in the upcoming years.”
Osman is a fan of holding GE stock into the spinoff, which should be completed early in the second quarter, and then owning both Aerospace and Vernova.
Though there won’t be a company calling itself General Electric for the first time since it was incorporated more than 130 years ago, the results should speak for themselves.
A couple of years of improving margins at Vernova and continued strength at GE Aerospace could make the combined companies worth $200, up 30% from the current $154.
“We feel pretty good about [the breakup],” Culp says.
“I’m pretty sure Thomas Edison is looking down and saying this is the right thing.”
The financial markets certainly are.
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