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Skeletons keep tumbling out of General Electric Co.’s closet.

 

The industrial conglomerate on Tuesday said it would take a $6.2 billion after-tax charge in the fourth quarter related to shortfalls in a legacy insurance business within its GE Capital division. GE will also make statutory reserve contributions of $15 billion over seven years to help cover elevated claims.

The magnitude of the charges announced on Tuesday is a nasty surprise and a sharp rebuke to GE investors who had hoped the worst was behind the company. It’s been a near-constant onslaught of bad news, from the dramatic reduction in GE’s 2017 guidance in October, to the slashing of its dividend in November and now this.

(Related: 5 Notes on GE’s $15B in LTCI Reserve Contributions)

The latest insurance charge — related to holdover assets from a business GE divested between 2004 and 2006 — begs the question of whether more could still be coming. If the previous management could miss the challenges in the company’s power business, its cash-flow shortfalls and GE Capital liabilities, what else did they underestimate and at what point do shareholders decide to hold those departed executives accountable?

GE fell as much as 4.1% on Tuesday morning, erasing a decent chunk of its gains so far in 2018. While this latest batch of bad news is largely confined to GE Capital, details about the insurance charges have ramifications for the company’s broader challenges and turnaround efforts.

First, the company’s fourth-quarter charge will climb to $7.5 billion after taking into account the impact of new U.S. tax legislation and a 21% rate. GE is among the select few industrial companies for whom the Tax Cuts and Jobs Act could be more of a penalty than a benefit. The company’s consolidated effective tax rate was negative 5.1% in 2016. Additionally, while the forced repatriation of its undistributed foreign earnings may ultimately increase its financial flexibility, the company in the meantime is still looking at what Vertical Research Partners analyst Jeff Sprague sizes at an $8 billion tax liability. Even spread over eight years as allowed by the new law, this will be a meaningful draw on cash flow at a time when GE has very little to spare.

Along these lines, GE can’t borrow money from its industrial businesses right now to help plug the holes in these legacy insurance assets. The company is expecting between $6 billion and $7 billion in industrial free cash flow this year, although analysts say the real number is closer to zero if you account for pension liabilities and capital expenditures as other industrial companies would. As such, to help bring leverage at GE Capital down to the targeted level, GE will have to further shrink that business.

It’s planning on reducing its energy financial-services business to less than $5 billion of assets by 2019, down from about $10 billion now. Its industrial finance operations will be whittled down to about $15 billion of assets, from $26 billion currently, over the same time period. That risks being dilutive both to earnings and to the valuation prescribed to that business in any sum-of-the-parts analysis.

At the risk of sounding like a broken record, there is still a ways to go before GE becomes a company worthy of investors’ trust.

— For more columns from Bloomberg View, visit http://www.bloomberg.com/view.

 

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