April 10, 2015
Big Changes Announced This Morning by General Electric & Co. (GE) Today.
The company announced this morning that it will exit all of its stand alone financial services businesses by Year End 2018 via sales and/or spin-offs. This is a capital allocation decision and represents a dramatic reversal of the build-up of General Electric Capital Corp (GECC) into a non-bank finance behemoth during the Jack Welch years. Directionally, the move is unsurprising as the vulnerabilities exposed during the global financial crisis, and the financial regulations and investor discount imposed in subsequent years, have been a drag on returns. However, the dramatic and material move to exit the bulk of the GECC businesses is a surprise, notwithstanding GE’s willingness to engage in transformational activities over the years (those GECC units that directly support the industrial businesses will be retained; aircraft leasing, energy financial services, healthcare finance).
IMPORTANTLY, because of the way GE is structuring the exit, this will be a net credit positive for bondholders. The historic support mechanism between parent GE and GECC was an income maintenance agreement (IMA) and the repeated assurance that GECC was a core strategic business for consolidated GE (but no explicit guarantee). Concurrent with today’s announcement, GE has amended the IMA to fully guarantee all tradable senior and subordinate debt of GECC, as well as all outstanding commercial paper. The company also stated that they expect no new issuance out of GECC for at least five years. As a result, GECC net debt outstanding is expected to fall from around $275 billion currently to roughly $70 billion at Year End 2018. The combined fundamental (full guarantee) and technical (dwindling supply) supports meant that spreads should continue to tighten (15 basis points tighter today).
GECC bonds have performed well over the past several years, and tightened further today following the announcement. We expect that these bonds should continue to outperform given supportive technicals, and no immediate fundamental concerns. Although GE could ultimately lever the balance sheet in pursuit of more optimal shareholder returns, they appear to be focused on repaying debt, maintaining liquidity and pursuing only bolt-on acquisitions over the next several years (Alstom notwithstanding).
As a side note, S&P affirmed GE’s AA+ rating while Moody’s downgraded GE to A1 (equalizing it to the GECC rating).
N. Sebastian Bacchus, CFA
Vice President, Corporate Credit
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