It All Comes Down to Trust for General Electric Stock

Stocks to sell

The past year has been a bumpy one for General Electric (NYSE:GE) stock, and the roller coaster looks to be far from over.

General Electric stock  has suffered due to ongoing concerns about its financial stability and a global push to reduce reliance on fossil fuels. However, things went from bad to worse for GE stock this summer when accusations that the firm’s accounting practices weren’t up to snuff took the share price 20% lower in just a few days. Since that time,  GE stock price has recovered,  but many are bracing for another drop. 

Accounting Scandal

A big part of the risk surrounding General Electric stock right now is the possibility that the allegations of accounting fraud against GE will prove to be true. Harry Markopolos, who blew the whistle on Bernie Madoff and his Ponzi Scheme, said in August that GE has been fudging its numbers. He thinks the company’s  accounting fraud scandal  is “bigger than Enron.”

Of course, if Markopolos is correct, General Electric stock is headed straight to zero. Markopolos’ accusations stem from GE’s accounting for its long-term care insurance business. He says that the figures reported to insurance regulators are different from those on GE’s financial statements. The two amounts shouldn’t match as they are calculated using different accounting standards, but Markopolos says the gap between the two figures is too large.

GE management fired back at Markopoplos, saying his accusations were an attempt to manipulate the market for his own gain. A hedge fund paid Markopolos a percentage of the profits that it made by shorting General Electric stock in the wake of his allegations. 

Other Issues

While the fraud allegations are serious, it’s important to note that there’s more going on at GE that should raise red flags for investors. General Electric stock is bogged down by a massive debt pile worth $90 billion. On top of that, the firm’s insurance arm is struggling to support its long-term care plans which are only getting more expensive as time goes on. Management says it will need an additional $15 billion to cover its future insurance claims, a financial goal that won’t be easy to meet.

On the plus side, management has been working to pay down its debt through asset sales, and some are hopeful about the company’s Power business. William Blair analyst Nicholas Heymann pointed to new CEO Larry Culp’s leadership as a reason to believe in the potential of General Electric stock. Heymann said that Culp has made Power’s executives more accountable which has made its forward strategy more streamlined and effective.

He thinks General Electric stock is worth $14 to $16 per share– roughly 40% above where GE stock price is today. 

Is It Possible?

The bottom line on GE stock depends on whom you trust. Quite frankly the “accounting scandal” uncovered by Markopolos doesn’t hold much water with me because of the surrounding details and the fact that other experts say the accounting practices used by GE are sound.  However, that doesn’t make me a General Electric stock bull. 

Right now I think a turnaround at GE looks very unlikely. Unless the firm is able to completely separate itself from GE Capital and its expensive long-term-care plans, the other areas of its business won’t be able to thrive no matter how well they’re run. The crushing debt that GE is working to pay down will be a drag on the firm for the foreseeable future, hurting General Electric’s ability to compete and grow its business.

Of course, if you’re a believer in Culp and his vision, now would be an excellent time to buy GE stock. Investors are still questioning whether an accounting scandal will take the company down completely, and bears are pessimistic about the firm’s debt reduction plans. If the firm is able to turn a profit in the next few quarters, General Electric stock would jump meaningfully, and investors who were willing to take on the risk would be rewarded.

Still, I think there are better value plays out there, and GE’s massive debt obligations are enough to keep me on the sidelines. 

As of this writing, Laura Hoy did not hold a position in any of the aforementioned securities.

 

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