It would have been considered a turbulent stretch for any company, but the recent fall of General Electric has struck many as especially unsettling. The venerable multinational firm is experiencing a cash crunch, has seen the evaporation of more than $100 billion in market value over the past year, and recently cut its dividend for only the second time since the Great Depression. “Downright staggering,” is how one analyst quoted in a December Barron’s article described GE’s stock decline of more than 40% in a year when its Dow Jones brethren added 25% in value.
The article’s headline asked the question on the mind of many: “General Electric: Where’s the bottom?”
Poor timing has something to do with GE’s troubles, says Wharton emeritus management professor Marshall W. Meyer, noting its move into energy as the sector has slumped. But GE’s woes also beg a larger question, he says. “GE is the last of the conglomerates, and there’s a large literature that frowns on unrelated diversification,” he says. “There was a while when we applauded the conglomerates, that goes back to the 1970s. But they’ve almost all dropped away and — surprise — the last one runs into trouble. And so, what business are you in?
It’s a question the company, with new leadership now in place, is asking itself. John L. Flannery took over as CEO a few months ago with the tall order of restoring stability and growth following the controversial leadership of Jeffrey Immelt, who defended his more than decade-and-half tenure in a Harvard Business Review essay as “one of progress versus perfection. The outcomes of my decisions will play out over decades, but we never feared taking big steps to create long-term value.”
“It’s a fascinating case,” says Wharton management professor John R. Kimberly, “with lots of questions about [Immelt’s] approach to transformation, his beliefs about the importance of personal fortitude, and, ultimately, about the viability of the hugely complicated organizational entity that GE has become in a world that is changing so fast. The notion that GE can ‘pivot,’ for example, seems a stretch at best.”
“The notion that GE can ‘pivot’ seems a stretch at best.” –John R. Kimberly
So jarring have the events of the past few years been that many wonder whether General Electric’s best days are behind it. Says Meyer: “At some point, there is a question of whether the breakup value is larger than the share price, and someone comes along and separates out the pieces and sells them off or keeps them. There are a lot of assets in the company — the jet-engine business, the power business, the medical business. These are the core businesses, and they basically look pretty good in the long run, so there is value there. But how they grow the organization to realize the value is another issue entirely. Here’s my worry. The focus on bottom-line metrics, on short-term value for the shareholder, can’t be good for long-term health for the business. It’s an old story.”
Wharton emeritus professor George Day, who has consulted with GE in the past, is “as shocked as anyone to see the collapse of the stock price recently,” but beyond the short-term problems, which he says are serious, there is cause to be bullish. “I think the more interesting story is about their prospects for the future. [Because it is] such a complex and diversified firm, most people struggle to really understand GE. There’s always been a diversification discount to their share price they’ve long wrestled with. My sense is that it’s going to be a slow turnaround. They’ve probably hit close to the bottom now, and I would argue that there is significant upside from what they have already put in place.”
Day adds: “It goes back to the question that people have struggled with as they try to understand GE, which is: what is the glue that keeps the pieces together? How much added value is there to combining rather than separating the pieces?”
GE is now looking at that question. Just in the past few days, breaking up one of America’s oldest and most widely admired conglomerates has emerged as a distinct possibility as Flannery himself has signaled it as an option.
Leadership and ‘the Heavy Lift’
“No one likes to look at their stock price go down and say, ‘I feel good about that.’ It goes without saying,” said Flannery on CNBC in November, just after taking over GE. “But there’s a lot of pent-up energy and desire for redemption and improvement, so my job is to channel that as a leader. And obviously, people look at how I feel about the prospects ahead, and I recognize the heavy lift, but I feel great about the prospects.”
“The focus on bottom-line metrics, on short-term value for the shareholder, can’t be good for long-term health for the business. It’s an old story.” –Marshall W. Meyer
On leadership, Kimberly says it is easy to catalogue the negatives — a “stock price way down, dividend slashed by 50%, the usual press frenzy when a visible CEO exits under duress, etc.” But he points out that it is also important to remember the macro forces Immelt encountered, and how they differed from those encountered by his superstar predecessor, Jack Welch.
“I’ve always believed that while leaders certainly make a difference – and frequently a substantial difference – in how and why firms performs as they do, there is a tendency to over-attribute outcomes to their impact,” says Kimberly. “Given that it is much easier – and more newsworthy – to focus on what leaders say and how they manage their public face than to ask the larger questions; and given that answers to the larger questions are often not immediately available or only become evident long after the fact, this is not surprising.
“None of this is to suggest that GE under Immelt was a high performer and that the negative press that surrounded the announcement of his exit from the CEO position was undeserved,” Kimberly continues. “But it is to suggest that both his critics and his supporters are partly right. It is a fact – assuming that facts still matter – that GE’s financial performance on Immelt’s watch was disappointing, to say the least.
And it is a fact that GE has invested heavily in attempting to transform itself into an enterprise designed to thrive in the 21st century, with all that that implies. Will the transformative bets pay off? How will John Flannery reconfigure what Immelt started? And then, ultimately, how will his legacy be viewed? That will depend largely on who you ask and when, because the payoffs from transformation won’t be visible any time soon.”
“What is the glue that keeps the pieces together? How much added value is there to combining rather than separating the pieces?” –George Day
Could the right leadership have averted some of the missteps of recent years? There is no shortage of rueful decisions and deferred maintenance – matters that have enormous consequences for GE’s nearly 300,000 employees, hundreds of thousands of retirees and millions of shareholders. GE began to fall behind on its pension obligation after the recession, and by the end of 2016 had run up a shortfall of $31.1 billion — the biggest shortfall among S&P companies, according to a Bloomberg analysis. To meet its pension obligation in 2018, the company plans to take out $6 billion in debt.
GE’s decision in 2015 to buy the power business of Alstom, maker of coal-fueled turbines for power plants, is now seen as badly timed and, with a $9.5 billion price tag, a conspicuous case of overpaying. “If we could go back in the time machine today, we would pay a substantially lower price than we did,” Flannery told CNBC.
Day says the question of the company’s lack of focus became a pressing issue when they had lines as disparate as NBC and major appliances, “which did not fit well at all. And then GE Capital kind of swallowed the company.” After a review of GE Capital, the company recently decided to take a $6.2 billion charge on the finance unit.
Flannery plans to sell off, over the next year or two, about $20 billion in assets, including GE’s lighting division. That act, more than any other, telegraphs a willingness to forfeit pride of legacy for new frontiers. It means the company that traces its roots to Thomas Edison would no longer sell light bulbs.
Evolving the Culture
Once widely admired for its ability to “bring good ideas to life,” General Electric under Immelt started calling itself “a 125-year-old start-up … a digital industrial company that’s defining the future of the Internet of Things.” Some believe that the new corporate aphorism is becoming more than just an expression of aspiration. But change requires a cultural shift, and Meyer says the sale of GE Appliances to Chinese manufacturer Haier in 2016 (for $5.6 billion) has been instructive about what is needed.
“[In] the era of the Internet you move quickly or get left behind, and there is a question of whether the GE culture — which was so fabulous two decades ago — fits the new era.” –Marshall W. Meyer
“GE culture is known world-wide as the model of methodical operations as well as methodical personnel management, but Haier buys it and their management system is very different,” says Meyer, who has studied Haier for nearly two decades. “They cobbled together a Chinese term, rendanheyi, which means either people- or customer-integration, the basic idea being that anyone who makes anything has to have a direct line of sight to the customer. There are two mantras – one is zero distance to the customer, and the other is compensation as a function of the value created for the user – Haier calls it pay by user. Now, GE is very methodical and process-oriented, while the new model is almost the opposite, because it demands speed, it demands agility, it’s comfortable with experimentation, with entrepreneurial ventures.
“From the Haier perspective, in the era of the Internet you move quickly or get left behind, and there is a question of whether the GE culture — which was so fabulous two decades ago — fits the new era,” Meyer notes. “I very much hope it can.”
Flannery says the new era at GE will focus on three lines of business: energy, aviation and medical technology. In fact, there is quite a bit of connective tissue GE brings to these disparate businesses, says Day. “The first one is a long-term willingness to invest in talent development, particularly executive talent development. They’ve always had a pretty deep bench. The second one is a strong problem-solving culture. Third, they have rigorous financial controls supporting a strong focus on earnings. The fourth one is to me the big long-run play, which is for at least five years they have focused on using digital technologies to integrate and extend the complex systems in their core businesses. As a glue it means that they can take everything from big data and data analytics, to the Internet of Things, to AI and blockchains, and deploy them for complex business solutions, which I think is an exciting long-run opportunity.”
GE, for instance, has recently upped its ownership in Arcam AB, a Swedish 3D printing company, from 77% to 95%. The move, combined with the acquisition of another European 3D printing firm, will support a number of GE businesses, including its jet-engine manufacturing business. A decade’s worth of research and development appears to be on the verge of paying off for GE Aviation. A new GE Advanced Turboprop (ATP) engine has been produced using 35% 3D-printed and related techniques, reducing 855 components to just 12, making it lighter and more fuel-efficient. The engine completed its first-run testing in Prague in December.
Day see the potential for GE to become a leader in digitally integrated systems – scenarios in which “they can put together hardware with software and build deep relationships with customers and provide the financing, and then offer risk-sharing. Customers love it when you can figure out a way to share some of their operating risks,” he says.
“There’s a big talent war going on out there. But I think in large systems, GE stands a good chance of winning the talent war.” –George Day
“Think of power-by-the-hour for aircraft engines – they shifted from a purchase-lease to a pay-for-what-you-use business model. I think you’ll see that in some of their other businesses. Why couldn’t you, for example, in medical imaging systems have a model where customers pay only for the images that they take? You’ve got these digital capabilities on hand, and they’ve invested a lot in creating these capabilities in Silicon Valley. It is getting harder to find the scarce talent you need to do a digital deployment, because there are not that many people good with AI or big data analytics. There’s a big talent war going on out there. But I think in large systems, GE stands a good chance of winning the talent war. As immigration shuts its doors from talented people outside, GE can go to a number of facilities in Canada, in Europe and Asia. They have a global advantage.”
Day continues: “I can’t think of another company as well positioned to participate in the big Internet of Things, to create digitally integrated solutions across as many sectors and the ability to share their learnings. While they are pretty focused on quarterly earnings, they also famously want to play in the long-run – and have to, given the scale of investments they have to make, which raises the barrier of entry for others.”
While GE’s latest quarterly earnings report didn’t surprise analysts — it had a $9.8 billion loss in the last quarter — the company also disclosed that it is facing an S.E.C. accounting inquiry into its insurance business. General Electric faces “very difficult short-term problems,” Day concedes. But those eventually will be fixed. “Over the long term, many of the pieces appear to be in place.”
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