General Electric (
is back. Its shares have more than doubled from the early 2009
swoon to near $16 and profits have begun to rebound.
Then again, maybe not. Shares never traded below $30 in the middle
part of the last decade, and now trade for just half that. And
that's understandable. Analysts think GE's revenue base will shrink
-2% this year and another -2% next year. In fact, annual sales are
roughly $30 billion lower than they were in 2008. The Jack Welch
era is an increasingly distant memory.
About 3,000 miles from GE's Connecticut headquarters sits another
Microsoft (Nasdaq: MSFT)
. The software titan can at least boast of moderate sales growth
this year and next, as it squeezes yet more
out of its legacy Windows operating systems. But investors are now
dubious of "Mister Softee" as well. Shares have lost half their
value in the last decade.
Both companies suffer from a pair of factors: An unwieldy mix of
disparate operating divisions, and leadership successors that have
proven no match for their predecessors.
But perhaps it's a bit unfair to blame GE's Jeff Immelt or
Microsoft's Steve Ballmer, as the decks may be stacked against
them. Both of these companies are simply too large to navigate in a
. The only solution is to carve them up into much smaller boats
that can more easily navigate the channel and avoid the shoals.
Both companies will tell investors that they derive a great deal of
synergies from their operations. GE's capital arm can finance a
large purchase of its railroad engines. And Microsoft's online
gaming division can be seamlessly incorporated with its MSN Live
home page. In reality, all of the divisions operating at these two
titans enjoy very few synergies. But to separate any divisions
would prove to be a time-consuming and distracting process, so the
companies simply muddle through, while rivals steadily take
GE has built five outstanding business segments, all of which hold
their own in downturns, and flourish in upturns. Its finance
division, which was much maligned a few years ago, is actually run
more responsibly than traditional Wall Street financiers. In the
economic downturn, the company took a hit on some consumer and real
estate exposure, but not nearly to the extent that rivals had. GE
Capital is now healthier, but somewhat hampered as management seeks
to stabilize results and avoid the wild profit swings that finance
arms often see.
In a similar vein, the Industrial segment continues to crank out
cutting-edge equipment and should be a key player in the global
move to boost energy efficiency and reduce fossil fuel dependence.
But it's a cyclical business and typically deserves a lower
multiple than true growth businesses.
Ironically, I thought Mr. Immelt had the right strategy when he
took the reins early this decade. At that time, he suggested that
GE shed slower-growth divisions and re-invest the proceeds in
faster-growing segments. Thus, GE Water and GE Healthcare were
To be sure, both of those segments have had growing pains, but
demographics tell it all. Clean water will likely be an
, and an aging global population will keep us consuming more health
care technology. Trouble is, those exciting divisions are shrouded
under a dowdy corporate umbrella, and would likely garner
ratios (and better returns for shareholders) if they were
While GE can credibly claim that at least some its woes are due to
the tepid global economy, Microsoft has no such excuse. Tech rivals
Apple (Nasdaq: AAPL), Google (Nasdaq: GOOG)
Cisco Systems (Nasdaq: CSCO)
all keep delivering exciting new products that yield more
impressive growth rates. Microsoft, in contrast, is known for
half-hearted attempts with its own MP3 players, smart phones and
tablets. Only the Xbox stands out as a clear winner for Microsoft
-- an exception to the rule.
Reports out of Microsoft often cite a stilted bureaucracy that can
stifle innovation. Yet innovation is what Microsoft -- and GE --
are known for. There's only one way to get that innovative spirit
back: de-conglomerate. Throughout the 1980's, companies such as
), United Technologies (
sold off non-core businesses, many of which went on to thrive as
In late July, Microsoft held a full-day seminar with the investment
community. Analysts generally applauded the company's efforts
- Capture a bigger share of the cloud computing environment
(which uses a wide range of networked computers in different
locales to enhance storage and increase processing power).
- Extend the reach of the Xbox gaming platform by rolling out a
fully-interactive system, known as Kinect.
- Try once again to be a relevant player in mobile phone
To underscore that investors will never fully appreciate
Microsoft while it is so large and disparate, the company posted
fairly impressive fiscal fourth quarter results on July 23rd, yet
shares have drifted a bit lower since then. In fact, Microsoft has
surged past profit forecasts by at least +10% in three of the last
four quarters, but shares have been generally unresponsive.
The recipe is simple. Methodically sell a few divisions of each
company, and saddle each of these spin-offs with a reasonable
amount of debt. Then re-invest some of the proceeds into the
remaining businesses to push them back to the forefront of
innovation. Following up on the examples of GE Water and GE
Healthcare, GE could use some money to start a new segment that has
high-growth opportunities and plays to GE's strengths. And all of
the rest of that cash? Long-suffering investors wouldn't mind a
that says, "thank you for all of your patience."
Sooner rather than later, the board of directors at these companies
may seek to make a leadership change. That would be a fine time to
re-assess these respective conglomerates. They may well find that
smaller is better.
Shares of Microsoft trade for less than 10 times projected (June)
2012 profits. The multiple is even lower when you exclude the
company's $38 billion net cash balance. Yet some of Microsoft's
divisions such as entertainment/devices (growing +27%
year-over-year) and its business division (+15% year-over-year
growth) would surely fetch a higher multiple than that. To simply
boost company-wide sales by +10% during the next year, as analysts
expect, is not enough to get the stock moving. Bolder action, such
as sending some fledgling divisions out of the nest is the more
likely path to a higher share price.
Action to Take -->
For existing investors in these companies, you can be assured that
these stocks represent strong value on a sum-of-the-parts basis, so
there's no reason to be a seller at these levels. For investors who
don't yet own these stocks, keep an eye out for any signs of
willingness to make major structural changes. Once the Street gets
wind of any intentions to unlock shareholder value more
aggressively, funds could flock to these names.
-- David Sterman
David Sterman started his career in equity research at Smith
Barney, culminating in a position as Senior Analyst covering
European banks. David has also served as Director of Research at
Individual Investor and a Managing Editor at TheStreet.com. Read
Disclosure: Neither David Sterman nor StreetAuthority, LLC hold
positions in any securities mentioned in this article.