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The Modern Conglomerate and GE
Why would you buy GE stock or the stock of any other international conglomerate? Isn’t it a better strategy to buy the best in class companies in all of the segments where the conglomerate operates? Buy the best gas turbine company stock, buy the best credit card company stock, buy the best medical devices company stock, buy the best insurance stock and so forth. In the end, you have a portfolio of stocks that represents the best in class in every segment where the conglomerate operates.
To think that owning GE, or any conglomerates stock, versus the best in class stock for each segment where the conglomerate operates implies that the conglomerate has advantages.
Is the differentiating factor simply related to size? i.e. Less corporate overhead per sales dollar; Critical or local resources more effectively shared among the businesses; Lower cost of capital due to the implied “safety” of a large organization; More influence over regulatory issues; Easier recruiting of critical talent; and so forth.
Is the modern conglomerate a collection of businesses where the differentiating factor is the central organizations processes? This is the argument that processes for selecting and managing lines of business do provide an advantage. The argument includes the line of thinking that best practices of one unit are shared across the business to provide an advantage.
Is technology a differentiating factor? This is the argument that technology centrally developed could be used across many different lines of business. This is certainly the case in GE for jet engines and gas turbines used in power generation.
Is the ability to assemble a group of businesses that are countercyclical a differentiating factor? It can provide the ability to deliver consistent sales, income, cash and dividend performance.
Is the differentiating factor the idea that the modern conglomerate allocates resources more efficiently than stand-alone businesses? The idea that the management team can more effectively manage the money flows from cash generators to cash consumers, so todays cash consumers can become tomorrow’s cash generators.
Are there other classes of advantages? Is the advantage all of the above?
I have been watching the GE stock price take a beating in the past year. Analysts call for divestitures of different business units. Some call for dismantling GE. They view GE corporate as a portfolio manager that does not provide additional value.
When I think back to Jack Welch’s time managing GE, the stock price soared. The company had lots of lines of business. Many of them totally unrelated. After all, what is the synergy between credit cards and gas turbines? What is the synergy between insurance and NBC? There was no, or at best, little synergy among many of the major lines of business. Additionally, many of the businesses were not the leaders in their segments. In fact, part of Jacks articulated strategy was for the lines of business to be #1, #2 or #3 in their segments. There was never the mandate for all the business to be number one.
GE at that time certainly tried to capitalize on the advantages listed above: Technology, Scale, Process, Resource Allocation, Capital Cost, Reliable Cash Generation and Dividend, etc.
I believe that there was one additional not so secret sauce. GE had a portfolio of industrial business that was a reliable cash generator. They had enough counter cyclical components. They did not have to be the best in class in every category because it is good enough to be in the top 3 if your objective is cash generation. This cash could reliably fund highly profitable financial businesses.
This not so secret sauce was what you could not get by buying individual best in class stocks. Having the best in class industrial company does not guarantee that cash flows to a highly profitable financial operation.
I left GE some time ago, and I do not do any work for the company today. One thing I wish the present management team would do is be more vocal about the benefits of GE beyond portfolio management. Define which benefits are being targeted, how they are measured and the actual performance. My opinion is that greater communication on this topic might help with the analysists that cover GE.
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