Friday, March 20, 2009

GE's Disclosures In Perspective

When a large corporation feels compelled to make financial disclosures in addition to what is required of it, our interest is generally piqued. Thus began our journey into GE's 88 pages worth of disclosures related to GE Capital Corporation.

(Two side notes:
1) The pointless comments that are encircled by a cloud-like design: annoying.
2) Bullett point number one from the five point summary on page 84 reads "We Follow the Appropriate Accounting Guidelines". Great job.)

We found the disclosure, as a whole, to be relatively informative and feel that it probably answered many of the questions that investors have been wanting to know pertaining to the unit. For our part, we would like to look at GE's stress test results in conjunction with the relative quality of the Unit's mortgage and real estate portfolio.

From the looks of it, GE Capital is better positioned than the large commercial banks in terms of its exposure to the rapidly deteriorating commercial real estate market. First of all, of the Company's $81Billion commercial RE holdings, $33Billion is classified as "primarily 100% owned operating real estate". The debt holdings are slightly larger at $48Billion, consisting primarily of senior secured first positions, and well diversified across property types. In contrast, commercial banks poured money into CMBS saturated with office and retail properties, reaching an apex during the disaster vintage of 2007.

Despite these advantages, the Company still reported that, under "adverse" Fed economic assumptions, credit losses would equal $13.7Billion, and net income would be zero for the year. These assumptions involve US unemployment peaking at ~10%. We think this line of thinking should be labeled "optimistic". What then, can we infer regarding the liklihood of Banking Sector profitability for 2009? We understand that there are more problematic portions of GE's balance sheet such as consumer loans and Eastern European exposure. However, these issues exist across the board in the Banking Sector. What doesn't exist is the quality of the commercial portfolio described above, much less the accounting advantages GE enjoys as a "long term investor".

What should be noted, is that we have yet to see the results of the "stress tests" for the rest of the financial industry. For now, we will have to assume that this decision was made by the Authorities for fear of provoking some form of public alarm. In parting, please allow us to point out the glaring disparity between the latest disclosures from GE and Citigroup. While GE has provided investors with an 88 page document that forecasts earnings and credit losses based upon various economic assumptions, Citigroup has sent a one paragraph memo to its employees, claiming that profitability has returned.
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