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GE Or IBM: Which Turnaround Stock Is The Better Value Right Now?

By (Haris Anwer/ MarketsJun 11, 2018 05:30
GE Or IBM: Which Turnaround Stock Is The Better Value Right Now?
By (Haris Anwer/   |  Jun 11, 2018 05:30
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General Electric (NYSE:GE) and International Business Machines (NYSE:NYSE:IBM), the US's two centenarian giants, founded in 1892 and 1911 respectively, are each in the middle of a long and painful turnaround.

The challenges they both face, though unique to each, are complex, with no immediate reversal in sight. For contrarian investors, buying these two stocks now may morph into a canny, profitable bet if either of these once-great, multinational behemoths can successfully restructure their businesses and return to sustainable profitability.

There's a long road ahead for each company and no guarantee that they'll ultimately succeed. Is either stock worth adding to your portfolio? And is one any better than the other?

General Electric

Boston-based GE, the 125-year-old industrial conglomerate that produces light bulbs, jet engines and gas turbines among other things, is fighting on many fronts to restore its growth and preserve cash after demand for its key products, such as power plants and locomotives, weakened.

GE Weekly 2015-2018
GE Weekly 2015-2018

Indeed, GE's current cash-crunch is so acute that management was forced to slash the company's dividend by half this past November, only the second time this has happened since the Great Depression. While management works on its turnaround plan, with the goal of trimming its industrial empire and bolstering GE's balance sheet, the investor community remains skeptical.

JPMorgan Chase analyst Stephen Tusa, one of GE's most vocal critics, sees more pain ahead for the company and the real possibility of another dividend cut. In one of his recent reports, he outlined a case whereby General Electric will need a minimum $30 billion of capital to improve its credit profile. He says GE should sell its 63% stake in Baker Hughes (NYSE:BHGE) and cut its dividend to achieve a meaningful reduction in debt load.

According to RBC Capital Markets analyst Deane Dray, GE’s cash position has worsened this year because of a weaker market for its power equipment and the funding of reserves required for its troubled insurance portfolio.

These negative sentiments have weighed on GE shares, sending them tumbling. They lost half of their value during the past year, wiping out about $120 billion from the company's market capitalization.

The biggest challenge for anyone considering future investment in GE is figuring out whether the worst is over for this giant, and if the timing is opportune for a contrarian position. As Warren Buffett has famously said, the best time to be greedy is when others are fearful.

International Business Machines

This tech giant has been stuck in the mud during the last five years as it struggles to break with its past, at a time when the rapidly changing technology landscape and shifting consumer preferences have rendered many of IBM’s traditional hardware and software products useless.

IBM Weekly 2015-2018
IBM Weekly 2015-2018

The company’s failure to catch up to new technologies has cost Big Blue's loyal investors heavily. At a time when more efficient, leaner and increasingly innovative Silicon Valley firms delivered triple-digit gains, IBM's revenue growth stalled.

IBM shares during the past five years lost 30% of their value, prompting the world’s most successful value investor, Warren Buffett, to exit this trade almost completely in the fourth quarter of 2017. His firm, Berkshire Hathaway (NYSE:BRKa), had plowed more than $10 billion into the company in 2011, betting on its turnaround. This past May, Buffett revealed that he'd subsequently sold his remaining stake in IBM and no longer holds any shares of the stock.

To reverse IBM's sales slide, Chief Executive Officer Ginni Rometty is focusing on the latest technologies—such as cloud computing and artificial intelligence—to drive growth. During this transformation, IBM exited some markets, invested in cloud data centers and bought a number of companies to boost sales, bolster technology offerings and add troves of data to help train artificial intelligence (AI) algorithms. Still, those investments have yet to pay off.

In the first quarter, after adjusting for currency fluctuations, revenue was still flat, while margins slipped 0.6 percentage points to 43.2%. Earlier this year, Chief Financial Officer James Kavanaugh said margins would stabilize “immediately” in the first quarter. Growth in the cloud business was 14% in the first quarter, lower than the 2017 average of 24%, raising doubts about IBM’s hybrid cloud strategy.

Which Stock Is the Better Bet?

For contrarians, both GE and IBM offer an interesting, albeit different risk-reward proposition.

The biggest threat for GE stock is the possibility of an additional dividend cut, something management isn’t ruling out. Should this happen, it’s a much better strategy to remain on the sidelines and let things play out.

If during the remaining portion of the year the company is successful at generating enough cash through its asset sales and restructuring, it will be a very positive signal, suggesting this stock has bottomed out and is likely headed back up.

IBM, on the other hand, already has all it takes to turn things around and withstand market volatility. Though it's certainly not going to be the company it once was back in the 80s and early 90s, it’s still on the right track. Even more heartening, its management has already figured out where it has to go.

I’m very bullish on IBM's transition to the cloud and artificial intelligence businesses. Those changes could propel the stock going forward.

With its price-to-earning multiple of 23.82, IBM is significantly cheaper than some of its cloud computing peers (think Amazon (NASDAQ:AMZN) and Google (NASDAQ:GOOGL), for example), making it one of the best turnaround bets in the technology space.

GE Or IBM: Which Turnaround Stock Is The Better Value Right Now?

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GE Or IBM: Which Turnaround Stock Is The Better Value Right Now?

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Brad Smith
Brad Smith Jun 11, 2018 15:00
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Thanks for this thought provoking piece Haris. IBM has made a number of attempts to focus on cutting edge tech with limited success. In terms of risk reward however, IBM still looks better positioned than GE.
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