(Bloomberg) -- When Larry Culp took the reins at General Electric Co. late last year, the storied conglomerate was mired in one of its worst slumps. Less than six months later, the challenges are still immense but a turnaround is gaining steam. Culp, the first outsider ever to run the maker of jet engines and gas turbines, has wasted little time tackling debt, reshaping the portfolio and trying to put the balance sheet back in order. There’s still a long way to go, and the chief executive officer himself says this year won’t be pretty. But with a restructuring of the reeling power unit in progress and Culp’s pledge to boost cash flow in each of the next two years, investors are taking a fresh look at the company.
Culp sat down with Bloomberg’s David Westin to discuss just how tough 2019 will be as a “reset year,” why he’s optimistic about the future and when he thinks GE might actually grow again.
Q: What makes 2019 the reset year? What do you mean by that?
A: We have a lot of work to do at GE. We need to strengthen the balance sheet and we need to set the businesses up to win. There’s a lot that we’re doing in that regard and as a result we’re going to invest, we’re going to pay off some of our inheritance taxes, so some of the financials aren’t going to be pretty, but we want to take full advantage of this year to set the company up for longer-term success.
Q: How do you know that this is the trough? You’ve projected something like break-even to minus $2 billion in terms of cash flow. How do you know that’s as bad as it gets?
A: Well, I think as we’ve put the plan together, business-by-business from the ground up, we understand where each of the businesses are. Aviation and health care are performing very well. Renewables are in a growth cycle, particularly here in the U.S. Our challenge has been in power. But as we look at the backlog, as we look at some of the operating improvements that we’re making, we think we get through this year and see a better 2020 and 2021.
Q: When you realized you were going to possibly lose money, was that a surprise to you? What changed?
A: Well, it wasn’t so much of a surprise. It’s really more the realization of what our reality would be this year. Right? There are a number of investments we’re gonna make this year, about $2.5 billion frankly, which we think really set us up longer term. There are also some inheritance taxes we need to pay off. Now, it’s not a number that we’re particularly pleased to put out to the market, but it’s one I think sets the tone for transparency and reality as we prepare GE for the long haul.
Q: In the not-too distant past at General Electric, there have been surprises on the accounting. There were some things that people didn’t expect before you took over as CEO, frankly. What degree of certainty do you have in the numbers?
A: Well, it’s not just me. The board, our auditors, our financial team -- there’s just been a lot of scrutiny, a lot of review in terms of the numbers that we put forward. We brought on a new controller, Tom Timko from General Motors, and a whole host of changes, which I think suggest we’ve had a number of lenses on our accounting. And we think as we go forward, we’re going to print numbers that we’ll stand by.
Q: How are you losing cash on power? What went wrong there? What’s the mismatch?
A: Well, a couple of things. One, in the wake of the Alstom acquisition, we inherited a number of liabilities and project obligations with customers where, frankly, we’re not going to make money. The timing of those will see us put cash out in 2019. In addition, we are heavily restructuring that business. That’s a business where we’ve seen demand for new gas turbines fall rather markedly the last couple of years and we need to reset our cost structure to make sure we’re profitable at lower demand levels. Put all that together. The team has a lot of work. The numbers in 2019 aren’t going to be pretty, but I think the team understands the task ahead and it’s ready for the challenge.
Q: You refer to some of the deals with Alstom, will those all be expressed through the income statement by the end of 2019? Will the bad deals be behind you at that point, so you can move forward?
A: With respect to the projects, those are really more impacts on our cash than on the income statement. We’ll see a good bit of that in 2019, though it won’t be finished. We’ll certainly see headwinds in 2020 and 2021 to a far lesser degree, but the slope certainly improves post-2019.
Q: And the stock has reacted pretty well to what you had to say, even though you said you may lose some money in terms of cashflow. Do you anticipate a debt review? Are you worried about the debt-rating situation because there were some of those ratings that were based on some assumptions that don’t seem to be right anymore.
A: It seems like investors understand that the deleveraging plan we have in place both for the industrial balance sheet and at GE Capital is well under way. We’ve announced the sale of our biopharma business. We’ll see about $20 billion in proceeds there. Our Baker Hughes stake -- one that we’ve earmarked for sale -- is worth, call it $12 billion. Wabtec is another option we have. So we have about $38 billion of resources to help us bring down the leverage on the industrial balance sheet. Similar opportunities and capital as we make GE Capital simpler. So we think that we’re on a path to see our deleveraging goals through.
Q: So you don’t think there’ll be a rating review?
A: The rating agencies certainly have an eye on GE. We’re in constant communication with them and we try to communicate as transparently as we do with the equity markets as to where we are and where we’re headed. I think they understand that what we’ve done on both sides of the house puts us on a path to fortify our financials.
Q: Let’s move forward to 2020, 2021. You’re anticipating a much different situation with increasing free cash flow. Is that pretty much a straight line?
A: Well, it’s a game of inches, right? This is going to be a multiyear turnaround, but given that the investments that we’re making are largely at our discretion, given that some of the inheritance taxes do fade with the passage of time, we think we’re going to see positive cash flow in 2020. The slope of the line is probably not straight, it’s certainly squiggly. But the good news is we think it’s northbound and it will be even better in 2021.
Q: There’s a lot of focus on the power unit. I’ll give you three letters: V, U, and L, in terms of recovery. What are you looking at?
A: I think it’s more of an L, again, with a squiggly increase from here. It’s going to be a multiyear effort. The team understands exactly what they need to do, but it will take time.
Q: Is it a good business fundamentally? Put aside the problems with Alstom and the inheritance tax as you call it -- is it a good business going forward with all the disruption that there is in power right now around the world?
A: Well, our gas turbine business I think is a good business, right? Gas is not going away. Certainly we see benefit as there’s a transition both from from coal and from nuclear in terms of our energy sources. We can benefit from that. Certainly we see benefits in our renewables business in a more pronounced way, particularly in wind, but gas certainly has a role to play in the mix. But gas isn’t all of what we call power. We have our power portfolio businesses, four businesses that have a set of their own operating challenges, which will weigh on our performance both in 2019 and 2020 as we address those issues as well.
Q: You mentioned renewables and in general people think that’s the future and it’s just not clear when or how it’s going to be the future. At what point is that cash positive for you?
A: Well, our renewables business was cash positive in 2018, so we had a very strong year. In many respects, people would say that the age of renewables is now. ... We’ll have double-digit growth in 2019 in that business. But given the timing of the cash cycle in that business -- while last year was quite strong -- we’re going to see a lot of pressure in renewables. We’ll probably see about a $2 billion swing in 2019 -- that’s part of the reason that we’ll be negative. But we think over time, renewables will continue to be a strong business and we’ll see a more normal cash performance there.
Q: What kind of margins you’re looking at? I mean, again, not this year, but going out to 2020, 2021, 2022. Is it low-single digits, mid-single digits, double digits? What are you looking at in renewables?
A: We think there’s no reason we can’t be in line with industry averages, which I would frame today as, let’s call it high single-digits. We’ve got a lot of work to do to get there, but there’s no reason that we should be south of where our competitors and the industry is.
Q: As you move forward from defense to offense, if we can put it that way, what does the offense come from? Is it organic? Is it inorganic? Is it power? Is it aviation, or something else?
A: Well, I’d like to think that we’re playing a lot of offense. You look at our aviation business -- an exceptionally strong performer. Healthcare -- it’s very much the same way. And again, renewables were a double-digit grower in 2019. But I think what we’d like to do is make sure that we’re playing on offense both organically and inorganically on a more regular basis. And I think with the passage of time we’ll be talking less about negative cash flows. We’ll be talking less about our balance sheet and more about our investment profile in all of our businesses and certainly in aviation and healthcare, and I’m certain parts of renewables, probably more than others.
Q: What does GE look like in three years? Is it an industrials company? I know you still have some healthcare, although you’re selling part of it. But is it primarily an industrials company?
A: Very much so. Right? If you think about the core of GE, it really is aviation, it is power and it’s renewables, if you will, that rotating machinery core, which has long been the heart of General Electric. The healthcare systems business gives us a lot of optionality in terms of what we do longer-term. It is an exceptional business in its own right, but really it is more of a med tech then an industrial play.
Q: As we think about industrials, we generally think about global economic growth. How sensitive is your plan and your strategy to global growth? We’re well into the cycle now and we’re going to have a recession sooner or later. Does your strategy survive that?
A: I think the strategy definitely survives because in the short term, again we’re making a lot of progress with respect to strengthening the balance sheet and setting the businesses up to play more offense. Aviation tends to be a business particularly given the way that we’re structured with tremendous backlog in terms of production. Certainly I have a very strong service book of business to be a bit immune to some of the short-cycle dynamics that could play out. Healthcare is one of the more resilient spaces in the economy. Renewables, on the back of the energy transition, is quite strong and power, fortunately is really more of a self-help story. So I don’t want to leave you with the impression that we think we’re immune from what’s happening in the cycle, but we think in terms of the next few years, we can power through that.
Q: If you end up heavily in aviation and power, as you suggest, both of those are more long-cycle businesses. Do you need to diversify your portfolio one way or another so it has some short-cycle as well?
A: I don’t think we need to do that. There may be options over time to put another leg on the stool, if you will, but we’re a long way from frankly having the right to think about that. First order of business here is to fix the balance sheet, strengthen the businesses, particularly power. Then we get into a mode -- which I think of as really the second phase -- where we’re just operating on a more normal basis and showing folks that we can do what General Electric has done for a very long time. And then longer-term, we’ll play a little bit more inorganic offense, but that’s out there.
Q: One story much in the news right now is Boeing and their 737 Max 8. You, through an international joint venture, make engines that are used on that aircraft. We don’t know what happened with the two crashes or whether they are related. Are you taking a look at possible effects on your engine business because of the difficulties Boeing’s having right now?
A: Boeing as a critical partner for us and I think the joint venture with Safran that we’re quite proud of that serves Boeing, is obviously, we’re at a critical point in that relationship, given the the tragedy earlier. It hits us hard. We lost two of our own people on that flight. Uh, but I think we are going to do all we can to work with Boeing, with Safran, work with the regulators, the NTSB, the authorities on the ground in Ethiopia to make sure we get to root cause. Safety is a paramount concern for everyone involved. And once we have root cause, we’ll obviously work to do whatever we can to help address it. But in terms of any impact on our business in the short to medium term, it’s probably too early for us to comment directly on that.
To contact the reporter on this story: David Westin in New York at firstname.lastname@example.org
To contact the editors responsible for this story: Crayton Harrison at email@example.com, ;Sam Nagarajan at firstname.lastname@example.org, Dave McCombs
For more articles like this, please visit us at bloomberg.com
©2019 Bloomberg L.P.