General Electric Company (GE) Q3 2013 Earnings Conference Call October 18, 2013 8:30 AM ET
Trevor Schauenberg - Vice President, Corporate Investor Communications
Jeff Immelt - Chairman of the Board, Chief Executive Officer
Jeff Bornstein - Chief Financial Officer
John Inch - Deutsche Bank
Scott Davis - Barclays
Nigel Coe - Morgan Stanley
Julian Mitchell - Credit Suisse
Joe Ritchie - Goldman Sachs
Steven Winoker - Sanford Bernstein
Deane Dray - Citi Research
Stephen Tusa - JPMorgan
Shannon O'Callaghan Nomura
Christopher Glynn - Oppenheimer
Good day, ladies and gentlemen, and welcome to the General Electric third quarter 2013 earnings conference call. At this time, all participants are in a listen-only mode. My name is Shaquana, and I will be your conference coordinator today. (Operator Instructions). As a reminder, this conference is being recorded.
I would now like to turn the program over to your host for today's conference, Trevor Schauenberg, Vice President of Investor Communications. Please proceed sir?
Thank you, Shaquana. Good morning and welcome, everyone. We are pleased to host today's third quarter webcast. Regarding the materials for this webcast, we issued the press release as well as the presentation slides at 6:30 this morning, which is something new for us. Slides are also available for download and printing on our website at www.ge.com/investor.
As always, elements of this presentation are forward-looking and are based on our best view of the world and our businesses as we see them today. Those elements can change as the world changes. Please interpret them in that light. For today's webcast, we have our Chairman and CEO, Jeff Immelt and our Senior Vice Chairman and CFO, Jeff Bornstein.
Now, I would like to turn it over to our Chairman and CEO, Jeff Immelt.
Great, Trevor. Thanks and good morning, everyone. You know what? GE had a good third quarter in an improving environment. Our orders grew 19% with great balance. Our growth markets were up 22%, the U.S. was up 18% and Europe up 17%.
Earnings per share was up 18% ex-unusual items, industrial earnings growth 11% with six or seven segments growing all by double digits. Capital continues to execute on our strategic objectives. Earnings were up 13%, while our financial position continued to strengthen and we had $0.04 of uncover charges in the quarter and no industrial gains.
Operations were very strong. Our margins grew by 120 basis points behind strong value gap performance in simplification. Our industrial cost out reached to $1 billion through the third quarter and we are significantly ahead of our plan and CFOA is up 5% operationally. This includes a $3.9 billion dividend from GE Capital year-to-date.
We have returned about $14 billion to investors year-to-date, well on our way to our $18 billion goal. At that the same time, we continue to invest in strategic acquisitions like, Avio and Lufkin, so overall this was a good quarter for GE team.
Our orders were highlight for the quarter. Overall growth was up 19% with strength in equipment and services. Every business grew and backlog reached $229 billion, equipment orders grew 32% with strength across the board and orders price was flat.
The orders profile is very encouraging. Services was up 5%, with real strength in power gen services and aviation commercial spares. Total orders in the U.S. and Europe were both robust and seven growth regions had double-digit orders growth.
These include Australia, Canada, Middle East, North Africa and Turkey, up 17%. Africa up 18%, Russia up 51%, China up 18% and ASEAN up 100%. Power & Water had a solid orders performance with growth 19%, and though this number did not include any orders from Algeria. Those will be booked into fourth quarter in 2014. Orders growth in backlog supports business expansion fourth quarter through 2014.
While we are making progress on our strategic growth initiatives, growth market revenues were up 13% with six of nine regions up double digits. This remains a key strength for the company due to our geographic diversity and strong share position. Services grew by 7% with margins up 60 basis points and aviation spares shipments grew by 25%.
Last week, we had our second Minds and Machines summit, where we announced 40 new service offerings in analytics and software. Our industrial Internet order should exceed $500 million for the year and we continue to drive our technical advantage. We announced 8-gigawatt, heavy duty, gas turbine wind in Algeria.
We will launched 50 healthcare NPIs for the year and we are gaining share. The LEAP engine is ahead of schedule and the GE9x recorded its first order and is well positioned for the Boeing 777 launch. We have the only locomotive to meet the Tier-4 standard and we continue to launch new appliance products with strong acceptance in retail and contract channels. With a strong backlog and good growth initiatives, I think we are well positioned for solid organic growth in the fourth quarter in 2014.
On margins, look, we are encouraged about our progress. GE's margins grew by 120 basis points in the quarter and were up 40 basis points year-to-date. Five of seven businesses grew margins in the quarter and all are flat or up for the year, excluding the impact of acquisitions.
Our results are [problematic] and sustainable. Our value gap is positive $660 million year-to-date and will continue to grow. We have achieved our $1 billion simplification goal in only three quarters and will drive substantial upside for the year and there will be no industrial gains in this quarter.
Our Power & Water had a solid quarter with improved mix, strong value gap and good simplification efforts and they should sustain this momentum into the fourth quarter. So on track to achieve our 70 basis points goal. Our results and service margins, value gap and simplification are accelerating and all businesses should have positive margin growth in fourth quarter and we still have a slight hedge in out plan.
On cash, we had a solid quarter. For cash, our industrial CFOA has grown by 5% year-to-date ex the NBCU deal related taxes which show in CFOA. We are still targeting to receive up to $6.5 billion of GE Capital dividends paid to the parent. We remain on track to achieve our $14 billion to $17 billion CFOA goal for the year. We have significantly higher revenues in fourth quarter than third quarter driving higher CFOA by year-end and our balance sheet remains extremely strong with $87 billion of consolidated cash.
Our capital allocation remains disciplined and balanced. Year-to-date, we have $13.9 billion to investors in dividends and buyback. We have invested $8.6 billion in acquisitions that will improve our long-term growth rate. We are on track to return $18 billion to investors in 2013.
Now over to Jeff to review operations.
Thanks, Jeff. I will start with third quarter total results. Revenue from containing operations of $35.7 billion was down 1% from last year. Industrial sales of $25.3 billion were up 2% driven principally by oil and gas and aviation, partly offset by Power & Water, as you can see on the right side of the page. GE Capital revenues were down 5% to $10.7 billion on much lower investment. Operating earnings of $3.7 billion were down 3% and operating earnings per share was flat at $0.36. That includes $0.02 for the Avio acquisition charges and $0.02 of restructuring in the quarter. We also no longer have earnings from the NBCU JV which was $0.02 in the third quarter 2012. I will cover these items on the next page.
Continuing EPS of $0.32 includes the impact of non-operating pension and net earnings per share includes discontinued operations which I will also cover on the next page. Adjusted CFOA, year-to-date, was $7.8 billion with solid industrial performance and $2 billion GE Capital dividends were paid in the quarter. The GE tax rate in the quarter was 20% and the GE Capital tax rate was zero. GE Capital continued the benefits associated with loss recapture in real-estate and tax efficient asset reductions.
In the second quarter, we said that we expect the GE capital tax rate to be in the mid single-digits for the year but that could be lower depending upon higher IRS solutions that could happen in the fourth quarter as well as expected dispositions in the fourth quarter which could impact tax rates.
On the right side of the page, segment results were positive. Industrial segment profit was up 11% with six of seven industrial segments improving. GE Capital also had a positive quarter growing earnings 13% versus 2012.
I will cover all the segments in more details on the following pages. So for one time items, in total we had $0.04 of charges in the quarter, $0.02 related to Avio as we discussed in September. Avio had a number of preexisting contractual arrangements with GE Aviation and U.S. GAAP requires us to record the fair value impact of effectively settling those preexisting contracts.
We also had an inventory fair value adjustment in the quarter. These resulted in $0.02 charge. Going forward, we will benefit from the efficiencies that Avio has achieved over time. We also had $0.02 of restructuring and other charges as we continue to take actions to reduce our cost structure. This was $0.01 higher than we had originally planned for the third quarter as we continued to identify track the projects that will lower structural cost and rationalize our footprint.
On the right side of the page, we included a walk from reported to adjusted operating results. In the third quarter of 2012, we earned $0.36 which included $0.02 of income related to NBC. In the third quarter of this year, we earned $0.36 that, as discussed that included $0.02 of the Avio related charges and $0.02 of restructuring. If you adjust for those items, operating EPS is $0.40 in third quarter of '13 versus $0.34 in third quarter of '12 up 18%.
For discontinued operations, we had an $82 million after tax impact in the quarter, driven by GE Money Japan. We booked $79 million of additional reserves to reflect ongoing claims related to gray zone. We ended the quarter with $527 million in total reserves. There were really no material change in WMC in the quarter, with a very slight reserve adjustment.
On the bottom of the page is a summary of our operating EPS and the industrial NBC gains and restructuring, with $0.02 of restructuring charges in the third quarter, that brings our year-to-date to a net zero impact between the first quarter gains and year-to-date restructuring.
With that I begin covering our business results and we will start with Power & Water. Orders of $5.9 billion were up 19%, European orders were up 9%, led by renewables and water. However PGS was down 18%.
Equipment orders were 37% higher at 3 billion. Thermal orders were 886 million, down 15%. The business had orders for 27 heavy duty gas turbines in the quarter versus 29 a year ago.
Renewable orders were strong, up over a 100% to $1.2 billion with continuing strength in the U.S. Distributed power was also strong with orders of $700 million, up 62% driven by aero demand.
Service orders were up 4% to $2.9 billion, up 7% excluding Europe. Despite continuing European softness, PGS orders were up 8% to $1.8 billion and we booked 15 advanced gas path upgrades versus four year ago.
Overall, orders pricing was down 80 basis points driven by equipment, down 2.9%, partially offset by services, up 1.4%. [Thermal] was down 1.4% and wind was down 1.2%. Revenue of $6.5 billion was down 10% driven by lower volume. Equipment revenue was down 13% on lower gas and wind volume.
We shipped 22 gas turbines versus 35 in the third quarter of 2012, and we shipped 407 fewer wind turbines, down 40%. This was partially offset by distributed power strength, up 44% with 76 unit deliveries versus 48 a year ago.
Service revenue of $2.8 billion was down 5% driven by PGS down 6%. Higher AGP volume was offset by lower new unit spares. Segment profit of a $1, 289 billion was up 9% in the quarter. The improvement was driven by positive value gap and distributed power strength and better cost performance.
SG&A was down 10% in the quarter and margins improved 330 basis points. Oil and gas orders were $4.4 billion, up 4%. Equipment orders were $2.3 billion, up 3%. We saw a strong turbomachinery orders growth of 17% led by a large midstream LNG order in Russia. The Lufkin orders of $243 million, partially offset by subsea down 41%. Subsea orders tend to be very lumpy and are up 17% over the last 12 months.
Service orders grew 6% in the quarter, drilling and surface was up, 21%, subsea up 27%, partially offset by measurement and control, down 8%. Total backlog was up 35% versus prior year and orders pricing was down 20 basis points with year-to-date remaining positive and up 70 basis points.
Revenue of $4.3 billion was up 18%, up 9% ex-acquisitions, equipment was up 19% driven by subsea, up 16%, the drilling and surface up 13% offset by measurement and control down 3% in the quarter.
Measurement and control was a disappointment in the quarter as we saw continued softness in the market. Service revenues grew 18% with strength in Global Services, up 13%, subsea up 43% and drilling and surface up 23%.
Segment profit of $519 million was up 11%. That's up 7% ex-acquisitions, primarily driven by higher volume and a strong value gap. Margins were down 90 basis points on a reported basis, down 30 basis points excluding the impact of the Lufkin in the quarter. This was lower than expected primarily driven by a software measurement and control market and there were some project delays.
With that we will talk about the aviation and healthcare. First aviation. Aviation had another really strong quarter orders of $7.8 billion were up 51% with equipment orders up 92%.
Commercial engine orders were $3.8 billion, up four times led by $1.6 billion of CFM orders, up nine times including $1.4 billion of LEAP orders. GE90 orders were $1.2 billion also up four times. Military orders continued their expected weakness, down 30%.
Service orders of $2.7 billion were up 9%, commercial service orders were up 15%. The average daily order rate for commercial spares was $24 million, up 9% in the quarter. Our fleet utilization year-to-date is up 3.1% and overhauls in the quarter were up 23%.
Military service orders fell 6% and flight hours continue to and de-stocking continues across the military. Orders pricing in the quarter was up 1.9% with improvements in both equipment and service. Revenue of $5.4 billion was up 12%, up 10% excluding Avio. Equipment revenue was 10% higher. We shipped 273 military engines, up 12%. We also shipped 559 commercial engines in the quarter, up 8% including 26 GenEx engines. Service revenues were 14% higher driven by strong spare part sales of $25.9 million a day which was up 25%. Military service revenue was down 17%.
Segment profit of $1.1 billion was up 18% driven by strong volume and value gap, with sales price up 3%. Margin rates improved a 100 basis points versus last year and we are up 70 basis points excluding Avio. Just as a note, Avio helped margins and Lufkin was a hurt on margins in the quarter. So overall acquisitions were about a 10 basis points drag in the quarter on segment margins.
Next is healthcare. Orders in healthcare of $4.7 billion were up 2%. Equipment orders were up 6% to $2.7 billion. Developed markets were up 1% driven by strong U.S. equipment orders up 8%. Europe was flat, Japan was down 24%, down 6% excluding the effect of FX. Emerging markets were up 14% driven by China, who are up 33%, Latin America up 28%, partially offset by Asia-Pacific down 16%.
Just a little bit on modality. HCS was up 5%, MR was up 13%, CT down 8% and ultrasound was very strong, up 14%. Life Sciences was up 10%, diagnostic guidance up 5%. So pretty good strength across the modalities.
Service orders of $1.9 billion were down 4%. Revenue of $4.3 billion was flat driven by growth markets up 5% led by China who are up 13%, offset by developed markets down 2%. Both the U.S. and Europe were up 2% offset by Japan. Segment profit of $665 million was higher by 7% as cost productivity from our restructuring efforts more than offset lower price. Margin rates expanded in the quarter 110 basis points.
Then moving onto transportation. Orders of $1.6 billion were up 34%. Equipment orders were up 65% driven by a large North American locomotive order for 275 units deliverable in 2014 and mining really continues to be soft. Services orders were 8% higher driven by solid growth in locomotive services probably offset by very week demand for mining parts. Revenues of $1.4 billion were flat, year-over-year and strong service growth of 17% was offset by equipment revenue down 14%.
Locomotive shipments were approximately flat, with the third quarter deliveries of 147 compared to 146 a year ago. Operating profit of $306 million was up 15% with margins better by 300 basis points. The improvement was principally driven by positive value gap in services growth.
Energy management. Orders of $2 billion were up 16% with strengthened power conversion up 19%, digital energy up 23% and intelligent platforms up 16%. Backlog of $4.6 billion is up 29% versus prior year. Despite the order strength, operations were disappointing in the third quarter, revenues were down 3% driven by digital energy down 27%, on weak media demand and some project execution. As a result, our profit was down 57% to $18 million. Positive value gap was more than offset by the negative volume leverage.
Home and business solutions had a very strong quarter driven by appliances. Housing starts were up 19% with single family better by 16%, multi-family up 27%. Revenues of $2.1 billion were higher by 7% led by an 11% increase in appliances partly offset with 1% decrease in lighting. Segment profit of $77 million was up 28%. Appliances, our profit up was up 73% driven by positive value gap and productivity, partly offset by lighting. Margins improved 60 basis points in the quarter.
Next I will cover GE Capital. GE Capital revenue was $10.7 billion, down 5% driven by lower assets. Assets were down 7% or $40 billion year-over-year. Net income of $1.9 billion was up 13% from prior year, primarily driven by lower losses, better portfolio performance and higher tax benefits, which more than offset assets and gains. We ended the quarter with $385 billion of ending net investments, down $39 billion from last year and down $7 billion, sequentially.
Our net interest margin increased 22 basis points versus third quarter of '12 to 5% and was flat in the second quarter. Volume was up 6% in the quarter with new business ROI over 2%, and our Tier 1 common on a Basel 1 basis improved to 11.3% driven by reduction in assets and that's after paying $2 billion of dividends in the quarter.
On the right side of the page, asset quality trends continue to be strong with delinquency rates stable to improving across the portfolio. In addition, non-earning assets totaled $6.4 billion, down $1.9 billion versus third quarter of 2012.
We have substantially completed all of our debt issuance for 2013 at $32 billion and we have reduced our CP balance at $33 billion, ahead of the plans bring down
CP by $35 billion by year end. Liquidity was very strong ending the quarter at $76 billion, up $7 billion from the second quarter.
Now to walk through our segment performance, CLL, the Commercial Lending and Leasing business ended the third quarter with a $170 billion of assets, down 5% from last year driven by a reduction of non-core assets of $5 billion as well as $4 billion in our core book, primarily from asset sales, including the fleet Canada, our franchise real estate transactions we spoke about.
On book core volume in Americas was up, was 2% higher in the third quarter of 2012 and new business returns remain attractive at about 2% returns on investment, despite continued excess liquidity in the market. Earnings of $479 million were down 50% driven by lower assets and impairments in our corporate aircraft portfolio in the Americas business. Asset quality was stable.
Consumer segment ended the quarter with $136 billion of assets, flat with last year. Net income of $889 million, was up 19%, primarily driven by lower losses as a result of not repeating the reserve modeling changes that we implemented last year in this quarter and in the first quarter of this year.
Lower losses were partially offset by no repeat of the $80 million gain on the partial sale of our interest in Thai bank in the third quarter of 2012. The U.S. Retail business earned $665 million in the third quarter, up 50% from last year, again, largely driven by not repeating the reserving change and on strong asset growth of 11% in the quarter. Our core European business earned a $111 million in the quarter.
The real estate team had another very solid quarter. Assets ended the quarter at $40 billion, down 28% to down $2 billion, sequentially. The equity book is down 27% from a year ago to $60 billion.
Net income of $464 million was up more than two times versus 2012, and that was driven by lower losses and marks as well as impairments, as well as higher tax benefits.
The business saw 77 properties with the book value of $2.1 billion for about a $100 million of gains in the quarter. That's down slightly year-over-year. The business originated $1.8 billion of debt volume in the quarter with an average ROI of 2.3% and asset quality continues to improve with 30 day delinquencies at a 141 basis points, 68 basis points lower, sequentially.
The verticals GECAS earned $173 million. That's down 31% driven by higher impairments as part of our annual impairment review. Impairments were $55 million higher in 2013 at a $190 million. The impairments were principally driven by valuations on cargo aircrafts, specifically MD-11s.
Overall, the portfolio is in great shape with only 10 MD-11 freighters remaining in our fleet, with the value of about $150 million and we ended the quarter with zero delinquency and no aircraft on the ground. EFS earnings were up 14% or $150 million driven by higher operating income.
Overall GE Capital continues to perform well. It's results were in line with our strategy. As we look ahead to the fourth quarter in terms of run rate, I expect the business to earn around 2 billion plus or [minus] the third quarter and adjusting from impairments of GECAS which not repeat and some tax benefits. We are currently working on a number of transactions in the fourth quarter, most notably the sale of our remaining interest in Bay, the Thai bank and the IPO of our Swiss consumer business.
At this point, we expect that any benefits from these transactions will largely offset with continued portfolio repositioning, but they could impact the tax rate, quarter and the year.
With that, let me turn it back to Jeff.
Jeff, thanks. We really have no material changes in the 2013 operating objective framework. Our industrial earnings will expand by double-digits in the second half and we are on track for solid growth in the year. We have no change for expectations in GE Capital. We continue to originate business at high returns while repositioning our capital portfolio and earnings growth remain solid in GE Capital. Our corporate cost reflects our Avio adjustment, as Jeff described earlier, and we continue to see good opportunity for restructuring and our positioning offers to continue. Our cash and revenues remain on track.
We should see earnings growth accelerated in the fourth quarter with more volume and lower costs and with a large backlog in improving margins we feel good about 2014. We have several of our communications sessions with investors in the fourth quarter. In November Keith and Jeff will update our portfolio and business strategy of GE Capital and give you a sense for our long-term goals and simplification across the company. And in December, I will give you a strategic update for GE and our outlook for 2014. So we look forward to those sessions.
So in summary, we are making progress on our investor objectives for the year. Our industrial earnings grew by double digits in third quarter and we expect a stronger fourth quarter. Strength is broad based and we expect Power & Water to be a key contributor going forward in the fourth quarter and into 2014. We grew margins by 120 basis points in the quarter and we expect to hit 70 basis points for the year. In the event we have any gains on the in the fourth quarter, we expect them to be applied to restructuring.
GE Capital continues to strengthen and we are on track for up to $6.5 billion of cash to be returned to the parent. We expect organic growth of at least 5% in the fourth quarter for the industrial segments and we have solid momentum in growth markets, services and NPI and we have more favorable comparisons in Power & Water. So we are on track and we are on track to return substantial cash for investors this year. So the team executed well in the quarter and with a strong backlog and expanding margins investors should be confidence in GE's future.
So Trevor, with that, let's turn it over to you and take some questions.
Great. Thanks, Jeff. I know there is other earnings call coming up. So Shaquana, let's open the phone lines.
Earnings Call Part 2: