GE's Continuing Troubles

Once again, GE's recent performance demonstrates why the conglomerate needs to be dissolved.

The weekend edition of the Wall Street Journal described GE as reporting a 31% drop in first-quarter earnings.

The nearby price chart for GE and the S&P500 Index over the past five years illustrates that GE continues to have been a bad investment. Thus continuing CEO Jeff Immelt's unbroken record of mis-leadership of the ailing firm.

Without going into details, suffice to say that Immelt is crowing that the company's financial unit seems to have finally turned a corner on managing its losses. Of course, these losses played a big part in driving the once-proud firm into the arms of a government bailout, due to liquidity pressures.

Had the firm been split into its very large, naturally independent and unrelated pieces, the rest of the firm, and its investors, probably wouldn't have suffered so badly from the one unit's mistakes and excesses.

Perhaps the 50% drop in GE's price over the past five years is an emerging signal that investors are finally beginning to just say 'no' to the notion of an outdated conglomerate structure that masks great performances by any one unit, and results in mediocre results for the whole mess over time.

Immelt's GE Continues To Struggle

Having recently talked with some friends who read this blog, I am now aware that there are readers who consider some of my posts to be 'rants.' Such as this recent one about Jamie Dimon's wrong-headedness regarding the current, strict application of a narrowly-specified 'mark-to-market' accounting rule.

It's safe to say that my attitude toward CEOs and other grandees tends to be, well, sceptical.

Perhaps because I've met enough of them in my career to know that the bulk of them did not rise due to merit. Or maybe it was due to my boss at Chase Manhattan Bank, Gerry Weiss, making sure that colleagues of mine, and I, had lots of exposure to senior bank executives, the better to learn just how mediocre most of them were.

In any case, I'm not especially reverent to just anyone who heads a large company, but a CEO who can consistently outperform the market's total return usually gets positive remarks from me. In contrast, a CEO who can't usually gets negative remarks.

Thus, I'm not particularly impressed with the current CEOs of Chase or Citigroup. Both Dimon and Pandit seem to have lucked into their positions, rather than earned them via long and consistently superior management of some other business or company. Neither is the sort of CEO I'd prefer to be at the helm of one of the largest US commercial banks during this time of extreme stress in that sector.

Today, I touch, again, upon a similar, frequent topic on my blog: GE's hapless, inept CEO, Jeff Immelt.

This time, following on my last post about him and his company less than a month ago, once again, GE's financial business exposure has cost its shareholders plenty.

As I wrote last month,

"Suffice to say, though, that if GE didn't have its huge financial unit, it would not have experienced such a severe recent decline in its stock price and, its total return."


Sadly, judging by the nearby, 5-day price chart for GE and the S&P500 Index, it's true all over again.

In only five days, GE's stock price dropped almost 10%, while the index held steady. It seems that continuing troubles in the financial services sector have exposed all of GE, due to its needlessly-diversified structure, directly to the consequences of the current credit market woes.

Looking at the last 12 months of price performance, as depicted by the second chart, GE has lost about half of its value, while the S&P managed to drop by a lesser amount, 40%.

As I've written frequently in prior posts, if Immelt had broken up GE sometime during his futile, value-destroying 6+ year reign, most of GE's businesses would not have been tarred so heavily with the financial sector brush.

Good job, Jeff.

Once again, your stodgy, 'play it safe' mentality has seriously hurt your shareholders.

How much more of this will it take before GE shareholders push the company's board to oust this underperforming CEO?

Dennis Kneale on Google

Last Friday on CNBC, Dennis Kneale, the network's new main print guest, and managing editor at Forbes, laid out a simple explanation for Google's continuing spreading of its resources across so many areas- search, advertising, telephony and space, to name just a few.


Kneale pointed out that Google CEO Eric Schmidt ran two companies- Novell and Sun- which were heavily damaged from competition with Microsoft. In Kneale's view, Google's many investments constitute a continuing campaign by Schmidt to pulverize his former nemesis.


Call me, well, sceptical- of pure corporate motives- but I think his explanation makes some sense. Some corporate leaders can't let go of old grudges, and begin to use their shareholders' assets to settle personal scores. Or simply advance personal agendas.


I, too, along with Kneale, think Google is courting disaster with its ever-widening business reach. I wrote this post a little over two years ago, shortly after the birth of this blog. In that post, I wrote,

"I think that the two guys who founded google are very smart. They built a better search engine, but they realize the next great search engine is likely to surpass them, just as they dethroned Alta Vista. Yes, there actually were search engines prior to Google. A friend mentioned to me a few months ago for how little Alta Vista was ultimately purchased by some European company. It was pathetic.

I believe that the owners- excuse me, senior executives now- of Google realize that their best hope for continued consistent value, and thus wealth, creation is to become so entangled in the online habits of their customers that Google is no longer perceived as a search engine. Otherwise, they face the ever present threat of rapid decline.

Consider this. The two founders of Google probably don’t spend as much time creating new and better search procedures as they once did. Further, current students at better engineering schools across the country now have something at which to aim. By virtue of its current dominance, Google probably can’t take advantage of the next smart search engine designer’s new twist. And, to be honest, using a new search engine is ultimately as simple as going to a new website.

Thus, the rapid expansion by Google into, well, just about anything online that can tie your behavior into their brand, rather than their search engine, per se. For example, email services, instant messaging programs, a whispered foray into the remains of AOL, wifi rollouts in San Francisco, and, now, a voluminous database of searchable literary content. They must be really worried. Because very little of these enterprises, by themselves, require integrated consumer behavior. Rather, a single company offering all of them hopes they can bend consumer behavior to their version of service packaging.

Not likely in this internet and information age, is that?"

I still believe this to be true. And I think it reflects what Dennis Kneale observes in Google's current environment. They are just throwing resources at anything they believe can bring traffic and make a few bucks. Anything to complicate their business model, so it doesn't appear to all hinge on a search engine which continues to age.

Sure, if someone dreams up a significant advance in search technology, Google may just buy them out. Still, isn't that a sign that a company is already aging? When it can't sufficiently improve its own core technology to fend off competitors, and needs to share its wealth with them?

Which, of course, is an insidious form of trust-forming behavior. Rather than let a competitor get a foothold, just license their technology, which is legal under Sherman and Clayton Anti-trust law. Or buy a firm that is so small that it won't trigger FTC review.

But Google seems to be already so sprawling in its business endeavors as to be unmanageable, in the conventional sense of the word.

Cisco was once deemed to be the ne plus ultra of high-growth tech firms. Then it flamed out in the bursting tech bubble of 2000.

Could Google begin to slow from a gradual inability control/manage itself, and simply fail to appropriately allocate resources among so many competing projects, many of which will have serious competition?

Personally, I think it will. It's just the way businesses mature, irrespective of the content of their industry.

Merrill Lynch's New CEO: John Thain

Beginning yesterday afternoon, the biggest story in the US financial sector was John Thain's departure from the job of CEO at the NYSE, to take the same position at troubled retail brokerage giant Merrill Lynch.

You can read or hear any number of accolades for Thain today in the business media. And everyone, except, apparently, Dan Tully, a Merrill ex-CEO, seems to believe Merrill is lucky to have retained Thain for the job.

I think the more interesting question is,

Where will Thain take Merrill Lynch, and what will the firm look like when he's finished?

In over ten years of using my quantitative, S&P500-beating equity management strategy, Merrill Lynch has only appeared in a portfolio once. Goldman Sachs, on the other hand, has been a periodic member since a year ago, most recently with increasing frequency.

Were Thain to attempt to take Merrill to the same heights of consistently superior shareholder return performance that Goldman has enjoyed, he'll be taking it somewhere it's really never been.

For example, simply comparing Merrill's stock price to that of the S&P500 since 1978 shows that Merrill has bettered the index, but not consistently.

The brokerage firm was no better than the index, in totality, for the first 12 years of the period. It had some brief runs of superior performance in the early 1990s, then sagged, doing so again in the latter half of the decade. Since 2000, Merrill's return has been fairly flat, though volatile, while the S&P has dipped, then risen steadily.

What kind of financial firm will Thain create from the wreckage of Merrill Lynch? Well, he is on record in the past 24 hours as saying the problems are with the mortgage finance area, in which he has substantial experience.

While that may be true, that doesn't mean he'll simply repair that unit and continue to manage the rest as he finds it.

My partner and I discussed Thain's move into the Merrill CEO job last night, and agreed that he probably took the job because it will allow him to build something himself. He inherited a senior management post at the already-smoothly functioning Goldman. He transformed the NYSE, but, again, from an already-powerful position.

Perhaps at Merrill, he feels he can retool a company and be credited with the entire value creation job.

I wrote here, recently, that I thought there was no chance Thain would be interested in the Merrill job. I was dead wrong when I wrote,

"Does anyone, besides Susanne Craig, who authored the Wall Street Journal piece, really think (any) Goldman executive among the top three managers of the firm, past or present, would really be interested in running Merrill?"

Evidently, at least Thain thought otherwise.

However, in the same post, I also observed,

"Merrill represents the last of an otherwise dead model, the retail wire house. Sure, Merrill bought and grafted on investment banking in the past decade. But it hasn't internalized the risk management skills which seem to have prevented Goldman Sachs, Morgan Stanley, and Blackstone from suffering the same losses during this year's financial crises."

I wrote in another post that Stan O'Neal was forced to turn to a risky bet on mortgage finance in part because his brokerage operation wasn't going to get the job done when it came to consistent, profitable growth at Merrill. That has not changed.

Thain's experience at Goldman involves heavy doses of risk management, capital commitment, and modeling with a workforce of the truly 'best and brightest.' None of that is true of Merrill Lynch.

I think everyone, including my partner and me, expect Thain to begin importing talent he knows from Goldman, and, probably, various private equity groups and hedge funds around Wall Street. Surely he has some favorite 'number twos' elsewhere who would be happy to come to Merrill to run one of its businesses for him.

As my partner and I realized, Thain is in the position to effectively implement an idea I first put forth in this post, this past February,

"Suppose private equity firm partners offered their services to a publicly-held company. Would they not, in effect, take board positions, in exchange for options to own much of the firm, or be paid a percentage of the value they created over, say, a function of the firm's prior total returns, relative to the S&P500? In effect, like my idea, they'd commit their financial fortunes to, and align them with those of the firm's. But what mechanism exists for shareholders to do this? None.

It would, in fact, be a sort of return to the days of the original form of shareholder capitalism. A few wealthy, skilled owners running the boards of large companies. Since, instead, many boards are infested with lesser lights, faded failures of other boards (look at Microsoft for a great example of this tendency), or "politically correct" members with absolutely no business skills, corporate performances are often appallingly bad, while CEOs and board members are still handsomely compensated."

We see Thain about to bring a band of corporate buccaneers aboard Merrill, and be compensated for the value they create.

But among all the talk about Thain's ascension to the Merrill CEO post is that lingering doubt about his ability to win over, lead, and otherwise develop cultural commonality with the vaunted 16,000 strong band of Merrill retail reps.

My own prediction is likely to be seen as nonsensical. But, here it is. I think there's a significant probability that Thain will simply sell the brokerage business to another firm. Perhaps Wachovia. He could sell it to Citigroup, if it finds a new CEO and can afford the price.

But I think Thain will consider it. First, it doesn't involve firing anyone- simply divesting Merrill of a dead-end business. As I've written elsewhere in this column, who trades with full-price, full-service brokers anymore except older, and/or less sophisticated clients? It's not a business with a future. There's a reason Merrill is the only surviving predominantly retail wire house.

As the Yahoo-sourced chart nearby shows, the stock prices of investment-type banks, such as Goldman Sachs, Lehman and even Bear Stearns have outperformed the hapless Merrill over the past five years. Only Morgan Stanley, beset by various organizational woes in the past, and, more recently, its own fixed income losses, has underperformed the retail firm.

Looking over a longer timeframe, the result is similar. All of the firms outperformed the S&P500 since 1994, but Goldman and Lehman have steeper curves in the past five years.

In short, Merrill's distinguishing feature as a business model, a large retail brokerage sales force, seems to be related to its inability to outperform other non-commercial banks.

Thain is used to managing highly intellectual, risk-oriented businesses. Merrill's retail side leans heavily to the old backslapping, ingratiating model of entertaining clients more than serving them.

In a world with Fidelity Investments, Vanguard, E*Trade, Scott Trade and Schwab, how many observers of this sector believe that full-service, personal retail brokerage is a business with a profitable, growth-generating future?

I was wrong about Thain taking the Merrill job. But he's a very smart, seasoned, tough manager. I don't think he believes he can take Merrill to where Goldman has been without throwing the retail business over the side.

My partner and I believe that Thain sees an opportunity to recruit top talent to join him in building the next Goldman Sachs or Blackstone. Coming from the NYSE, rather than directly from Goldman, he's probably not operating under any sort of agreement not to poach Goldman employees. None of them, nor Thain, has managed retail brokerage, nor has needed it to become the best-performing investment bank in recent years.

Growth, Risk Management, & Attendant Excesses in Financial Service Firms: The Merrill Lynch Case

As I read yesterday's Wall Street Journal, it occurred to me how Merrill Lynch's recent firings, sub-prime experience, and diversification are a textbook example of why large financial service firms almost never provide consistently superior total returns for shareholders.

In case you missed the piece, or other news stories about it, Merrill fired its global head of fixed income, his deputy, the co-head of fixed income for the Americas, and the former co-head of institutional securities. According to the article, an unnamed analyst estimated that Merrill will be writing off nearly $4B in losses from its sub-prime mortgage holdings.

While other firms, such as Bear Stearns and UBS, have also ejected senior executives, I want to examine the Merrill situation in more detail, because of its size and business scope.

Mr Kim, Merrill's recently-fired co-head of institutional securities, had led the team and area which bought First Franklin Corporation, a subprime mortgage originator, for $1.3B.

A dissenting executive, Jeff Kronthal, was fired as the team bought the sub-prime firm.

Once purchased, of course, First Franklin became a machine with which this fixed income team churned out lots of CDOs, becoming the #1 underwriter of the instruments since 2004.

According to the Journal article, the former global head of fixed income, Mr. Semerci,

"and Mr. Kim were known for putting a greater priority on expanding market share than on risk controls."

And there you have the crux of the phenomenon.

At diversified financial service firms, managers compete for promotions, compensation and control. In order to win these, they must out-grow their peers.

So they take excessive risks in the mid-cycle of a business, riding high growth and turning it into more explosive, riskier growth.

Sometimes, this approach works and the executives involved rise to lead the firm. If not, they still get compensated well, and the firm takes the hit to its balance sheet when the risk catches up with the earnings.

When I was at Chase Manhattan Bank in the early 1990s, the Real Estate division pushed for high, risky growth via construction lending in Manhattan. Eventually, that bubble burst, leaving the bank to take several hundred million dollars in writedowns in 1990. Meanwhile, the executives who made the loans, often found, upon later auditing, to be improperly documented, if documented at all, received large bonuses for making loan origination quotas.

In a large, diversified financial services firm, this drama plays continuously. That is why some element of a diversified financial conglomerate like BofA, Citi, Chase, Merrill, et.al., seems to explode in fantastic losses every few years.

So long as these giants incent managers to get ahead by growing their businesses, which, in financial services, must, to sustain growth over time, lead to riskier business, this will be a permanent feature of the sector.

That's why my equity selections process never identifies a non-acquisitive diversified financial conglomerate as an investment. Sans acquisitions, which prop up revenue growth artificially for a time, these giants are continually prone to the sort of losses being recorded at Chase, Citi, Merrill, Bear Stearns, and UBS this year.

Merrill can axe three highly-ranked fixed income executives, but that won't stop this from happening to the firm again. The story is as old as Lehman's original fist fight in the partner's board room that saw Lew Glucksman, the firm's one-time trading titan, oust Pete Petersen, who went on to co-found the now-famous private equity BlackStone Group.

Glucksman went on to binge on trading and, subsequently, trading losses, in the next few years, leading the firm to fall into the lap of American Express.

Only the faces will change. The culture and internal climate of any diversified financial services firm will guarantee repetitions of the recent Merrill experience for years to come.

When financial service firms rely on one, or, at most, a very few businesses to fuel their value creation, and manage risk accordingly, only then will they avoid these recurring risk-management failures.

In short, it's risk management that brings down large, diversified financial service firms every time. More than anemic growth, excessive growth in one or two businesses inevitably leads to excessive risks, which are typically hidden from the credit and audit functions, as well as senior management. After all, the executives are playing with the firm's money, so it's a win/win or lose/win proposition for them. Either way, their firm takes any losses.

The days of smallish Wall Street partnerships in which risks were well-understood, acknowledged, and managed, because the partners owned the risk, are long gone now. Instead, diversified financial mega-firms such as Merrill and BofA own many business units, in which managers play a risky game to advance their careers.

Thus, the entire complexion of financial service businesses, markets, and the risks inherent in them, have changed irrevocably, as a function of the sector's current organization. That's why you can expect something like the current Merrill writedowns and firings every few years at one or more diversified financial giants.

Microsoft Tries New Online/Ad Strategies- Again

Yesterday, I wrote this post regarding a Wall Street Journal article which harkened back to GeoCities, the very first online networking site, and discussed today's landscape in that product space.

I suppose the timing of Dennis Berman's piece was no accident, appearing, as it did, as Microsoft is in talks to buy up to 5% of Facebook for a reported $300-500MM.

Tuesday's Journal carried a front-page article describing Microsoft's many, failed attempts to break into online businesses, from browsers to ad placement businesses. As I wrote here, in May of last year, I think the only way Microsoft will realize consistently superior returns for its shareholders is to break itself up into three pieces, each focusing on one business: applications software, operating software, and internet-related businesses. As it stands now, and for some years, Microsoft's diversified structure has simply led the software giant to become a veritable Gulliver, tied down in competition with many, more nimble adversaries in each of the niches in which it does business.

According to the Journal article, this time around, Microsoft is pinning everything on one Brian McAndrews, an executive whom it acquired in the deal to buy aQuantive, Inc., an online ad company, for $6B.

Of course, as the article also details,

"Just 17 months ago Microsoft hired Steve Berkowitz, from Internet search company Ask.com, as a vice president in its online group. Much as Mr. McAndrews is seen today, Mr. Berkowitz was positioned as the outsider needed to lead a cultural change at a company strong on technology but short on experience in the advertising industry.

A lack of political chops in working within the huge company and a clash with a highly respected engineering manager have hampered Mr. Berkowitz, say people familiar with the matter. Several of Mr. Berkowitz's duties were recently ceded to Mr. McAndrews."

So, once more, Microsoft has thrown money at a business in which it lags, without really re-orienting the company to address the fundamental strategic shift such actions implicitly acknowledge.

As I've written before, I don't think Microsoft truly understands, nor is currently capable, of competing totally all-out to win in the online business arena. It's still a software company trying to re-ignite growth by viewing online as a distribution platform, rather than a do-or-die business.

It seems to me, per Mr. Berman's article, that Facebook is the big winner here. Microsoft will, as usual, pay up but cede control. It won't seriously change to address the new business. And Facebook will reap a huge payday simply for carrying Microsoft ads.

If there's any downside for Facebook, it would be these: it's not selling enough of itself while the premium is stratospheric, and; it may, as Yahoo did with its payments from ATT years ago, grow fat and lazy on the passive revenue stream, only to wake up in a few years behind its competitors.

Time will tell. However, I cannot help but think that, once again, Microsoft's unfocused, half-hearted attempts to 'beat Google,' simply to do so, will enrich third parties, further impoverish its own shareholders, and continue the software giant's slide into relative unimportance as a leader in the technology product/market.

On Diversification, Conglomerates, and Consistently Superior Returns

I wrote this recent post reviewing a NewYork Times piece on GE and its CEO, Jeff Immelt. As I reflected on it, this passage from the Times piece struck me as all wrong (the italics are from the Times article, the quote preceding it my text),

"Immelt, according to Schwartz, argues for keeping GE intact as follows,

"In defending their stance, Mr. Immelt and other current executives don’t fall back on Mr. Welch’s no-surrender, last-man-standing rhetoric. Instead, they make a more subtle argument against breaking up the company: Not only does being a conglomerate help G.E. ride out the inevitable ups and downs of the economic cycle, it also creates those elusive synergies that most other companies only talk about." "

This is simply wrong in today's capital markets. It may have been true forty years ago, as I wrote here and here. But no longer. As I wrote in that second linked post,

"Simply put, corporate diversification for cash flow smoothing has been a discredited management approach for creating consistently superior total returns for some time. My own proprietary research, which drives my equity portfolio selection of consistently superior large-cap companies, confirms this. Back some thirty or forty years ago, when trading equities was expensive and information and innovation were in shorter supply, it may have made sense for investors to hold shares of conglomerates. And, in the day, they existed- Gulf&Western, ITT, and Litton, to name just a few. But they are gone now. ITT still exists, but in nothing like the shape it had under Harold Geneen."

And, in the later post about another recent Times article fawning over Immelt and GE, I stated,

"Thus, Immelt has actually broken the pattern of GE leadership through the ages by essentially changing virtually nothing. The firm has adapted to past eras, that is true. And this era is one of the continued de-conglomeration of American business. His sarcastic shots about Google to the contrary, Immelt's firm is too diversified to provide consistently superior returns to shareholders, because it's taxing them to feed an overgrown bureaucracy presided over by....none other than Chairman Jeff the First.

What Immelt fails to understand, in suggesting Google can't continue growing in its natural niches, is that every business undergoes a Schumpeterian life- and death- cycle. My guess is, Immelt is going to preside over GE's death.

Third, regarding Immelt's observation about investors "going through cycled where they don't like conglomerates" is a bit disingenuous.

The era of growing, permanent corporate conglomerates is over, thanks to very efficient, large and deeply liquid capital markets. Markets so liquid that private equity firms can borrow to buy ailing business units of conglomerates, fix them, and spin them back out to the public. The only apparently consistently profitable "conglomerates" these days appear to be the large, multi-operating-unit private equity shops. But they don't seem to want to hold their businesses- just increase their value and flip them back to the public."

So, in actually, Immelt isn't running GE in order to give shareholders the best chance of enjoying consistently superior (to the market, or S&P500) returns, no matter when they own the stock. Instead, he's pursuing some hoary, forty-plus-year-old goal of 'earnings smoothing' via 'diversification.'

I don't think I've seen a single diversified conglomerate among my consistently-superior, high-growth portfolio selections. Ever.

Conglomerates, as I wrote in the reposted passages above, are holdovers from a bygone era. Managing according to the theory that there is value in diversifying to "ride out the inevitable ups and downs of the economic cycle" is simply being backward in this more financially modern era of liquidity, low/negligible trading costs, and easier risk management via derivatives.

What is surprising to me is that nobody in the business press seems to call the few remaining conglomerates, especially GE, on this issue. GE has become a quasi-index, closed-ended fund, with a big management fee discount from its componet values. There is simply no way Immelt, as GE's CEO, is entitled the many tens of millions of dollars he is paid annually to essentially manage an index fund.

I would expect better coverage of this egregious waste of value in one of the nation's largest newspapers.

More On GE's Breakup: The Right Idea

Today's Wall Street Journal featured an article concerning GE's breakup. It's in the middle of the Money & Investing section's front page. The headline is a complimentary "For GE, No Lack of Ideas."

As I wrote recently, here, even as the Journal touches this potential third rail topic, it is doing so gingerly. Here are some of the more forgiving (of Immelt and GE) quotes:

But some shareholders and analysts argue that GE's sprawling businesses are better off together than apart. GE's big umbrella, these investors say, can balance differing product and economic cycles, while helping all its businesses financially. And that would boost the stock price over the longer term.

The "keep GE together" crowd appears to have a strong ally in Mr. Immelt, who has resisted past calls to sell NBC Universal. Mr. Immelt has repeatedly expressed his frustrations with GE's stock price, which is down 7% since he took over in September 2001, while the Dow Jones Industrial Average is up 35% over the past five years.

What's more, splitting off big pieces of GE could ultimately lower the entire company's valuation. If, for example, it divested itself of NBC Universal, the company would be even more heavily weighted toward financial-services businesses, which generally get lower valuations than the industrial units. In the first quarter, financial services already accounted for more than 60% of GE's profit.

What I noticed about the above-cited text was that no salient, sage investors were actually named as the 'some shareholders' who 'argue that GE's sprawling businesses are better off together.' Who are these shareholders- seasoned hedge fund managers, or your great aunt Hilda, who has held GE in her portfolio since 1980?

To say that GE CEO Immelt 'appears' to want to keep GE whole is an understatement. After six years presiding over this failed conglomerate, do you really think he's ready to throw in the towel and fire himself? Because that is the logical conclusion of beginning any divestiture, or the complete breakup into all its six constituent units.

I wrote about a GE breakup here, last August. Contrary to the sentiment expressed in the third paragraph I cited above from the Journal article, I think a split up would result in more value all around for shareholders. If one unit becomes valued as a financial service company, so be it. That's what it is. Shareholders would be free to sell shares of that spun off company.

Simply put, corporate diversification for cash flow smoothing has been a discredited management approach for creating consistently superior total returns for some time. My own proprietary research, which drives my equity portfolio selection of consistently superior large-cap companies, confirms this. Back some thirty or forty years ago, when trading equities was expensive and information and innovation were in shorter supply, it may have made sense for investors to hold shares of conglomerates. And, in the day, they existed- Gulf&Western, ITT, and Litton, to name just a few. But they are gone now. ITT still exists, but in nothing like the shape it had under Harold Geneen.

In fact, even GE went through such change in the past. Besides publicly available information, I have additional knowledge from my old mentor and boss at Chase Manhattan Bank. He worked for the CPO of GE as it moved between CEOs Fred Borch, Reg Jones, and Jack Welch.

Few today realize how Jones, of whom I have heard it said, "once a beanie (accountant), always a beanie,' stripped much of the strategic vision from GE that Borch had instilled through his business unit investments. Jones retooled the company to be a cash machine because, well, he was an accountant. He liked cash.

Welch, upon taking the helm from Jones, faced an unprecedented period of high inflation and a wide array of non-strategic businesses at GE. He rapidly cut and pruned the company's businesses, earning the now-forgotten moniker "neutron Jack." I can't believe it's so long ago that I probably need to explain the meaning of this nickname to younger readers. At the time, the neutron bomb was under development. Its salient characteristic was to 'kill the people but leave the buildings standing." You can figure out the reason for the nickname from that.


Today's large firms are usually focused on a particular product/market. Diversified conglomerates are pretty much a thing of the past. Mediocre analysts and fund managers might confuse large focused global firms, such as Intel, Cisco, or ExxonMobil, with yesteryear's broadly diversified giants. You should not. I don't think investors do, either. That's why GE's stock is in suspended animation. Everyone can diversify more cheaply today than they can by paying an enormous tax on operating earnings of GE's business units in order to keep them under one administrative regime.


What's ironic is how everyone seems to have forgotten GE's heritage of being subjected to wrenching change with each new CEO of the prior forty years, except for Immelt. He's the only one not to have actually made a big change in the firm, and it has stalled.

In the past, the company was led by CEOs who were unafraid to put a significant personal stamp upon the shape of GE. Immelt, however, eschewed that approach. Instead, he's pretty much kept the cards Welch left on the table. Too bad it's evidently not the right hand for today's business environment.

As I've argued in prior posts (which you may find by searching on the label 'GE,' and following links to even earlier posts), Immelt has been paid far too much for simply keeping Welch's seat warm, but not even managing to beat the S&P. How many of Immelt's own managers do you think he would keep for six years if they had his performance record?

Where's the business media's outrage at Immelt's egregious overcompensation? Oh, yes, that's right- GE is a big advertiser. Wouldn't want to offend a company that lines the coffers of so many print, network and cable media firms. Same with most of the financial service firms.

However, I firmly believe that, now, lurking somewhere in the shadows, are the private equity wolves. Perhaps they are beginning to form a pack and slowly circle the ailing, misled GE. It may take a private equity offer to loosen the business media's collective tongue on this matter, but don't expect too much until they are pretty sure that GE is well on the way to some sort of break up before they feel it's safe to agree with everyone else and proclaim the wisdom of a GE dissolution.

BP's New Ad Campaign

I have been watching BP's ad campaign for a few months now. You've probably seen them- interviews with people on the street about what oil companies "should" be doing.

The various staged responses involve big oil firms needing to go green, and find new energy sources to power our world more cleanly.

Then the requisite solemn voice-over announces that BP is already doing all sorts of lovely green things for its customers and the world.

There's just one problem. Oil companies historically have gotten into trouble, and wasted money, when they try to be something besides an oil company.

For example, in the 1980s, Exxon tried to break into the information equipment business. Living near their operations in NJ, I had colleagues who had worked there, and witnessed the rise and fall of the division. It stemmed from the mistaken belief, in the late 1970s, that Exxon's oil business would diminish in a few decades. The Exxon Enterprises unit was created to house a large assortment of various non-oil businesses whose mission was to grow sufficiently to take up the eventual slack of a declining crude oil-driven business.

It didn't work out that way. Instead, Exxon Enterprises' units had their collective heads handed to them in their respective product/market niches. And it never had the full support of the dominant oil executives, either. If memory serves, a future CEO, Lee Raymond, shut the group down to stem the waste of hundreds of millions of expense dollars.

It seems that utility-like firms have a tendency to wander astray when their sector's outlook is bleak, typically racking up huge losses.

Anybody else recall a little thing called "Penn Central?" When the old railroad tried to become a "transportation" company, and eventually would up in Chapter 11?

So I view these BP commercials with great amusement. I think BP is still suffering from the culture with which outgoing chairman Brown suffused it. It's trying to stray from being a good, well-run oil company, and, instead, apologize for what it is, and try to change into something else.

On the other hand, Rex Tillerson, ExxonMobil's new CEO, was unabashed today on CNBC about being a growing, well-run, profitable oil company. No apologies from him.

Oil companies should seek, find, recover, refine, and distribute oil. That's where their core strengths are. When they try to do radically different things, their shareholders suffer.

Is this really such a difficult concept to grasp?