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30 July 2020

GE stock falls on results, some brighter days on the horizon

While we have no intention of fighting it out with the bears and the bulls who hate or love General Electric, it is worth re-iterating our thoughts on this company as it files its latest results. It is quite simple, it needs to bring itself the right side of the climate change line, as quickly as it can.

The stock was off this week straight after CEO Larry Culp told the world how tough this quarter had been, and re-set his sights more on survival than flourishing, and talked over and over about preserving cash, de-risking the business, cutting costs and becoming more agile. Those are good words, but after a year or so investors get sick of hearing about them.

For once we felt sorry for him, because analysts went straight out of that call, told their clients there was no good news and it was time to get out and the stock, which fell once again to its lowest level in almost 20 years.

Culp was telling the truth, and he really had tried to mitigate all the actions by anticipating them, but there is a feeling of “ennui” on this stock now. Only those stuck in it will stay the course. The big realization is that aviation is just not going to come back.

Culp said it himself, if planes don’t fly, then they don’t need servicing and that throws up a lot of money for GE. July was 50% down in units, but service was 55% down, and while military was up 10%, it is a drop in the ocean. Yes some people have decided to take their aircraft and change them into freight planes, and that has given GE money, but it is an admission that the aviation business, either does not get fixed at all, or it takes 4 years or more, by which time it runs dab smack into climate change and carbon taxation coming the other way.

Either way rightsizing for aviation post pandemic is perhaps a bridge too far for GE, but what else can it do? It is certainly going to be painful and that may be what Culp has to do, but he can’t start yet, because he has no idea of how big the market will be by the end of this year, or a year from now, so he has to carry cost and wait until the picture is clearer.

It is really, really hard to be innovative in an environment like that and someone like Culp could, we are sure, have built a brand new management team, and turned even a ship as large as GE around by this year or next, without coronavirus. He could then have factored in climate change, and repeated the trick. However climate change is now coming early, and that’s official – as most money is being spent post pandemic on either bailouts (which means the bailed out businesses like airlines will be shy of spending) or on building back green, which leaves little money for GE, sitting as it does the wrong side of carbon transformations.

While this was not acknowledged in the results conference for GE, it did turn up on another press release the company put out this week, a deal for Uniper in Germany to work with GE on the decarbonization of Uniper’s gas-fired power plants and natural gas storage facilities.

Ask anyone at GE a year ago if this was a possibility, and it would have waved you away. Now Uniper has looked at the European strategy for spending post pandemic and its view on hydrogen (carrot) and its view on carbon trading (stick) and it can see it has nowhere to go but into hydrogen and it wants to make sure that its turbines will run on it.

Now we have made it very clear in our work on hydrogen that gas to power using Green Hydrogen is way down on people’s list of priorities and that the primary use for green hydrogen will be transport at first, and large transport at that. Once this is oversupplied the mains to residences for cooking and heat is thought to be next, and finally, come 2040 the gas can be used to generate electricity.

Because the price of natural gas is so impossibly low, no-one takes this last position seriously. But as we have also said in the past, it only takes one government deciding that natural gas will have a punitive carbon tariff or tax put on it, and offers a subsidy for the creation of huge volumes of green hydrogen, made from equally in-expensive renewable energy, and it may stimulate further investment.

It doesn’t have to take 20 years for a fresh renewable market to shake out the costs to the point where it is ready for parity prime time. It can happen faster if scale is somehow centrally mandated and this may especially be true in hydrogen if oil and gas companies see it as their only way forward. It may create a price problem for them, but they will at least have a chance.

So while we are not saying that Uniper will go straight to green hydrogen, blue hydrogen made from steam reformed natural gas, with some resulting CO2 to get rid of, is one way of avoiding the need for Green hydrogen on day one.

The two say they will explore, assess, and develop technology options for decarbonization and that this is GE’s first fleet-wide decarbonization program signed with a major power producer. The deal was signed last month and revealed this week and it aims at getting to a detailed decarbonization roadmap by early 2021.

That will drive the R&D program, and as the Green recovery investments begin to be made in Europe in anger, Uniper no doubt will apply for European funds, in effect to be the guinea pig for gas to power.

While the two do highlight the use of emissions-friendly hydrogen in GE gas turbines and compressors in Uniper’s power plants and gas storage, the word green has not been highlighted.

These two have been working together for multiple decades and Uniper has been one of the leading pioneers in the market. It is in fact E.ON’s fossil fuel assets which were pushed into a separate company back in 2016, so if you don’t know the name, that’s why.  It has 34 GW of generational capacity, with half of that being gas to power. On the other hand almost half of that is in Russia and we don’t see that being mandated as hydrogen for some time yet, if ever.

And it already has power to gas plants in Falkenhagen and Hamburg and huge storage facilities of 9 billion cubic meters in Germany, Austria and the United Kingdom, which it sees as being upgraded for hydrogen, and a winter store possibility.  We think this is unlikely in reality, but a buffer of some sort for the countries it sits in.

Uniper pointed out that 4 GW of its gas turbines are in Europe, so it’s not counting the 4.2 GW it has in the UK for this pilot work. Uniper has said it wants to be climate-neutral in Europe by 2035. Uniper already produces around 24 TWh of CO2-free electricity with its hydroelectric and nuclear power plants in Germany and Sweden.

Andreas Schierenbeck, CEO of Uniper said: “This agreement with the US manufacturer GE is another proof of our commitment to move ahead with the decarbonization of our power generation and storage facilities. In a few years, Uniper’s European fleet will consist mainly of climate-friendly gas-fired power plants and CO2-free hydropower.”

The release says this deal may take in the idea of post combustion carbon capture, utilization and sequestration (CCUS), but of course it’s fairly clear that the R&D for that may well lead to European funds, but it’s unlikely to work economically – at least we are not convinced.

If GE manages to leverage the European Union coffers to get a head start in burning hydrogen to make electricity, it could take a global leadership role in hydrogen, without it spending a penny. It certainly won’t get that kind of help from its own government.

Returning to those numbers, GE had Q2 orders of $13.8 billion off 38% and revenues of $17.7 billion off 24%, it has a GAAP margin of 5.7%, and says it will begin selling what remains of its Baker Hughes stock. It had negative free cash flow of $1.6 billion and says it has cut costs and cash spending by $2 billion, in the quarter, and $3 billion so far this year and has got away a number of debt offerings to ensure it has plenty of cash, while reducing debt by $9.1 billion year to date. Touch and go.