Effects of the Financial Crises on General Electric

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Introduction

In 2007, the country underwent a liquidity crisis and in the following year, this culminated into a global financial meltdown; this continued even in 2009. General Electric (GE) had been boasting of its enviable tipple A rating but with time, it became a party to these financial crises. The paper shall look at how the company’s financial performance was affected by these crises and some possible solutions to these issues shall be suggested.

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How the company was affected

A few years ago, it would have seemed almost unrealistic to imagine that General electric would experience a cash shortage. This is was especially because the company had been classified as one of the most effectively managed firms in the country. However, recent figures indicate that this giant has not been immune from the crisis. In 2008, it was reported that the company’s stock had grown by a whopping fifty percent and the value of those assets had therefore been lost. In the following year, i.e. 2009, profits kept falling. This has been estimated to remain flat in 2010. (Patalon, 2009)

To understand how GE was affected by the crises, it is essential to first understand how the company got to such a scenario in the first place. The problem with GE is that the firm is representative of the economy. Since the US’s economy is largely governed by the service sector, the same thing may be said of GE. In the past, the company would dwell on the manufacture of appliances, locomotives, and jet engines however, the focus has shifted substantially to the service provider sector and more so financial services. When one goes through Fortune 500 listings, one is not likely to find the company under the manufacturing sector; instead, one can find it under diversified financials. The financial arm of general electric i.e. GE Capital was responsible for some of the riskiest as well as the most profitable business services in the company. This part of the business focused on almost everything in finances from real estate investment to the provision of car loans to credit card management. GE Capital was therefore critical in earning profits for the whole company and it also managed its funds. In return, the larger GE would guarantee this financial unit the triple-A credit rating that the company enjoyed. Consequently, it became possible for GE Capital to borrow funds from global markets and thus grow its business. (Brush, 2009)

The latter relationship was one of the biggest strengths of the company but it eventually led to problems that it encountered in the future. Between 2002 and 2006, the company was in financial bliss. This was large because interest rates were quite low. Almost all the assets that the company was dealing in were going up in value and this offered GE Capital opportunities in almost all types of business. In fact, during this time, the company’s profits grew by 400% percent as it reported eleven billion in profit by mid-2006. However, the rain began pouring in late 2006 when the company realized that it had invested in some wrong business ideas. For instance, it entered the mortgage arena by purchasing WMC and then took too long to let it go. This implied that there were substantial losses brought on by such a move. Aside from that, the company also saw the need to sell a loan company called Lake. It did this when the crisis had reached catastrophic levels thus implying that unloading the group was no easy task. It lost one point two billion by having to sell the latter unit.

All the latter issues indicate just how the financial crises affected the company’s performance because its investments started losing value and there was no other way out expect selling off. (Brush, 2009)

With time, GE continued to be affected by the crises even more. In 2009 by the month of March, the company’s CEO had promised shareholders that there would be a return on their investments that would be projected on growth. However, credit markets throughout the country were frozen as a result of the Bear Stearns problem. Consequently, at the end of that quarter, GE Capital was left helpless since it could not rearrange any of the messes that had been created in the rest of the country. Consequently, no risk management or rescue plans could be enacted by that company and stocks drastically fell. Shareholders were bitterly disappointed with this turn of events such that most of them lost confidence in the latter company’s decisions. It should be noted that in most instances, GE would smoothen its financial portfolios such that revenue objectives would be achieved. This was crucial to the company because it shielded it from the erratic changes common to the stock market and this is also what brought in most investors. However, after the problems experienced in early 2009, it became clear to these investors just what the company was doing.

GE was also substantially affected by the crisis owing to the fact that it was acting like a bank. In the past, the company had created finance divisions to deal with customer lending so as to increase sales. But with time, it became clear to the company that deals in loans could lead to substantial profits. When the market for subprime loans, real estate, and credit card lending vanished, then so did GE’s stocks. Since most people in the economy were seduced by prevailing low-interest rates before 2006, GE became no exception. They are now heavily affected by what was going on in the rest of the country since interest rates were no longer as lucrative. The company ended up being stuck with most of the loans that it had lent to its clients and yet most of these loans had gone bad. The company lost as much as ten percent within this business portfolio because of the financial crises in the country.

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Aside from the latter, the company was also affected in its internal loan arena. GE had some long-term investments and needed some funding for them. It therefore borrowed from its short-term portfolio to fund these long-term ventures. However, due to the country’s financial crises, then the latter company had a very difficult time trying to restructure these portfolios and this was why it was forced to sell off some of its business assets to mitigate the problem.

Besides this issue, many GE company representatives have asserted that the company is reducing the size of its financial portfolio. What this implies is that the profitability previously enjoyed by the company will drastically reduce. This has already started happening and unless the company devises a new way of increasing profitability, then consumers may be adversely affected by the financial crises for years to come. Aside from that, these same consumers lack a means with which they can seek ways of financing and look for other measures that can reduce some of the problems being faced. For example, they are in adverse need of some financial solutions that may be necessary in order to purchase some of the company’s products. (Brush, 2009)

Possible solutions

General electric treated its financial unit GE Capital as a crucial part of its business portfolio, consequently, the latter’s inefficiency were spread onto the entire GE business. One way in which the effects of the crises can be mitigated is through sound restructuring within this company. This implies that risk needs to be re-priced so that the public cannot underestimate its dangers. The latter strategy should also include realigning executive responsibility such that stakeholders in the financial sector of the company have a full understanding of what is involved in handling these issues correctly. This also means that the company needs to reconsider how it plans its compensation plans so as to make them more in tune with long term rather than short term goals. By carrying out all these major changes, then GE along with other companies can adequately provide a transparent circulatory system for the country’s economy alongside other global players. (Brush, 2009)

One of the major reasons that led to the adverse effects of the crises was the fact that GE had deviated very significantly from its core business. It was initially designed as an industrial company and these operations proceeded on into the nineteen eighties. At that time, only twenty percent of their market share belonged to the financial sector. However, as of 2007, this latter unit constituted 55% of their market share. Consequently, overreliance on one aspect of its business – that was not even its main reason for formation led to the adverse effects of the problem. The company can eliminate such concerns by minimizing this financial arm. Making GE Capital a lot smaller will substantially reduce volatility in the company.

Another way in which GE can mitigate the financial crises’ effects is by continuing to offer financial services but narrowing this down to activities related to their core units such as energy, transport, aviation as well as healthcare. For instance, lending could be restricted only to what the company owns. Aside from that, it could concentrate its energies on provision of loans that dwell on the long term rather than short term perspectives and all projects should be managed by the company.

Risk minimization ought to form a strong part of recovery efforts within the firm. This means that a team needs to be assigned the duty of dealing with all problems brought on by lack of risk minimization opportunities. However, since the latter company has already established a risk committee, then ample utilization of the group needs to be done. Their responsibilities and duties need to be clearly laid out and understood and care should be taken to ensure that most of the members that have been selected for such tasks are up for the challenge that comes along with their respective positions. Minimization of risk can also be done by focusing on long term behavior. The company need not reward entities for good results within the short term alone. This is because such performances may be nothing more than single hits. Instead, greater concern should be given to consistent partners who have shown time and time again that they can be depended on. (Patalon, 2009)

The government embarked on an economic recovery package in the past year and GE was one of the biggest beneficiaries of this plan. It was able to do this by taking advantage of some of the shortages in the country’s regulatory mechanisms. Generally speaking the company had not qualified for some of the funds being released by the company but because of its ability to maneuver into the system. Then it became, possible to carry out such a strategy. It was able to do this by looking for some small banks that needed assistance. It then purchased them and therefore became eligible for assistance. Even though the government acknowledged that this was a game of chance that GE had won, it affirmed that there would be an overhaul of financial regulations systems so to minimize all the problems that arise out of such loopholes. In other words, members of the Obama administration have asserted that they are currently looking for ways in which they can cause companies such as GE to choose between financial service provision and commerce. This means that they do not want these firms to provide one or the other. Instead, focus should be given on either of them. This is a serious wake up call to GE as the latter firms now need to work out strategies of selecting either one of these options: commerce or banking. Part of the reason why the company was hugely affected by the crises was that it was not living up to what it had stated it would do in the past. Aside from that, GE has been placed under the less restrictive arm of the government’s regulatory body known as office of thrift. This implies that it need not be subjected to rigorous tests on risk management and risk in general. This eventually made the company complacent in the past and continues to do so presently. In order to minimize future problems especially in the event of an economic problem, then GE must act as its own regulator. It must behave as though it is being investigated by the Fed as is the case with most other conventional financial institutions. This could go a long way in ensuring that the firm is always ready for whatever comes its way. (Brush, 2009)

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The government itself also has a critical role in protecting institutions such as GE from such losses in the future. This can be done by expanding some of the eligibility requirements needed in order to support lending institutions. Also requirements on restructuring need to be made in such a way that the general will of the concerned parties is taken into consideration and so should the issues being dealt with by a company like GE.

Aside from the latter; GE can also work hand in hand with the government. Currently, the company was able to get a substantial part of the country’s stimulus package. This was done after making proposals that the company was to engage in power grid modernization as well as other designer projects. There are huge plans for the stimulus money but in order to ensure success, the company must realize that such a strategy does have its risks. For instance, the government could alter its policies and this would mean no more support or alternatively, disbursement of the funds could take much longer than the company had imagined. This may eventually lead to mistrust from the company’s shareholders. GE should therefore try as much as possible to create a back up plan for their commodities. It may also be necessary for the company to compete with a range of energy providers in order to gain access to grants available for the company’s development. The company should also keep its promise concerning clean energy as this is a sure way to win government support since there are loan guarantees offered for renewable energy, tax cuts for offering energy efficiency and renewable energy for provisions for research and development. (Williamson & Glader, 2009)

Conclusion

GE bore the brunt of the financial crises rocking many businesses around the country and this was seen by its lost triple credit A rating as well as reduction in value of the company’s stock. In order to curb some of the effects of these crises and also in order to protect the company from future challenges, then it may be necessary for the company to stick to its development plans especially those ones surrounding renewable energy. Also, the company will need to restructure its operations so that the financial arm is made more transparent and a lot smaller than it is currently. The latter arm was responsible for most of the problems faced by the company today and unless changes are made around it, then there may be a bleak future ahead for GE.

References

Williamson, E. & Glader, P. (2009, November 17). General Electric pursues a pot of the government stimulus gold. The Wall Street Journal, A 18.

Patalon, W. (2009). GE to focus on energy and health care. NY: Associated Press

Brush, M. (2009). How GE dug itself into a crisis. Web.

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BusinessEssay. "Effects of the Financial Crises on General Electric." February 17, 2022. https://business-essay.com/effects-of-the-financial-crises-on-general-electric/.