GE's transparency applauded, outlook questioned

NEW YORK (Fortune) -- General Electric (GE, Fortune 500) shares have been dogged by worries about GE Capital, and after a six-hour presentation on the finance unit the company quelled fears about transparency but could not put to rest fears about future losses.

On Friday, the day after the presentation, GE was down more than 6% while the Dow rose lightly in midday trading.

During Thursday's event, which included a 176-page presentation and question and answer period, chief financial officer Keith Sherin said GE Capital might not earn $5 billion for 2009 as previously forecast. But he said the unit would be profitable or break even in the first quarter and for all of 2009.

The presentation went a long way toward fixing the company's damaged credibility. "They're unfreezing relations with shareholders and closing the gap between what they disclose about GE Capital and what people want to know," says Peter Cohan, a venture capitalist, management consultant and GE shareholder.

Cohan says the company lost credibility with investors over the last year because it said it would not raise capital, would not lose its AAA, and would not slash its dividend and then had to backtrack on those statements, sometimes soon after making them.

"The presentation was like their Glasnost, and it should be beneficial over the long term," Cohan says.

GE gave unprecedented detail about how it runs each segment of GE Capital and how it stress tests these business lines and comes up with its capital cushion against losses.

The presentation also dispelled fears about the company's ability to borrow money in the public markets. It has raised 93% of what it needs to take care of the long-term debt that matures this year, and it is racing to raise money for 2010 before government programs to back debt expire this year.

Two worries still remain for analysts and investors like Cohan: stress testing and earnings quality.

For its stress test, GE Capital uses Federal Reserve projections that in 2009 unemployment will average 8.4% and the economy will shrink by 2%, and that in a worse case scenario unemployment will hit 8.9% and GDP will shrink by 3.3%.

Deutsche Bank analyst Nigel Coe points out that Deutsche Bank economists think GDP will shrink by 3.9% in 2009 and that average unemployment will hit 10%, leading him to believe that GE will come in at the lower end of expectations.

Nick Heymann, a Sterne Agee analyst and former GE auditor, says the company will likely have to raise its loss provisions over the next four to six quarters, leaving him to wonder just how feasible it is to place a value on GE.

As for earnings, Sherin says GE Capital will earn between $2 billion and $2.5 billion this year under a scenario whereby unemployment averages 8.4% and GDP contracts by 2%. He expects it to break even should unemployment hit 8.9% and GDP shrink by 3.3%.

A lot of that money comes from tax credits for losses taken at GE Capital. Under the best case scenario, tax credits account for up to $2.1 billion of the estimated $2 billion to $2.5 billion in earnings. Under the more severe stress case, tax credits would contribute up to $4.5 billion to the bottom line, allowing the company to break even.

"The main question that remains is, can the company earn its way through elevated losses on the portfolio without having to raise equity capital," wrote Credit Suisse's Nicole Parent. "Uncertainty around magnitude and timing of the losses at [GE Capital] make that difficult to assess."