After a huge loss on old reinsurance contracts, GE contemplates a break-up
DECISIONS made long ago, and often long since forgotten, can come back to haunt. General Electric (GE), an American industrial conglomerate, has discovered that to its chagrin. On January 16th the company said it would have to take a $9.5bn charge (before tax) on old reinsurance contracts in its financial arm, GE Capital—despite exiting the insurance business in the mid-2000s. The firm also said it would have to set aside up to $15bn of additional reserves for GE Capital over seven years. The conglomerate had already been struggling, with its share price down by over 40% in the past year. News of the latest hit, which the company’s chief executive, John Flannery, called “deeply disappointing”, sent its shares plunging by a further 3% on January 16th alone.
The issue at hand concerns reinsurance contracts in GE Capital’s American life- and health-insurance portfolio. Jack Welch, an idolised former GE boss, had massively expanded the firm’s financial arm in the 1980s and 1990s, including into insurance. Mr Welch’s successor, Jeff Immelt, who took over at the company in 2001, bought and sold a huge number of businesses during his tenure. Even before the 2007-08 financial crisis, which prompted the firm massively to pare back GE Capital, it had already spun out much of its insurance business into Genworth Financial, an American insurance company which listed in 2004 in the biggest initial public offering of that year, and sold the rest of it to Swiss Re, a reinsurer, in a deal worth $6.8bn, in 2006.
Mr Immelt conceded at the time of the insurance sale that the business had always been a “tough strategic fit” for GE because of its low returns, volatility and need for capital. But a number of substantial life- and health-reinsurance liabilities, notably those related to long-term care insurance (which pays for products such as nursing-home care for the elderly), were left out of both the 2004 listing and the Swiss Re deal, although GE Capital did at least stop issuing new contracts.
That in the 12 years since then the firm appears to have done little about this residual portfolio seems an odd omission. The risk, after all, was well known. Other firms had problems with policyholders living longer and incurring higher medical costs than insurers had built into their initial assumptions; the long-term care market as a whole in America has run into trouble. One Pennsylvania insurer, Penn Treaty, was liquidated in 2017 after being left with just $500m in assets to cover a projected $4.6bn in claims.
Opportunities for GE to offload legacy risks were plentiful. Ever more firms have become willing to acquire legacy insurance liabilities at the right price—not just large reinsurers like Swiss Re, but other investors, too. The Hartford, a large American insurer, in December sold its legacy life and annuity unit to a consortium of half a dozen investors, providing it with a full exit and a lump sum of money upfront, though it still had to take an overall (one-off) loss. At GE, the scale of the problem seems to have only been recognised after Mr Flannery, who started in the top job in August, commissioned a review involving outside experts in the autumn.
The reinsurance charges, then, are best viewed as the most serious revelation yet to emerge from Mr Flannery’s housecleaning at GE. That process may be a prelude to more radical reforms than those Mr Flannery announced last year. Then he proposed refocusing the firm around three core business areas—aviation, power and health care—and a divestment of $20bn in assets (out of total assets of $365bn), along with other tweaks such as changes to the board of directors. Now he is veering towards more dramatic moves, raising the possibility on an investor call this week of full or partial spin-offs “in any one of [GE’s] units”. GE executives reportedly consider some form of break-up probable, though that would not prevent a large sum of capital being tied up at GE Capital for the foreseeable future. Stockmarket analysts are divided over whether such spin-offs would add much to GE’s total valuation. Come what may, paying close attention to existing assets and liabilities would help.