By September 2008, the financial crisis was in full bloom. Banks were failing, markets were reeling, and the government scrambled to prevent a total collapse of the U.S. financial system. Battered investors winced at the expectation that another corporate behemoth might suddenly fall. Few were looking in the direction of General Electric, a world-famous industrial company sitting on a massive finance division: GE Capital.
When it was all over, GE had slashed its dividend for the first time since the Great Depression, gone hat in hand to the Treasury for help staying afloat, and permanently injured its once impregnable reputation among investors. GE’s entangled reliance on its financial services business was painfully exposed, a burden that would never quite go away for the industrial conglomerate.
This is the story of the early days of that pivotal moment in the company’s history.
Below is an excerpt from our new book, Lights Out: Pride, Delusion, and the Fall of General Electric, available July 21.
Beverly Hills was mild and clear on the evening of Sept. 11, 2008. The last person you expected to see among the swaying palms of Los Angeles on that particular night was Jeff Immelt.
On the other side of the country, huddled in the deep canyons of downtown Manhattan, the most powerful minds on Wall Street were wrestling with a financial contagion that had choked the economy and would topple some of the world’s mightiest financial companies.
General Electric wasn’t technically a bank, but its finance organization dwarfed most banks in the country. Because of its industrial core and positive messaging to the market about its condition, not to mention its reputation, the company wasn’t on anybody’s radar as the crisis deepened.
But that ended quickly.
A few days earlier, Immelt had made a call to Treasury Secretary Hank Paulson to tell him that GE was having some problems selling its commercial paper to investors. (As noted earlier, the paper is short-term debt that companies use to meet the cash needs of their operations.) Commercial paper was GE’s lifeblood. It used its stellar triple-A credit rating to get cheap access to tens of billions of dollars in commercial paper to keep GE Capital running smoothly. If GE couldn’t access that market, it couldn’t meet its massive obligations. It would be technically insolvent.
Paulson was alarmed by the call, he later wrote in his memoir On the Brink. He and Immelt had a history together. They did business when Paulson was a banker and executive at Goldman Sachs. Both had played football at Dartmouth, although they had graduated a decade apart, and both attended Harvard Business School. Paulson was known to be dead serious, while Immelt always seemed to have time for a joke.
These were not ordinary times. Just days earlier, the U.S. government had seized control of mortgage giants Fannie Mae and Freddie Mac, and things were about to get a lot worse. For GE, the storm was in sight.
In Beverly Hills, Immelt was heading to the Hotel Beverly Terrace and a restaurant called Trattoria Amici. He wasn’t meeting government officials, bankers, or advisers to help get GE through the financial apocalypse. Rather, he was meeting with Steven Spielberg, along with Universal Studios president Ron Meyer and DreamWorks CEO Stacey Snider.
It was purely social, the companies assured the show business press, not a deal meeting.
Immelt, like his predecessor, enjoyed being involved in the media business. Owning NBC, and eventually Universal as well, had brought the industrial giant onto the red carpets of Hollywood and into the halls of Rockefeller Center, recalling the days of giant corporate conglomerates that could, and did, own anything.
After GE bought Universal Studios, Immelt used to show off previews of blockbuster movies coming out of the division at the large executive leadership meetings of internal managers. The workers in the crowd, who were from all divisions, weren’t always impressed with the highlighted big-budget output of the movie studio.
During a Q&A session in one meeting, an employee asked Immelt how it felt to be a media mogul. The boss gave a characteristic full laugh and snarky response.
“I’m not a media mogul, I’m the media mogul’s boss,” he told the group.
Even in the depths of the financial crisis, Immelt had joked to people that “the good news is that we own CNBC,” which saw skyrocketing ratings during the never-ending news cycle.
Meanwhile, back in New York, regulators and the heads of the major banks were facing an inconceivable weekend of round-the-clock work to avoid catastrophe in the banking system. By Monday morning, Merrill Lynch was sold and Lehman Brothers had declared bankruptcy.
He might have been in Beverly Hills, but Immelt was closely following GE’s exposure and navigation during the crisis. He had flagged the difficulties that GE was having in the commercial paper market to regulators, but he hadn’t communicated those concerns to investors or the public. In fact, GE was explicitly communicating the opposite by insisting that it wasn’t having problems. The coming weeks would bring recurring assurances from GE that everything was fine, but the wide gap between those assurances and reality couldn’t remain open for very long.
In fact, precisely what Pimco’s Bill Gross had warned about in 2002 was now coming to a head. He had said that GE’s dependence on commercial paper was dangerous because the company wasn’t fully backing up its needs with a contingency plan, as many financial services funds did, or were required to do.
Trust and confidence are everything in finance. People put their money in a bank only because they are very confident that they can get it back if needed. If their confidence wavers, they’ll pull their money out and stop using the bank. When that happens all at once, the bank fails. For its part, GE certainly didn’t want its counterparties to get spooked; that could increase the cost of borrowing or even freeze the market altogether.
On Sept. 14, a Sunday, GE’s investor relations department issued a letter reiterating that the company was in healthy condition and maintaining that its commercial paper programs continued to be “robust” and that “we are not raising external capital and have no need to.”
But the very next day, Immelt showed up at Paulson’s office in the evening to again sound the alarm about potential problems at GE. He told the Treasury secretary that the commercial paper operation was getting worse and that GE was having a hard time selling debt that lasted longer than overnight.
That Monday night, New York Federal Reserve president Tim Geithner had a meeting on his schedule for 7:00 p.m. with a simple title: “GE Issues.”
The financial crisis changed the world’s view of commercial paper. Although it had long been considered easy to access, fully trustworthy, and a liquid source of funding, the crisis raised doubts and caused much of the commercial paper market to disappear. This is a real problem when an entire portion of the economy is depending on it to function.
The collapse of commercial paper was similar to a gasoline crisis. Roads and highways were built with the assumption that gas will always be available. So if all the gas stations go empty, the entire automobile transportation system eventually stops working. And when the gas stops flowing, the reaction is predictable: People panic, prices rise, and some start hoarding, but there’s little that most people can do.
Commercial paper was not a new concept. It was how Marcus Goldman and Jeffrey Sachs got their start on Wall Street after the Civil War. As a tool that allowed companies to quickly borrow or lend, preventing costly cash shortages and bringing them a return when there was extra cash, commercial paper met a need to stabilize the cash holdings of businesses.
In their research, two finance professors from New York University’s Stern School of Business found that there was about $2 trillion in commercial paper outstanding in the United States at the beginning of 2007. The first disruption began just months later, in late July, when two Bear Stearns hedge funds went bankrupt because of massive losses on subprime mortgages, causing other funds to reassess their own holdings in similar mortgages and mark them down. The moves triggered a cascade of fear and devaluations. Some funds halted client withdrawals because they couldn’t value assets fast enough.
The mortgage contagion infected other businesses as investors suddenly became cautious about using commercial paper, a large portion of which used mortgages as collateral. This set the stage for another shock to the market a year later when Lehman Brothers went bankrupt over a weekend. Investors holding commercial paper sold by Lehman found themselves without a chair when the music stopped.
The most notable impact of Lehman’s failure was the major losses taken by a money-market fund, the Reserve Primary Fund, with $65 billion in assets, when its shares fell below $1, breaking yet another source of a once-dependable investment. People rushed to salvage anything they could by trying to get their money back; it was a full-edged run on the bank that stopped on Sept. 19 only because the U.S. government jumped into the fray and said that it would insure investments in such funds.
This fixed the problem—but you can’t unring a bell. If major sellers of commercial paper could go bankrupt overnight, that changed every investor’s assessment of the risks involved. When money-market funds began deemphasizing commercial paper in their holdings, demand dropped as supply remained unchanged. It became harder and more expensive to access the market. For a massive user of commercial paper like General Electric, this was suddenly an existential problem.
On the morning of Sept. 20, a Saturday, Jeff Immelt and Keith Sherin traveled to GE’s Fairfield headquarters to meet with two bankers coming up from Manhattan. David Solomon and John Weinberg, top advisers from Goldman Sachs, arrived expecting a meeting about the crisis at hand and a discussion of potential defensive moves for GE. As the meeting got under way, it was clear that Immelt had other concerns.
Was Goldman Sachs going out of business and what would that mean for GE? Five days after Lehman’s shocking bankruptcy, Immelt was worried that a Goldman collapse would destroy all remaining confidence in the markets. For some, if a bank like Goldman went down, there was little chance that GE could stay above the fray. The bankers left Immelt with a strong assurance that Goldman wasn’t going anywhere.
Five days later, on Sept. 25, GE again tried to reassure investors that it was performing well in a tough environment, but it was also clearly starting to show signs of stress.
GE lowered its financial projections for the soon-to-end third quarter to reflect “the unprecedented weakness and unpredictability in the financial services markets,” which it didn’t expect to improve anytime soon. GE again backed its commitment to its triple-A debt rating, an often-stated source of pride for Immelt, and said that it wouldn’t need to raise additional long-term debt for the rest of the year.
But GE also ominously showed that it was moving to retain cash by suspending its stock buyback program, on which it had spent $278 million in September—even as it faced an increasingly difficult time funding its operations. GE’s required regulatory filing on the news was dry, saying that the company would reduce its commercial paper levels. But its messaging to the public was more upbeat.
In referring to the commercial paper reduction, GE’s press release said that it was making the moves “although demand remains strong” for its debt. Both Immelt and Sherin made the point that retaining more cash, especially in GE Capital, was not only prudent, given the ongoing uncertainty, but would also make it much easier to “participate in M&A [mergers and acquisitions] that we plan on doing over the next 18 months.”
It was dubious at best that GE might be considering buying companies while the sky was falling.
The marketing message was that GE was performing well compared to its peers, and that it was taking the precautions that would be expected of a highly regarded triple-A-rated company. When asked, Immelt ruled out raising equity capital by selling shares to the market.
“Again, we feel very secure about how the funding looks and the strength of the company and the strength of the balance sheet,” Immelt told investors. “We really believe in our business model and feel secure that we’re well positioned here.”
But the spin wasn’t working. The market needed a real sign of confidence in GE.
The company spent a lot of time and money on convincing the general public of its importance and central role in American life. Wall Street was indifferent to that and worried only about GE Capital, the financial services leviathan that produced half of GE’s profits.
The continued caution around commercial paper was causing real problems for GE. In the market, spooked investors didn’t want to hold the paper for too long, so it was being sold for shorter durations. As a result, companies had to sell paper more often, causing the number of issuances to skyrocket even as the amount of total outstanding paper plummeted.
This was what Jeff Immelt meant when he told Hank Paulson that GE was having a hard time selling paper for any duration longer than overnight.
The afternoon of Wednesday, Oct. 1, 2008, Immelt talked on the phone with Tim Geithner, according to phone records published by the New York Times. Also on the hourlong talk was GE’s general counsel Brackett B. Denniston III, among others.
Like most companies, GE had access to some cash through bank credit lines, an arrangement that allowed it to draw up to a certain amount at a determined rate. For many companies, bank credit lines serve as insurance against a cash crunch.
But in the financial crisis, when nervous investors feared any sign of the next domino to fall, these bank lines weren’t always a lifeline. When Countrywide Financial tapped its credit lines for $11.5 billion in the summer of 2007, it was a clear sign of desperation. With the questions swirling around the market, GE’s bank lines were now effectively useless. Drawing on them would be the equivalent of shooting a flare into the sky and would almost certainly send investors, customers, and counterparties running away for fear that GE was in trouble. That could start a death spiral for the company. Even a healthy company can be destroyed by a runaway panic.
All this being said, in the minds of many, GE wasn’t Lehman Brothers. It wasn’t going to fail or have to declare bankruptcy. The extent of its military business alone made it unlikely that the government would allow GE to implode. The core businesses were considered strong—health care, jet engines, power turbines, and media—and they were all seen as solid bets for the future of America and the world. GE had real businesses owning real assets with real customers, and it was producing cash.
But GE was in fact in trouble. And it needed some help.
Excerpted from LIGHTS OUT: Pride, Delusion, and the Fall of General Electric by Thomas Gryta and Ted Mann. Copyright © 2020 by Thomas Gryta and Ted Mann. Used by permission of Houghton Mifflin Harcourt. All rights reserved.
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