General Electric Co. (NYSE: GE) trades at a 4% conglomerate discount. A conglomerate owns many different businesses -- which do not share resources. The rationale for conglomerates was that they allow investors to buy a diversified earnings stream -- when one business is up the other is down and vice versa. In theory this makes earnings smoother.

Finance theory suggests that conglomerates should trade at a discount to the stand alone value of those businesses. The reason for the conglomerate discount is that investors are able to construct a portfolio of stocks that will achieve the diversification themselves. Thus all the overhead needed to manage these diverse businesses under one umbrella adds cost without creating offsetting investment value.

One way to test this theory is to compare the weighted average price/earnings (P/E) ratios of the industries in which GE competes with GE's overall P/E. When I did this, I found that if each of GE's business units was a stand alone public company, its industry P/E weighted by its proportion of operating earnings to the total, averaged out to 19.9. This is substantially above GE's P/E of 19.1, suggesting that GE trades at a 4% conglomerate discount.

Continue reading Does GE trade at a discount?: A BloggingStocks series conclusion

Does GE trade at a discount?: A BloggingStocks series conclusion originally appeared on BloggingStocks on Mon, 30 Jul 2007 13:09:00 EST. Please see our terms for use of feeds.