There's plenty to be worried about when General Electric (GE) reports its second quarter earnings before the opening bell tomorrow.

This usually steady performer, which historically beat earnings estimates by a penny under former chief executive Jack Welch, in the first quarter tossed a hand grenade down the volcano that is now the stock market when it announced earnings from continuing operations of $4.4 bn or $0.44 per share, down a hefty 8% from the first quarter of  2007.

At $27, GE's shares have underperformed by a steep 20% below what they were trading at when Welch stepped down in September 2001.

There is a quality of earnings danger zone in GE's earnings. What flies under the radar screen of Wall Street analysts, as those who cover this manufacturing conglomerate tend to be industrial and not financial analysts, is the earnings engine that is GE Capital, an earnings engine that fuels GE's profits, but seems to be running at times on fumes.

GE pegged its first-quarter earnings belly flop, painfully short of analysts' estimates, on the credit crisis, namely, due to the markets turning suicidal last March after the Bear Stearns collapse.

Weeks before Bear imploded, GE's chief executive Jeffrey Immelt had given a robust outlook. After GE reported its first quarter results, the markets in short order punished its shares, and the company lost $45.7 bn in market value in just one day. The second quarter earnings consensus estimate says GE will earn 54 cents a share, up a penny from the same period in 2007.  

Don't be fooled by any big PR push from GE to toss the klieg lights on the steadier industrial side of its business, selling train locomotives, water treatment plants, wind turbines, light bulbs and the like.

Look beyond the news that GE now plans to spin off its entire consumer and industrial group. There is a reason why GE needs to make this divestiture. The overarching theme here is that GE's balance sheet looks pretty creaky.

A huge 40% of GE's revenue comes from the notoriously opaque black box that is GE Capital, its finance unit whose disclosures are as transparent as a vat of molasses. And this unit's revenue growth nearly flatlined in the first quarter, growing a teensy 3% to $18.1 bn versus the same period a year ago.

More specifically, GE Capital's deal making has a significant impact on GE's results.

The financial behemoth that is GE Capital, with $683.8 bn in assets, puts it in the league of the top ten largest financial companies in the country, behind Wachovia.

Behind GE's confession in the first quarter, where it said it got buffaloed by the credit crisis, is the fact that it can't readily get its GE Capital unit to unload and sell assets when the markets are in blackout mode.

Historically, GE's triple-A rating enabled GE Capital to borrow via cheap commercial paper and buy its way to profit growth, via acquisitions. Asset divestitures are key too.

But the last quarter was calamitous for GE, as it couldn't grease its numbers with instantaneous asset sales it's so used to doing to hit its numbers, or exceed by a penny, an earnings uptrick that seems to have been going on for years.

However, when it comes to Wall Street analysts, GE is an entity to be feared, oderint metuant, but a look at both GE and GE Capital's balance sheets shows some startling numbers.

First off, GE Capital has shoved into off-balance sheet vehicles a huge $54 bn in securitizations, assets backed by credit-card debt, commercial and residential financings, and equipment financings.

These vehicles get to sport GE's gold-plated triple-A rating, even though these assets are backstopped by a weak $2.7 bn in credit support. The vehicles come with triggers that force GE to pony up credit or buy them back, say, if a spike in defaults occurs. Putting them back on the balance sheet would wreck GE's already shaky debt to equity ratios even more.

GE Capital is levered to the ceiling. Teetering atop its teensy $57.7 bn in shareholders equity (or net worth) are $536.6 bn in short and long term borrowings, a sizable leverage ratio of about nine to one. The shareholders equity doesn't include the $54 bn in securitizations GE Capital has warehoused in off-balance sheet vehicles.

And check this out, look closely and you'll see a stunning 54% of GE Capital's net worth, a total $31.5 bn, is in mushy ephemera, goodwill and other intangible assets.

Goodwill and intangibles are often smoke and mirrors term, both somewhat of an accounting artifice, as they are typically the price tags given by accountants and actuaries to assets picked up in acquisitions, for things like the brains in an R&D operation, the future value of licenses and patents, and such. 

Remember, more than half of GE's shareholders equity, its book value is, well, your guess is as good as mine.

Moreover, GE Capital has about $14 bn in illiquid assets, the toxic Level 3 assets, that the company can't get a pricetag on because there is no market to mark them to. So they sit dormant waiting to be unloaded.

Same creakiness holds true for the parent, GE. GE recorded $115.7 bn in shareholders equity, but a whopping $99 bn of that was in goodwill and intangible assets, a huge 85.6%. Sitting precariously atop that book value are a breathtaking $547.8 bn in borrowings, a leverage ratio of five to one.

But seemingly without plumbing the depths of these mysteries, Standard & Poor's has given GE a triple A rating, an honor not given most other financial concerns and one conferred on GE Capital because its industrial parent backs its debts, (it also has an Aaa from Moody's).

GE desperately needs that triple-A rating so GE Capital can borrow cheaply in the commercial paper markets. GE Capital mints GE its money to do its acquisitions and divestitures to boost its earnings in the House that Jack built.

Only nine or so other companies enjoy a triple-A rating, last I checked (excluding supposedly government-backed companies such as Fannie Mae).

The list is: Berkshire Hathaway, ExxonMobil, Pfizer, American International Group, Bristol-Myers Squibb, Johnson & Johnson, Merck and United Parcel Services, and General Electric.

But back to that goodwill. Where did that goodwill come from?

Wandering through the impenetrable fogbank that is its disclosures, often feeling like they are written in the typefont of pharmaceutical warnings, GE Capital buries in a footnote this gem.

The "largest goodwill balance increases from acquisitions arose from the purchase of Merrill Lynch Capital" ($520 mn at GE Commercial Finance), among other items.

GE picked off Merrill's middle market lending business when Merrill started its asset fire sale last December, in the midst of record writedowns and the credit crisis bearing down on the markets. Included in this deal was Merrill Lynch Capital's corporate, equipment, energy and healthcare finance units, but not the commercial real estate unit.

Check to see whether Merrill's former unit delivers to GE's bottom line in the upcoming and future quarterly results.

The fact that GE is doing such purchases is important because chief executive Immelt made a first quarter promise to slash GE's exposure to the wobbly financial sector. With its murky, touchy balance sheet, GE's acquisitions in this environment need to be scrutinized.

And its asset sales too, so important for hitting its numbers, as GE could be elbowed out in a bum's rush to a very crowded exit door by Citigroup (C, Merrill Lynch (MER), JPMorgan Chase (JPM), Freddie Mac (FRE) and Bank of America (BAC), and just about any other financial services firm caught in the downdraft.

Like I said at the outset, investors in GE can't be happy, as shares are 20% or so below the price they were trading at when GE's former head Jack Welch stepped down--he being the executive who raised to an art form this just under the wire, limbo game of last minute asset sales to placate Wall Street.

Oh and by the way--the IRS is now auditing GE's tax returns for 2003 to 2005.