Corporate profits

In defense of high corporate profits

Over the past month, America’s largest companies reported earnings for the first quarter of the year. These quarterly reports provide as much insight into our economy as any of our leading indicators. And these results, if read correctly, once again highlight the bifurcated world we live in. Our gross domestic product is growing at around 2.5% per year for now, but that masks a big discrepancy, not between the 1% and the 99, but between what works and what doesn’t. What this earnings season demonstrates is that capital and corporations are thriving, along with tens of millions of people connected to those worlds, while labor and wages are not. But that is not how it is interpreted.

The consensus among investors and the financial media is that the quarter was something of a meltdown, as company after company reported only modest – and in many cases, non-existent – ​​revenue growth. ‘Revenue still lacking as companies beat profits’ yelled a USA today big titleand that sums up what most have said.

Super bearish economist Gary Schilling, quoted by the widely read and highly dismal blog Zero Hedge, put it bluntly: “Price power has been non-existent [and] increases in sales volume were very limited, so the only way to make a profit was to cut costs. This has pushed profit margins to all-time highs.” Take advantage now, says Schilling, because profit without revenue growth is “unsustainable”. The only reason markets are doing well and businesses aren’t panicking, it is thought, is because central banks are flooding the world with money.

At the same time, large companies have proven adept at generating substantial profits. It’s true now, and it’s been true for years. Since 2009, for example, the mega-corporations of the Standard and Poor’s 500 index have doubled their profits. Overall, companies haven’t fared as well because small businesses don’t have the same benefits, such as maintaining income overseas, various tax breaks, and sheer economies of scale. Even so, according to the Bureau of Economic Analysis, corporate America as a whole saw profits increase by more than 50% in those years.

But now, while big companies are still showing profit growth, revenues are almost at a standstill. This trend is widely seen as proof that trouble is brewing. Companies, especially publicly traded ones, face relentless pressure to generate earnings growth at all costs. With slower revenue growth, the only way for them to achieve this is to cut costs and do whatever they can to become more efficient, ranging from greater use of technology (and therefore less workers) to the reduction of wages and benefits, either by finding cheaper labor abroad or by reducing benefits and wages at home. In a world of slow revenue growth, this becomes more difficult. Said Jeffery Kleintop, chief market strategist at financial firm LPL, companies are going to struggle to cut enough spending to hit their profit targets. “When there’s no more fat to cut,” he says, “you start cutting muscle, then you cut bone.”

The problem with these views is that they are based on the belief that companies have revenue problems. This may be true for some companies in recent quarters. But that’s just not true on the whole.

Since 2009, when the global economy grew at less than 4% per year, on average, companies generated revenue growth at nearly double that rate. As for companies engaged in the most dynamic areas of our economic life – technology companies, innovative distribution companies, industrial companies – they have grown at an even faster pace. Also, the average growth rate is weighed down by financial companies, although on the whole this is a good thing, given how bloated and outsized the financial sector had become prior to 2009.

More importantly, while some companies have struggled to generate growth, over the past four years the sectors we would like to shrink are shrinking while the sectors that could materially improve our lives are booming. Financial services, some health care companies, coal and oil producers – these are the industries that have been challenged. The shrinking of these sectors is a good thing; you don’t want health care costs to eat up more of the national income (which is still a problem); you don’t want energy costs to crowd out other consumer spending; and you don’t want a bloated financial services industry. Meanwhile, Google, Amazon, eBay, Apple, Honeywell, United Technologies, Netflix, Target and so on – these have flourished. And they don’t thrive at the expense of society, whatever the rhetoric about inequality might suggest.

Yes, there is massive inequality, and average wages have stagnated in the United States and declined in much of the developed world. But that’s the average. In this framework, the wages of university graduates, skilled workers and residents of dynamic urban areas have increased rapidly and vigorously. Google wouldn’t generate nearly $60 billion in revenue this year unless millions of businesses large and small use banner ads and search to grow their businesses, and they can only spend that money because that their businesses are, in fact, expanding. eBay is growing by double digits because PayPal is booming, and it wouldn’t be booming without the millions of consumers who use it for payments.

The way we view corporate earnings is distorted through various negative lenses. One view is that macroeconomic growth defined by GDP is sluggish and slowing and businesses are about to slow much more than we think. According to another objective, the relative success of companies comes at the expense of whole sections of society. Neither lens takes into account that businesses are doing well because large swathes of the globe are booming, including significant numbers of people not only in China and the emerging world, but also in the United States. . This boom is not just a function of creative accounting and cost cutting. It is because so many people are doing very well in the world today, even though many people are struggling mightily.

Today’s economies are simultaneously meeting the needs of more people than ever before while not sufficiently meeting the needs of large numbers of people. This explains why so many companies are so spectacularly successful and why this trend is expected to continue for some time to come. They prosper because many prosper and because they bear little the burdens of the States which must meet the needs of those who do not prosper. Healing this split is one of the challenges of our time. Fortunately, successful businesses are the ones most likely to be part of these solutions.