Profits not dented by recovery’s slow pace
By Christopher S. Rugaber and Ken Sweet ASSOCIATED PRESS
WASHINGTON — Look at the U.S. economy, and you’ll notice an unusual disconnect. The economy is being slowed by a tight job market, scant pay raises and weak business investment. Yet corporate profits are reaching record highs and fueling record stock prices.
What gives? How are companies managing to earn so much money in a sluggish economy? And why aren’t their profits goosing the economy?
For starters, weak job growth has held down pay. And since the recession struck six years ago, businesses have been relentless in cutting costs. They’ve also stockpiled cash rather than make new products or add lines of business. And they’ve been earning larger chunks of their profits abroad.
All this is a recipe for solid profits and tepid economic growth. The economy grew at an annual rate of 1.8 percent in the first half of 2013. The unemployment rate is 7.2 percent, far above the 5 percent to 6 percent considered healthy.
Even so, corporate profits equaled 12.5 percent of the economy in the April-June quarter, just below a 60-year high reached two years ago. Profits of companies in the Standard & Poor’s 500 have nearly doubled since June 2009. Earnings appear to have risen again in the July-September quarter.
Big companies such as Kellogg, FedEx and Best Buy have been slashing costs in the face of slowing revenue. Their strategy has been working: Despite sluggish revenue, their profits are up.
Burger King’s sales dropped last quarter as competition intensified. Yet its earnings surged because it cut expenses and enjoyed growth abroad.
- “Corporations have more market power than workers have, and have kept wage growth to subdued levels,” said Dean Maki, an economist at Barclays. “That’s left more for corporate profits.”
Those solid earnings have helped boost stock prices. So has the Federal Reserve’s drive to keep long-term interest rates near record lows: Lower bond yields have led many investors to shift money out of bonds and into stocks, thereby boosting stock prices.
- The Dow Jones industrial average has jumped about 22 percent this year, closing at a record-high 15,961.70 on Friday.
“If we ended the year at these levels, it would be a phenomenal year,” said Bob Doll, chief equity strategist with Nuveen Asset Management.
Factors that economists cite for the gap between profits and growth:
- Flat pay
- Wages and salaries equaled just 42.6 percent of the economy in the April-June quarter, near a record low set in 2011.
- More than 8.5 million jobs were lost in the recession and its aftermath, leaving workforces leaner and more productive. Corporate revenue rose as the economy recovered.
- But workers have benefited little. With unemployment still high, they’ve had little leverage to demand higher pay.
- “We’ve just had a very lopsided economic recovery,” said Ethan Harris, an economist at Bank of America Merrill Lynch.
- Smaller paychecks have deprived Americans of money to spend. In the 30 years before the recession, consumer spending grew an average of 3.4 percent a year. Since 2010, just after the recovery began, it has risen just 2.2 percent a year.
- “If workers don’t have any money, businesses don’t have any customers,” said Nick Hanauer, an entrepreneur who has written about U.S. economic disparities.
- The stock market’s gains have boosted total U.S. household wealth. But they haven’t enriched most Americans. The wealthiest 10 percent of households own about 80 percent of stocks.
- Cost cutting
Last week, Kellogg said it would cut about 7 percent of its workforce — 2,200 jobs — by 2017. The cuts are part of a “global efficiency and effectiveness program,” the company said.
Even though Kellogg’s sales were flat in the July-September quarter compared with a year earlier, it squeezed out 2.5 percent more net income. A key factor: It cut administrative and borrowing costs. Its shares have risen 15 percent in the past year.
FedEx is cutting jobs, too. As its quarterly revenue rose 2 percent, its earnings grew 7 percent. The company has cut maintenance costs by replacing older aircraft with more fuel-efficient planes. The shift helped reduce maintenance costs 11 percent in the June-to-August quarter.
The average sales growth of an S&P 500 company was 2.35 percent in the first six months of 2013, down from 3.76 percent in 2012, according to S&P Capital IQ. The average profit margin for an S&P 500 company widened from 8.1 percent to 9.1 percent in the same period.
- Cash hoarding
Higher profits could help the economy if corporations plowed them back into new plants, equipment and other projects. That hasn’t happened.
- “Corporations have been extremely cautious in their spending in this recovery,” said Maki of Barclays.
Business spending on big-ticket items such as computers, industrial machinery and capital goods has remained about one-third below the average in previous recoveries, Harris estimates.
Instead, companies have stockpiled a record $1.8 trillion in cash, the Fed says, up nearly 10 percent since the recession ended in 2009. And thanks to the Fed’s drive to keep rates low, big companies have been able to borrow cheaply and replace their higher-cost debt.
All that has bolstered corporate finances and helped boost stock prices. Why are companies holding back?
Economists say chronic budget fights in Washington and Europe’s financial crisis have left executives reluctant to commit to big projects. So have the uncertain consequences of the Obama administration’s health-care law, said Mark Vitner, an economist at Wells Fargo Securities.
Rising international competition has lowered wages as a share of the economy in most developed countries, says the Organization of Economic Cooperation and Development, a research group in Paris. About one-tenth of the decline is because of competition from lower-wage countries, the group found.
Big U.S. companies are earning a larger share of their sales and profits abroad than in previous decades. That means their profits and stock prices can grow even when growth in the United States is weak.
Nearly half of all sales earned by companies in the S&P 500 index — 46.6 percent — are produced outside the United States. In 2003, the figure was 41.8 percent.
“It used to be that U.S. companies lived off the U.S. economy, and French stocks lived off the French economy,” said Aswath Damodaran, professor of finance at New York University’s Stern School of Business. “Now, stock markets are more reflections of the global economy.”
It seems to be a useless pursuit to await the conscience of American Corporations to begin to play fair, to recognize that America is based on so many equitable principles. Ain’t gonna happen.
Only Regulations and rule changes and tax code fairness are able to intercede so that ordinary people once again also have the right to follow their dreams and create a good life and have choice. But today all is stacked against the families across our nation. Enough already. If civil reorganization and common sense can’t survive the way things are now, then perhaps revolution is all that’s left. We are not lemmings. Be damned if we are all going to jump off the cliff because the power brokers don’t want to share the pie any more.
If I wasn’t witnessing this, I wouldn’t believe it to be possible. In retrospect one can actually observe all the stupid developments as they happened. Like Wall Street almost going under, being bailed out. . . . and the low cost of money (still), when only the wealthy can borrow – the rest of us have no way to pay a loan back, so we aren’t doing any borrowing. WOW, so this is the 21rst Century! . . .it really sucks. Jan)