(Zachary Karabell is a Reuters columnist but his opinions are
his own.)
By Zachary Karabell
May 1 (Reuters) – Over the past month, America’s largest
companies reported their 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, highlight once again the bifurcated world we
live in.
Our gross domestic product is growing about 2.5 percent a
year for now, but that masks a vast divergence, not between the
1.0 percent and the 99.0 percent but between what works and what
does not. What this earnings season demonstrates is that capital
and companies 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 being interpreted.
The consensus among investors and the financial media is
that the quarter was something of a bust, as company after
company reported only modest, and in many cases non-existent,
revenue growth. “Revenue still missing as companies beat
earnings,” blared a USA Today headline, and that encapsulates
what most have said.
The uber-bearish economist Gary Schilling, cited by the
widely-read uber-gloomy blog Zero Hedge, put it bluntly:
“Pricing power has been non-existent sales volume
increases have been very limited so the only route to profit has
been cutting costs. That has pushed profit margins to all-time
highs.”
Enjoy it now, says Schilling, because profit without revenue
growth is “unsustainable.” The only reason markets are doing
well and corporations aren’t panicking, the thinking goes, is
because central banks are flooding the world with money. At the
same time, large companies have proven adept at generating
substantial earnings. That is true now, and it has been true for
years.
Since 2009, for instance, the mega-companies of the Standard
and Poor’s 500-stock index have doubled their profits. Companies
overall haven’t done quite as well because small companies don’t
have the same advantages, such as keeping income offshore,
assorted tax breaks and pure economies of scale. Even so,
according to the Bureau of Economic Analysis, U.S. corporations
overall have seen their profits grow more than 50 percent during
these years.
But now, while larger companies are still showing earnings
growth, revenues have been 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 earning growth at all costs. With slower revenue
growth, the only way they can do that is to cut costs and do
whatever they can to become more efficient, from greater use of
technology (and therefore fewer workers) to cutting wages and
benefits, either by finding cheaper labor abroad or by cutting
benefits and wages domestically.
In a world of slow revenue growth, that becomes harder. Says
Jeffery Kleintop, chief market strategist of the financial firm
LPL, companies are going to have a hard time eliminating enough
expenses to hit earnings targets. “When there’s no more fat to
cut,” he says, “you start to cut muscle, and then you’re cutting
bone.”
The problem with these views is they rest on the belief that
companies are revenue-challenged. That may be true for some
companies over the past few quarters. But it simply isn’t true
overall.
Since 2009, while the global economy has grown less than 4.0
percent per year, on average, companies have generated revenue
growth at almost twice that rate. As for companies engaged in
the more dynamic areas of our economic lives, such as technology
companies, innovative retail companies, and industrial
companies, those have grown at an even faster clip. What’s more,
the average rate of growth is weighed down by financial
companies, though overall that is a good thing, given how
bloated and outsize the financial industry had become before
2009.
More important, while some companies are finding it hard to
generate growth, over the past four years the sectors we would
want to shrink are shrinking while the sectors that stand to
materially improve our lives have been booming.
Financial services, some healthcare companies, coal and oil
producers – those are the industries that have been challenged.
The shrinkage of these sectors is a good thing. You don’t want
healthcare costs eating up larger portions of national income
which remains a problem. You don’t want energy costs crowding
out other consumer spending, and you don’t want a bloated
financial services sector.
Meanwhile, Google, Amazon, eBay, Apple, Honeywell, United
Technologies, Netflix, Target and on and on have thrived. And
they’re not thriving at the expense of society, whatever the
rhetoric about inequality would suggest.
Yes, there is massive inequality, and average wages have
stagnated in the United States and decreased in much of the
developed world. But that is the average. Within that, wages for
the college-educated, for the skilled and for residents of
dynamic urban areas have been growing rapidly and robustly.
Google would not be generating almost $60 billion in revenue
this year unless millions of businesses large and small were
using banner ads and search to expand their businesses, and they
can only spend that money because their businesses are, in fact,
expanding. EBay is growing at double-digit rates because PayPal
is booming, and it wouldn’t be booming without those millions of
consumers using it for payments.
How we view corporate earnings is being distorted through
various negative lenses. One lens says macroeconomic growth
defined by GDP is slow and getting slower and companies are
about to slow down far more than we think. Another lens says the
relative success of companies is coming at the expense of
substantial swaths of society. Neither lens allows for the fact
that companies are doing well because vast swaths of the globe
are booming, including substantial numbers of people not just in
China and the emerging world but also in the United States. That
boom isn’t just a function of creative accounting and cost
cutting. It’s because so many are doing quite well in the world
today even as many people struggle mightily.
The economies of today are simultaneously serving the needs
of more people than ever while failing to provide sufficiently
for vast numbers of people. That explains why so many companies
are succeeding so spectacularly, and why that trend is likely to
continue for quite some time. They thrive because many are
thriving, and because they bear few of the burdens of states
that must provide for those who are not thriving. Healing that
split is one of the challenges of our day. Thankfully, the
thriving companies are the ones are most likely to be part of
those solutions.
(Zachary Karabell is president of River Twice Research and
River Twice Capital. A regular commentator on CNBC and a
contributing editor for Newsweek/Daily Beast, he is the coauthor
of “Sustainable Excellence: The Future of Business in a
Fast-Changing World” and “Superfusion: How China and America
Became One Economy and Why the World’s Prosperity Depends on
It.”)
(Zachary Karabell)
