Per Bloomberg, “U.S. companies are the most profitable in more than 40 years”. In Q3 this year margins of non-financial companies reached 15%, which was the highest level since 1969. Right now this is a great thing; however, the question the article proposes is whether or not this is sustainable.
To answer that, I think we need to look at why margins are high. I have ranked the answers below by what I feel is most likely to continue:
- High unemployment keeps labor costs down
- Low cost of money
- Business are investing in technology, increasing productivity
- Sales to emerging markets help stabilize revenue
- A surge in government spending
I think 1, 2, and 3 are in a tie for longevity. It is hard to see unemployment dropping dramatically, interest rates raising much, and/or improvement in technology not being implemented. Number 4, I think is trick: in the short-term there could be some danger here, but in the long-run emerging markets should consume more and more. Number 5, I think, will evaporate soon given the focus on cutting the deficit.
This leaves me with the following conclusions:
- Margins probably won’t be expanding as costs can’t be cut further, but could stay higher in the near-term given structural issues.
- Longer-term margins are likely to contract given mean reversion and structural issues correcting.
- This could be offset by top-line growth, which will be the most important part of keeping margins elevated.
