Companies take a cut in the US with the rise in inflation: "It is a unique opportunity in decades"

1. elEconomista.es

American companies are experiencing an exceptional situation in almost every way. After years of slow movement, they are now paying higher wages, spending more on materials and absorbing record transportation costs, which in turn is increasing inflation indicators. Yet all of this data is also reporting some of its best gains in years.

Executives are seizing a once-in-a-generation opportunity to raise prices by matching and, in some cases, outpacing the increase in their costs, after decades of keeping prices in check in an environment of very low inflation, a report says published in The Wall Street Journal.

Industries from retail to biotech have seen their profits soar. Other industries, largely those that are still emerging from the covid crisis, such as travel, or those that are too overburdened with inflationary costs, have raised prices but have not seen an increase in profits or margins.

Mattress maker Sleep Number have announced three major price increases this year. Also Carrier Global, a manufacturer of heating and cooling equipment, which normally changes its prices once a year, this time it has done so three times.

Nearly two in three of Wall Street-listed companies have posted higher profit margins so far this year than in the same stretch of 2019, before the Covid outbreak, FactSet data shows. Nearly 100 of these giants have posted 2021 profit margins (the clean share the company keeps for every dollar that comes in) that are at least 50% above 2019 levels.

"Unprecedented environment"

"Honestly, this is an unprecedented environment. We haven't seen this in probably 30 years," said Glenn Richter, CFO of International Flavors & Fragrances, a supplier to large food companies.

Inflation is everywhere, in the newspapers, on TV, people are talking about it on the streets, and that makes it easier to discuss the price increase with customers, Richter says. IFF's profits increased during the last quarter compared to the same quarter two years ago. However, its net margin fell during the same period, but the company expects to increase its profit margins next year.

Margins are ultimately a percentage of the final price of goods and services. If the price of the products goes up, that same percentage also generates higher profits. That's why The Wall Street Journal experts say that profits and margins often rise with inflation. The risk for companies is that they overreach, raising prices faster than their competitors or more than customers tolerate, losing sales and market share that can take years to regain.

The risk for the economy is that price increases end up sinking into consumers and that they think that even more increases are coming, which would stimulate inflationary demand and trigger a vicious circle. For this reason, the time that inflation remains high is essential for politicians and economists, who must decide how to act as prices evolve.

Inflation is at a 31-year high. Americans are paying more for a variety of goods and services, including some staples: groceries, gas, rent and furniture. The CPI, a key economic gauge, posted a rate change in October of a 6.2% compared to the previous year. That was the fastest annual pace since 1990 and the fifth consecutive month of inflation above 5%.

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President Biden's administration has argued that inflation is temporary and has linked rising costs to the effects of the pandemic on supply chain heists and labor shortages.

Asked if prices would drop next fall, Treasury Secretary Janet Yellen said Sunday on CBS's 'Face the Nation' that "it really depends on the pandemic." The pandemic has been dominating the economy and inflation." The expert assured that if the problems related to the supply and demand of labor are normalized, prices could "return to normal" sometime next year.

Inflation could endure

However, some economists believe that some of this abnormally high inflation could persist for years to come. Prices that remain permanently above 2% (this magic rate of change for central banks) could force the Federal Reserve to raise interest rates earlier than expected and with greater intensity, which could slow down the growth.

"As long as you have a strong economy, companies are trying to grab a bigger piece of the pie," says Gregory Daco, chief US economist at Oxford Economics. "If they have a strong market position and strong demand, then they have the margin or the ability to raise prices."

Their data show that the profits of American firms as a percentage of gross domestic product in the second quarter of this year were the second highest since 1960. Higher prices are not the single factor driving profitability, say economists and executives.

Intensive demand for many types of goods, including computers, automobiles, and luxury items, has been a major driver of both economic growth and corporate profitability. As volume and fixed costs like rent and equipment increase, most businesses make more profit on each sale.

"The starting point is strong demand," explains Parag Thatte, strategist at Deutsche Bank. While some parts of the economy are still "sleepy," such as entertainment, transportation, and restaurants and hotels, three-quarters of the companies in the S&P 500, measured by market value, are in industries where production is significantly above pre-pandemic levels thanks to strong demand. "That has allowed companies to raise prices."

The maker of Coach bags and Kate Spade dresses has spent more money on air freight to secure stock for the crucial holiday season. Despite those additional costs, Tapestry has increased its year-to-date profit margin to 14.5% from 10.7% in 2019, FactSet data shows.

Price Going Up

"For Coach, going up in price isn't really about inflation," Todd Kahn, Coach's chief executive, told The Wall Street Journal. "It's all about reducing discounts," as well as emphasizing brand value for customers. A Tapestry spokeswoman acknowledges that operating margin was 19.9% ​​in the quarter ended September 21, compared with 12.3% in the same quarter of 2019.

Ametek, a maker of industrial instruments for aerospace, medical and other companies, says its price increases have more than offset the costs of supply chain bottlenecks and worker shortages this year.

"In the third quarter, our prices continued to more than offset inflation," CEO David Zapico acknowledged earlier this month in an earnings conference call. "We're going to be ahead of inflation and I expect that to be true next year as well."

Not Everyone Wins

Not all companies have been able to raise prices at the same rate as inflation. Profit margins at Carrier have narrowed to 8.7% this year from 11.9% in 2019 despite raising prices. From Carrier they have reported to The Wall Street Journal that their profit margins have decreased, but they hope to be able to increase them in the remainder of the year.

On the other hand, some economic indicators and investor sentiment suggest that demand is cooling off and, with it, the willingness of consumers and businesses to absorb price increases, says Daco of Oxford Economics. Once supply bottlenecks ease and consumer spending returns to normal, companies' ability to pass through costs and increase margins will be much less.

"Demand may cool off and supply may remain tight," warns Daco. For this reason, "we should not fall into the trap of projecting what we are experiencing today and assuming that it is the new normal".