Corporate profits get double boost in 2018, and Baldwin wants to stop them from being hoarded

I predicted on Wednesday that US economic growth would be revised down for the end of 2018, and turns out I was right.

The U.S. economy slowed more than initially thought in the fourth quarter, keeping growth in 2018 below the Trump administration's 3 percent annual target, and corporate profits fell by the most in a year.

Gross domestic product increased at a 2.2 percent annualized rate, the Commerce Department said in its third reading of fourth-quarter GDP growth on Thursday. That was down from the 2.6 percent pace estimated in February.

The economy grew at a 3.4 percent pace in the third quarter. The expansion will be the longest on record in July.

The revisions to the fourth-quarter GDP reading reflected markdowns to consumer and business spending, as well as government outlays and investment in homebuilding.

It’s still growth, but it’s also an indication that the sugar rush of the GOP’s Tax Scam is wearing off. Tomorrow’s combination of the February income and consumer spending report and the end of the quarter may make for an intriguing day on Wall Street, especially if it looks like things are slowing even more.

But what also grabbed my attention in the Bureau of Economic Analysis’ GDP report is that it had the first reading for Q4 2018’s corporate profits, which had been delayed due to the government shutdown in December and January. And as the article above alluded to, that number went down.

Profits from current production (corporate profits with inventory valuation and capital consumption adjustments) decreased $9.7 billion in the fourth quarter, in contrast to an increase of $78.2 billion in the third quarter.

In all, corporate profits declined in the 4th quarter of 2018 by 0.4%. But as that paragraph points out, this was a leveling off after good pre-tax growth of 3.0% and 3.5% in the previous two quarters, and profit levels were still 7.4% above where they were at the end of 2017.

Then you add in the GOP’s Tax Scam that cut corporate tax rates, and it means there is still a lot more cash flowing around these businesses than last year. And even though some of that money was given back to shareholders, there is still a lot more left over for the company to use (or hoard).

Post-tax profits and dividends, Q4 2018 vs Q4 2017
Post-tax profits +14.3% (+$259.4 billion)
Dividends +7.1% (+$84.7 billion)
Undistributed profits +28.1% (+$174.7 billion)

And yet we’re supposed to be breaking out the party hats for a 3.4% bump in hourly wages? Where’s the rest of that money going? Your answer: GOP politicians, CEO bonuses and record stock buybacks of more than $800 billion).

On that last topic of share buybacks, Wisconsin U.S. Senator Tammy Baldwin used this week to unveil what she calls the “Reward Work Act”. Baldwin’s bill would get rid of open-market stock buybacks, and require workers to be represented by 1/3 of the seats on a company’s board of directors.

Baldwin’s office also released a 30-page handout explaining the reasons behind the bill, and openly said that corporations were choosing stock buybacks over actual investment in their business.

EXHIBIT 10: Buybacks and Demand for Short-Term Results Have Led to Decreased Investment, Hurting Company Value

Analysis by the Roosevelt Institute has shown that while “firms once borrowed to invest and improve their long-term performance, they now borrow to enrich their investors in the short run.” The study found that, “in the 1960s and 1970s, each additional dollar of earnings or borrowing was associated with a 40-cent increase in investment. Since the 1980s, less than 10 cents of each borrowed dollar is invested.” A separate analysis by Roosevelt found that investment growth is very weak relative to that seen in previous business cycles and has been restrained by corporate preferences for shareholder payouts. A 2017 survey by Boston Consulting Group found “capital expenditure levels relative to revenues at a 20-year low, having dropped almost 20 percent between 1995 and 2015.” The consultancy found that companies that are valued in the top third of their industry groups “invest approximately 50 percent more in capital expenditure than their peers and achieve approximately 55 percent higher returns on assets, and approximately 65 percent higher sales growth.”

EXHIBIT 11: Stock Markets Pull Trillions out of Public Companies with Buybacks According to Worm Capital, between 2010 and 2016, “over $3 trillion in cash has been taken from corporate accounts and sent to the stock market for buybacks, generating zero tangible benefit for stakeholders—mainly shareholders.” Over the period 2014 to 2016, the 30 companies in the DJIA spent an average of 126 percent of their income on dividends and buybacks. General Electric spent 354 percent of its income on buybacks and dividends, which has no doubt contributed to its decline.

EXHIBIT 12: Stock-Based Pay Is Warping Corporate Decision-Making
A study that surveyed 401 financial executives found that “the majority of managers would avoid initiating a positive [net present value] project if it meant falling short of the current quarter’s consensus earnings target.” Similarly, over 75 percent of those surveyed would forgo creating economic value in exchange for “smooth earnings.” The managers said that because predictable earnings drive higher share prices (which trigger bonus payments), achieving earnings predictability was preferable to improving the firm’s performance.

Baldwin’s office also says that because so many companies are borrowing to pull off these stock buybacks, it is creating a corporate debt bubble that is growing faster than GDP growth.

Maybe the recent plummeting of long-term interest rates will keep these corps’ debt costs down for a while, but if those lower rates also mean a recession and an end to the Tax Scam’s earnings bubble, that’s still a bad situation. On the flip side, if you listen to some of the coke fiends on Wall Street, they want the Fed to lower rates so another bubble comes along, no matter how destructive that might be for the real world.

It’s pretty evident that as 2018 ended, the balance sheets for corporations might have been better, but the real economy was slowing down, and is badly in need of legitimate growth from somewhere to keep our near-record expansion going. 1 year after the GOP’s Tax Scam became law, it’s obvious that not much of the massive gains that large shareholders and CEOs collected for themselves were trickling their way down to everyday Americans, but it’s the everyday Americans who are now writing checks to the IRS as a result of this scam.

We need more Tammy Baldwins to tell the truth and level the field, as an economy based on paper-trading is one that’s not going to be sustainable. And once that economy inevitably declines, real people will end up getting hurt as a result of the greed of the elite few in corporate boardrooms, and their puppets in Congress who rely on their donations to keep their phoney-baloney jobs.